The key point is that while the advocates of austerity pose as hardheaded realists, doing what has to be done, they can’t and won’t justify their stance with actual numbers — because the numbers do not, in fact, support their position. Nor can they claim that markets are demanding austerity. On the contrary, the German government remains able to borrow at rock-bottom interest rates.
So the real motivations for their obsession with austerity lie somewhere else.
In America, many self-described deficit hawks are hypocrites, pure and simple: They’re eager to slash benefits for those in need, but their concerns about red ink vanish when it comes to tax breaks for the wealthy. Thus, Senator Ben Nelson, who sanctimoniously declared that we can’t afford $77 billion in aid to the unemployed, was instrumental in passing the first Bush tax cut, which cost a cool $1.3 trillion.
German deficit hawkery seems more sincere. But it still has nothing to do with fiscal realism. Instead, it’s about moralizing and posturing. Germans tend to think of running deficits as being morally wrong, while balancing budgets is considered virtuous, never mind the circumstances or economic logic. “The last few hours were a singular show of strength,” declared Angela Merkel, the German chancellor, after a special cabinet meeting agreed on the austerity plan. And showing strength — or what is perceived as strength — is what it’s all about.
There will, of course, be a price for this posturing. Only part of that price will fall on Germany: German austerity will worsen the crisis in the euro area, making it that much harder for Spain and other troubled economies to recover. Europe’s troubles are also leading to a weak euro, which perversely helps German manufacturing, but also exports the consequences of German austerity to the rest of the world, including the United States.
But German politicians seem determined to prove their strength by imposing suffering — and politicians around the world are following their lead.
How bad will it be? Will it really be 1937 all over again? I don’t know. What I do know is that economic policy around the world has taken a major wrong turn, and that the odds of a prolonged slump are rising by the day.
An urgency to rein in budget deficits seems to be gaining some traction among American lawmakers. If so, it is none too soon. Perceptions of a large U.S. borrowing capacity are misleading.
Despite the surge in federal debt to the public during the past 18 months—to $8.6 trillion from $5.5 trillion—inflation and long-term interest rates, the typical symptoms of fiscal excess, have remained remarkably subdued. This is regrettable, because it is fostering a sense of complacency that can have dire consequences.
How much borrowing leeway at current interest rates remains for U.S. Treasury financing is highly uncertain.
We cannot grow out of these fiscal pressures. The modest-sized post-baby-boom labor force, if history is any guide, will not be able to consistently increase output per hour by more than 3% annually. The product of a slowly growing labor force and limited productivity growth will not provide the real resources necessary to meet existing commitments.
Only politically toxic cuts or rationing of medical care, a marked rise in the eligible age for health and retirement benefits, or significant inflation, can close the deficit. I rule out large tax increases that would sap economic growth (and the tax base) and accordingly achieve little added revenues.
It is little comfort that the dollar is still the least worst of the major fiat currencies. But the inexorable rise in the price of gold indicates a large number of investors are seeking a safe haven beyond fiat currencies.
The United States, and most of the rest of the developed world, is in need of a tectonic shift in fiscal policy. Incremental change will not be adequate.
I do not believe that our lawmakers or others are aware of the degree of impairment of our fiscal brakes. If we contained the amount of issuance of Treasury securities, pressures on private capital markets would be eased.
Fortunately, the very severity of the pending crisis and growing analogies to Greece set the stage for a serious response. That response needs to recognize that the range of error of long-term U.S. budget forecasts (especially of Medicare) is, in historic perspective, exceptionally wide. Our economy cannot afford a major mistake in underestimating the corrosive momentum of this fiscal crisis. Our policy focus must therefore err significantly on the side of restraint
I believe Greenspan is flat wrong - just as he was in 2001 when he Greenspan spoke of "an on-budget surplus of almost $500 billion ... in fiscal year 2010". Greenspan offered a projection of "an implicit on-budget surplus under baseline assumptions well past 2030 despite the budgetary pressures from the aging of the baby-boom generation, especially on the major health programs." I argued Greenspan was wrong then, and I believe he is wrong now.I believe the focus right now needs to be on jobs, jobs and jobs.
If the mortgage meltdown taught us anything, it was how little anybody knew about the interplay between housing prices, bad mortgages, securitization, credit-default swaps and off-balance-sheet financing vehicles. Not even the most prescient critics of the housing bubble like Robert Shiller or Dean Baker had any idea of how subprime mortgages would ripple through the global economy.
Today, we're still in utterly uncharted territory, and we're doing things we never imagined before. So far, the results have been better than we dared hope. But let's not fool ourselves about how smart we are.
