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Sunday, August 07, 2011 2:13 AM


Decade of Stimulus Yields Nothing But Mountain of Debt; What to Do About It?


Is there any kind of stimulus the US did not try in the last 10 years?

  1. We had 1% interest rates from Greenspan fueling housing.
  2. We had wars from Bush and Obama fueling defense industry employment.
  3. We had two rounds of Quantitative easing from the Fed.
  4. We had cash-for-clunkers.
  5. We had two housing tax credit packages.
  6. We had an $800 billion stimulus package from Congress for "shovel-ready" projects.
  7. We had stimulus kickbacks to states.
  8. We had HAMP (Home Affordable Mortgage Program).
  9. We had bank bailouts out the wazoo to stimulate lending.
  10. We had Small Business lending programs.
  11. We had central bank liquidity swaps.
  12. We had Maiden Lane, Maiden Lane II, and Maiden Lane III
  13. We had Single Tranche Repurchase agreements
  14. We had the Citi Asset Guarantee
  15. We had TALF, TARP, TAF, CPFF, TSLF, MMIFF, TLGP, AMLF, PPIP, and PDCF
  16. We had so many programs the Fed must have run out of letters because they were not given an acronym.


That is a partial list. Other than bailing out bondholders what exactly do we have to show for any of it? The one-word answer is "debt".

Decade of Stimulus Yields Nothing But Debt

Bloomberg's Caroline Baum wrote an excellent article on this theme. It was so good I asked if I could reproduce it in entirety.

With permission please consider Decade of Stimulus Yields Nothing but Debt: Caroline Baum
When George W. Bush took up residence in the White House in January 2001, total U.S. debt stood at $5.95 trillion. Last week it was $14.3 trillion, with $2.4 trillion freshly authorized by Congress Tuesday.

Ten years and $8.35 trillion later, what do we have to show for this decade of deficit spending? A glut of unoccupied homes, unemployment exceeding 9 percent, a stalled economy and a huge mountain of debt. Real gross domestic product growth averaged 1.6 percent from the first quarter of 2001 through the second quarter of 2011.

It doesn’t sound like a very good trade-off. And now Keynesians are whining about discretionary spending cuts of $21 billion next year? That’s one-half of one percent. And it qualifies as a “cut” only in the fanciful world of government accounting.

The Budget Control Act of 2011 will save $917 billion over 10 years relative to the Congressional Budget Office’s baseline. It leaves the tough work to a bipartisan congressional committee of 12, to be appointed by the leadership in each house. If this supercommittee fails to agree on a minimum of $1.2 trillion of additional savings over 10 years, automatic spending cuts -- evenly divided between defense and nondefense -- will kick in.

Is there any reason to think the same folks who couldn’t agree on a grand bargain this past month will join hands and find commonality in the next three, with one month off for vacation?

Rosy Scenario

Even if the committee agrees on the prescribed savings by Nov. 23 and Congress enacts them by Dec. 23, as required, laws passed today aren’t binding on future congresses.

Throw in the fact that revenue and budget forecasts tend to be overly optimistic, and there’s even less reason to think Congress has put the U.S. on a sound fiscal path.

In a July 2011 working paper for the National Bureau of Economic Research, Harvard economist Jeffrey Frankel identified a pattern of over-optimism in official forecasts, a bias that gets bigger in outer years. (Who can forget the CBO’s 2001 estimate of a 10-year, $5.7 trillion budget surplus?) A fixed budget rule, such as the euro area’s Stability and Growth Pact with its mandated deficit-to-GDP ratios, only exacerbates the tendency.

“Political leaders meet their target by adjusting their forecasts rather than by adjusting their policies,” Frankel writes.

First Installment

The deal hashed out in Washington at the eleventh hour this week does nothing to curb the unsustainable growth of entitlement spending -- on programs such as Medicare, Medicaid and Social Security. Medicare outlays have risen 9 percent a year for the last 30 years in a period of stable demographics, according to Steven Wieting, U.S. economist at Citigroup Inc. The automatic spending cuts outlined in the budget act would limit reductions in Medicare expenditures to no more than 2 percent a year.

By the end of 2012 or start of 2013, the federal government will be back at the trough with a request for additional borrowing authority. The debt will keep rising, and the ratio of publicly held debt to GDP will increase from 62 percent last year to as much as 90 percent in 2021, according to some private estimates, depending on what Congress does about the expiring tax cuts, the Medicare “doc fix” and the alternative minimum tax.

The CBO’s estimate of $2.1 trillion in savings over 10 years is well short of the $4 trillion Standard & Poor’s says is necessary to stabilize the debt and avoid a rating downgrade.

‘Architectural Change’

No matter. Some prominent Keynesians are advocating more spending now for an economy that is sputtering. Alas, there is little appetite in this country, and less in Congress, for more spending in light of the questionable results. A lost decade doesn’t seem like a good return on an $8.35 trillion investment. (For purists, only $6 trillion of the increase was in marketable debt, the kind of good old deficit spending Keynesians love.)

Maybe it’s time to try something new and different. In 2002 I wrote a column titled, “How About Some Tax Reform Along With Tax Relief?

How about it? Get rid of the loopholes. Better yet, scrap the entire tax code, which would decimate the lobbying industry. Implement a flat tax or a national sales tax. The time has come for what former Treasury Secretary Paul O’Neill calls “architectural change.”

Can the Code

The current tax code is burdensome, inefficient and costly to administer. O’Neill says it costs the Treasury an estimated $800 billion annually, divided equally between administrative costs and uncollected revenue.

Eliminate the corporate and individual income tax, he says, and replace them with a value-added or consumption tax, with tax refundability for lower-income households.

“We should focus the tax system on raising revenue for the things we as a society need,” O’Neill says.

Of course, what society needs is a matter of opinion. Without strong economic growth, the options are more limited, the choices more difficult. Fiscal stimulus can have only a short-term impact. The government taxes or borrows from Peter to pay Paul, reflecting a temporary transfer of resources, nothing more.

What does the nation have to show for chronic short-term thinking and policies like these? Long-term problems and a mountain of debt.
Keynesians Always Want More Stimulus

Baum wrote "Some prominent Keynesians are advocating more spending now for an economy that is sputtering."

She is too polite, but to follow suit I will not name-drop either.

Keynesians always want more stimulus. They claim they don't, but there is never a time any of them ever wanted to run surpluses or even a balanced budget out of fear of ending a nascent recovery or starting a "recession of choice" as one Keynesian clown put it.

More to the point, the idea that government or the Fed can micro-manage the economy stepping in as needed is absurd. Heck the Fed could not even see a housing bubble or a recession and it is supposed to manage the economy?

Look at the supporters of Fannie Mae in Congress. Look at Democrats whining about cutbacks in social programs 100% of the time. They are supposed to run a surplus?

Lesson of Japan

For over 20 years Japan tried Monetarist (various QE and interest rate) stimulus as well as Keynesian (fiscal) stimulus and all it has to show for it is the highest debt-to-GDP ratio of any major country in the word. Rest assured that is going to matter sometime within the next 5 years.

Right now we are following their path and it clearly is not working.

How About We Try Something Different?

I am with Caroline here, how about trying something different like scrapping the tax code?

I will add my standard three ideas 100% guaranteed to help cities and states.

  1. Scrap Davis and all prevailing wage laws
  2. Eliminate collective bargaining of public unions
  3. Institute national right-to-work laws

If you want to try something really radical (yet perfectly sensible), here is an idea that is also guaranteed to help: get rid of the Fed and its perpetual bubble-blowing, moral-hazard, bail-out-the-bondholder policies.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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