March 4, 1:00 am.
Barack Obama may do very well today in the close race with Hillary Clinton. But unfortunately from my Keynesian perspective he appears to have received some bad advice from the economics professor at the University of Chicago who is apparently advising him on matters economic.
Austan Goolsbee, Professor of Economics at the University of Chicago who is at the centre of a different controversy over what he did or did not tell Canadian embassy officials about Senator Obama's intentions with respect to NAFTA has some very conventional fiscally conservative views about deficits which he articulated in a policy paper for the Progressive Policy Institute in April 2007 with the title Why Deficits Do Matter.
It is the usual laundry list of misleading and statistically unsupported claims about the burden on future generations, the excessive reliance upon foreign buyers of the debt including the Chinese and the Arab oil producers, the largely false claim that deficits have unfair distributional consequences and the near absurd but commonly resorted to claim that deficits today when they are not needed may make deficits tomorrow when they might really be needed impossible.
Without wishing in any way to interfere with tomorrow's primaries - not a real worry since initially virtually no one is going to read this other than my few loyal customers who I am of course thrilled to welcome at all times- allow me to dispose of his arguments . They are all sadly familiar ones.
First of all he fails to point out the actual relative size as a percentage of the GDP of the deficits that he speaks about. Owing Chinese buyers of the debt 350 billion dollars sounds like a lot of money until you realize that the total debt outstanding is close to 30 times larger and the GDP some 40 times larger.350 billion dollars is a relatively small amount in a 14 trillion dollar economy.
The current 168 billion dollar deficit package is about 1.1 % of the American GDP. The deficit in the war years 1942-45 rose above 30 % of the GDP and the debt above 100 % of the GDP.
The deficit was 30.3 % of the GDP in 1943; 22.7 % of the GDP in 1944; 21.5 % of the GDP in 1945.
Furthermore, the vast bulk of the American debt is financed domestically in American $ denominated debt instruments.A significant portion of that 33.6 % is financed by loans from government pension funds, purchases of debt by the Federal Reserve and other Federal and state government institutions.In 2006 the Fed held 5.9 % of the debt, other government institutions 27.7 %.
The precise proportion financed by foreign buyers will vary as interest rates vary according to monetary policy established by the Fed and with the ebb and flow in attraction to US dollar assets.It is currently 26.1 % .The exact amounts owned as of December 2007 of the top twenty foreign buyers is given below at the end of the piece.
In the case of debt owed to Middle Eastern oil producers, some 100 billion is the figure he uses, its relative size is three times smaller or about 1/140 of the total GDP and 1/ 87 of the debt.
Most of the debt is financed by American savers.A large chunk of it forms the asset base of Government pension plans.
The US Federal Reserve holds a much larger chunk than the Chinese.
Second, the distributional consequences of the debt are quite the opposite of what Goolsbee believes to be the case. There are very large numbers of middle and lower middle class people who buy and hold government debt instruments and earn interest on them.
No less a figure than one of the leading US government debt management officials, Frances X. Cavenaugh has pointed this out in detail in a book that he wrote on his retirement in 1995 on the debt:
The truth about deficits and debt: 5 myths and one reality.
Cavanaugh reports on a Treasury study completed in 1984 entitled "Ownership of and Interest Payments on the Public Debt" (p.154 note 1&2; p.64) which concluded after studying the issue " Thus we find no basis for the belief that interest payments on the public debt lead to greater inequality in the distribution of income." He goes on to report the study's finding that the distribution of income from interest is more progressive than the distribution of the federal income tax burden and reproduces a Lorenz curve showing this fact based on data drawn from US Internal Revenue and the Treasury department(fig. 5-1 p. 65)
.The treasury study concluded: " The data provide no evidence to support the suggestion that there is a significant class of people living off interest payments, whatever the source.
Also since the upper income groups pay more of the total personal income tax than they receive of total interest payents the data does not support the thesis that there is a distributional effect from lower income groups to higher income groups because of an increase in the internal debt outstanding." (p.66) Other studies based on later data from the 1990s show that interest on the national debt is widely distributed among the middle classes. (p.67)
Cavenaugh concludes his chapter on the myth of the inequitable interest burden as follows. "To sum up there is no basis for the widely held view that interest on the public debt is paid to investors who are much wealthier than the average tax payer, who gets stuck with the interest bill.
Treasury securities are held largely by government and other institutional investors who hold them for the benefit of average middle income people. Indeed, the distribution of interest payments on the public debt appears to be much more democratic than the federal income tax system itself. (p.68 )
So contrary to the conventional wisdom,government debt does not have negative distributional effects at least up to 1995.
But unemployment and recessions certainly do.
In addition , of course to the extent that deficits lead to lower unemployment and better education and public services because of the investments associated with them they also have a distributional impact in favour of the poor and middle class citizenry.
Thirdly Goolsbee claims also wrongly that deficits impose a burden on future generations. He is quite pointed in claiming that the baby boomers benefit by imposing major claims on the health care system and society generally, conveniently forgetting that it is the baby boomers and the generations before them that have built the society and infrastructure that later generations will inherit and also foolishly overlooking the fact later generations inherit the debt but they also inherit the assets of the previous generation including the bonds that have financed it and the infrastructure that is financed by it and the jobs and income flows that flow from it.
Finally, the argument that deficits today make it more difficult to have and finance them tomorrow is historically inaccurate if one examines the data from 1930 to the present.
If one followed Goolsbee's advice and did not resort to them when faced by the kind of economic downturn that America now faces you would simply compound the problem tomorrow causing greater hardship and permitting the amplitude of the business cycle downturn to be deeper and hysterisis( that is the long term effects of unemployment on job seekers) graver.
As well one should understand that it is Fed policy that strongly shapes prevailing interest rates . Crowding out does not occur in a slow growth or recessionary environment where pessimism reigns. Quite the opposite occurs as the fiscal and monetary stimulus does its work to change expectations and draw in new investments that turns the cycle upwords again.
I could go on.
But I wish both Senators Clinton and Obama and Senator McCain and Governor Huckabee and even Ron Paul as well as Ralph Nader(if he is out campaigning) well and hope when they have some time they pose some tough questions to their economic advisors about deficits, debt and fiscal and monetary policy and ask them how far back their reading goes and where is the data to support their arguments.
And finally just what would they have advised President Roosevelt in 1933 ?
The leading twenty foreign lenders to the U.S. as of Dec. 2007
Japan 581.2 billion
China 477
UK 157
oil producing
countries
Brazil 129
Carib. bnk
centres 116.7
Luxembourg 69.7
Hong Kong 51.1
Germany 41.7
Singapore 39.8
Korea 39.2
Switzerland 38.9
Taiwan 38.2
Mexico 34.5
Russia 32.7
Thailand 27.4
Norway 26.2
Turkey 25.6
Ireland 18.7
Canada 18.1
Grand total including
several other smaller lenders $ 2,353.8 billion
source: US Treasury
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