We need insurance. We need to plan for the possibility of getting our next move wrong. I agree with Calculated Risk that Greenspan is flat wrong about the need to slam the brakes on spending right now. But we need to recognize that there's a non-trival risk of a bond-market rebellion.
On this point, look up Bruce Bartlett's very smart recent warnings on two points. First, the U.S. is much vulnerable than most people think to a ratings downgrade on Treasuries, a move that would probably cause a long-term spike in interest rates Second, that right-wing Republicans and Tea Partiers could in their ignorance trigger an actual default by refusing to approve an increase in the government's legal debt ceiling.
What would an insurance plan look like? At a minimum, it would include a credible plan for reducing long-term deficits. It would require targets for government spending and revenues. If I were king, the plan would allow for another round of stimulus spending but call for real belt-tightening around 2015. It would include agreements to limit future entitlements, limit our military ambition, rein in health care costs and increase tax revenues. And it would include back-up options, triggers to shift policy in case the economy performs better or worse than expected.
Again, there are too many things that are unpredictable or unknowable. Surprises are inevitable on the upside and the downside. Instead of pretending we know it all, wouldn't it be better to plan based on a range of risks?
Andrews actually goes further in his own scaremongering than even Greenspan does:Look up Bruce Bartlett’s very smart recent warnings on two points. First, the U.S. is much vulnerable than most people think to a ratings downgrade on Treasuries, a move that would probably cause a long-term spike in interest rates Second, that right-wing Republicans and Tea Partiers could in their ignorance trigger an actual default by refusing to approve an increase in the government’s legal debt ceiling.
A ratings downgrade on the US simply isn’t going to happen: the ratings agencies need the US to be triple-A more than the US needs to be triple-A. And they have very good reason to keep the US where it is, for reasons explained by Greenspan:
The U.S. government can create dollars at will to meet any obligation, and it will doubtless continue to do so. U.S. Treasurys are thus free of credit risk.
The logic here is the foundation for everything the ratings agencies do: their business is based upon the idea that Treasuries are risk-free, and that all other debt instruments can be placed at some point on a one-dimensional spectrum, where they’re riskier the further they are from Treasuries. In reality, of course, debt dynamics in general, and Treasuries in particular, are much more complicated than that. But the ratings agencies will be the last to admit it: it’s their job to oversimplify and to breed complacency, which is the one part of their job that they’re very good at.
As for the possibility of a technical default caused by a 1994-style refusal to raise the debt ceiling, I’m skeptical: Treasury has all manner of rabbits in various hats that it can pull out to keep paying coupon payments through a legislative crisis, even (especially) if much of the federal government has been shut down. Besides, any technical default would be a bit like the technical default by Fannie and Freddie: no one really minded very much, because they knew that they would end up getting paid in full.
So yes, Andrews is right that it’s a great idea to start putting together a long-term plan for dealing with the deficit, which is very much in unsustainable territory. I’m quite sure that Krugman would agree with him on that front. But my feeling is that the best way to put together such a plan is to start coming up with new revenue sources, such as a carbon tax / cap-and-trade system, or a financial-transactions tax. The more income streams that Treasury has, the less likely we are to see any kind of market panic.
At Capital Gains and Games, Edmund Andrews wants to write:
- Alan Greenspan is flat-out wrong in his demand for immediate fiscal contraction.
- Alan Greenspan cannot find even a shred of evidence to support his claims.
- In fact, we need not less but more fiscal stimulus--Andrews does write: "If I were king, the plan would allow for another round of stimulus spending but call for real belt-tightening around 2015..."
- And then, sometime between 2015 and 2020, we need to focus on starting the process of gradually raising taxes and capping spending in order to deal with America's federal health program spending-driven large long-run fiscal imbalance.
This is a smart thing to write. This is what I believe. This is what Paul Krugman believes.
But it turns out, it is not what Ed Andrews writes.
What he writes is, instead:
Alan Greenspan v. Paul Krugman: Paul Krugman and Alan Greenspan came out with dueling op-eds Friday about budget deficits gone wild. Krugman: we're slitting our wrists by trying to slash our deficits now. Greenspan: cut spending now, right now, and don't worry your pretty little head about a double-dip recession. Neither was convincing... the fiscal debate has become so polarized that combatants on both sides are glossing over what they don't know...
And so my reaction is "Huh?!"
Why does Andrews say Krugman was not convincing? Krugman was completely convincing--Andrews agrees with him.
Indeed, compare Andrews's assessment of Greenspan:
Greenspan's one piece of empirical evidence about a looming panic over deficits is incredibly thin. He can't cite any flight from Treasuries.... He can't point to inflation.... And he sure can't cite evidence of an overheated economy. So he cites a really obscure derivative indicator called the "swap spread"... that tells you... investors expect interest rates to climb.... Well, duh.... Pricing that assumption into swap spreads hardly makes them a sign of panic over government spending. Greenspan is fear-mongering.... Greenspan is flat wrong about the need to slam the brakes on spending right now...
To Krugman's--significantly more polite--assessment of arguments similar to Greenspan's made by Germans in Berlin:
What’s the economic logic behind the government’s moves? The answer, as far as I can tell, is that there isn’t any. Press German officials to explain why they need to impose austerity on a depressed economy, and you get rationales that don’t add up. Point this out, and they come up with different rationales, which also don’t add up. Arguing with German deficit hawks feels more than a bit like arguing with U.S. Iraq hawks back in 2002: They know what they want to do, and every time you refute one argument, they just come up with another...
Same thing. Except where Andrews says "flat wrong" Krugman says "don't add up."
But Andrews writes, of Krugman's version of Andrews's own argument:
Krugman isn't convincing either.... [H]e can't believe that those fusty German deficit hawks are so frightened of a market rebellion that they're cutting spending and raising taxes.... German fiscal hawks aren't crazy. The markets can panic.... No one knows where the tipping point between acceptance stops and panic kicks in...
Why is Andrews's argument that Greenspan is off-base no longer right but "not convincing" when Krugman makes it? Andrews tries to explain:
We need to plan for the possibility of getting our next move wrong.... [W]e need to recognize that there's a non-trival risk of a bond-market rebellion.... [T]he U.S. is much vulnerable than most people think to a ratings downgrade... a move that would probably cause a long-term spike in interest rates...
But this recognition isn't a substantive difference with Krugman, who has written:
[W]hat about the possibility of a [bond market] squeeze, in which rising rates for whatever reason produce a vicious circle of collapsing balance sheets among the carry traders, higher rates, and so on? Well, we’ve seen enough of that sort of thing not to dismiss the possibility. But if it does happen, it’s a financial system problem — not a deficit problem. It would basically be saying not that the government is borrowing too much, but that the people conveying funds from savers, who want short-term assets, to the government, which borrows long, are undercapitalized. And the remedy should be financial, not fiscal.... Whatever you do, don’t undermine recovery by calling off jobs creation...
And so I say "huh?!" once again.
Perhaps Andrews has a difference with Krugman on policy? Andrews does go on:
What would an insurance plan look like?... a credible plan for reducing long-term deficits... agreements to limit future entitlements, limit our military ambition, rein in health care costs and increase tax revenues... back-up options, triggers to shift policy in case the economy performs better or worse than expected...
To which I cannot help but remember Paul Krugman:
Even a full economic recovery wouldn’t balance the budget.... So once the economic crisis is past, the U.S. government will have to increase its revenue and control its costs. And in the long run there’s no way to make the budget math work unless something is done about health care costs...
And say, once again, "huh?!" I really don't see a substantive difference between Andrews and Krugman.
So what is going on here?
I think what is going on here is that Edmund Andrews acquired bad habits working for the New York Times that he has not yet managed to shed.
Andrews thinks that he is not a serious person if he writes:
- Alan Greenspan is flat-out wrong in his demand for immediate fiscal contraction.
- Paul Krugman is quite right in his urging more fiscal expansion.
- And then, sometime between 2015 and 2020, we need to focus on raising taxes and capping spending in order to deal with the federal health program spending-driven long-run fiscal imbalance.
That wouldn't be neutral, that wouldn't be balanced, that wouldn't be something a serious person would say, that would be ideological.
So, Andrews thinks, if he is going to agree with Krugman on everything substantive--which he is--he must first kick Krugman in the teeth. And he must never say that he is, on the substance, agreeing with Krugman.
That wouldn't be balanced.
Now perhaps this is a sound rhetorical strategy on Andrews's part. Perhaps it gets him a reputation as a Serious Person who Does Not Agree with Hippies and Who Can Be Trusted.
I think not. I think that this type of piece tends to get two types of readers:
The ones who skim the beginning--and who take away the lesson "Andrews says that neither Greenspan nor Krugman was convincing" and then things got too complicated to remember. Andrews has served this fraction of his readership badly: they leave thinking that the equities are balanced between Greenspan and Krugman, which they are definitely not.
The ones who read to the end--and who say: wait a minute: Andrews agrees with Krugman that (i) we need more expansionary fiscal policy now and (ii) we need to tackle our long-run health spending-driven budget problems. They then ask themselves: why did he confuse us and make us work harder than we had to to get to his bottom line? They leave somewhat annoyed, feeling as if they have been the victims of a game of hide-the-ball.
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