The US Budget Impasse: Dogma v. Economic Sense.

The US budget impasse: dogma v. economic sense.

     By
Dr.Michael Sakbani

The US is facing a political divide in Washington the like of which we have not known since the 1850’s. The Issue this time is not the Union and slavery, rather the concept of government and the way to deal with the economy. There is now in the US a significant part of the electorate, which believes that the US government is too big and essentially irrelevant to their lives. This segment wants to pay as little tax as possible, for on the whole, it does not believes in the utility of government spending. It is a tax revolt that appeared for the first time in the 1980’s. At the time, Mr. Ronald Reagan who imparted impulse to this perception was articulating the delayed reaction of the American public to the Great Society programs of the second half of the 1960’s and the practical disappearance of Federal programs delivering concrete service to the taxpayers.  The pattern of Federal expenditures is now overwhelmingly oriented towards social entitlements, national defense and security and servicing the debt. The social entitlements expenditure is geared towards the poor, a segment that pays little or no federal tax.  This revolt against the public sector is epitomized by the tea party. Its views have a rural concept of government fit for a simple society without foreign concerns or connections and in which economic management functions do not exist. Looking at the components of these views one harks back to the gold standard and the classical world of perfectly functioning markets

 unfettered by regulations. This vocal electorate is now the hardcore of the militants dominating the Republican Party. In the last Congressional elections some 46 Congressmen, holding such views were elected to the House.

The impasse in Washington on raising the debt ceiling is partially a product of this new political reality. It is also in part, an artificial self-inflicted problem, in as much as the US congress, with majorities from both parties had authorized in the past spending without raising taxes. Only one country besides the US- Denmark- has a debt ceiling. In fact, the US has raised the debt ceiling 78 times since 1960. President Obama, an intellectual centrist, gifted in reason rather than hard political negotiations, has been trying in vain to reach an accommodation with a Republican leadership paralyzed by this militant minority and incapable of statesmanship of any sort. Despite an offer of 4 to 1 spending- tax increase deal, the House Speaker has walked out twice on the deal. The deadlocked negotiations have been a waste of time since The Republican side has no give and no willingness to compromise; the Republican leadership is seized by fears of losing primaries to candidates on their right before worrying about the right things to do for the country. In addition, the economics implicit in reducing the budget through spending cuts only is analytically senseless at the present cyclical juncture, and its justifications do not stand the test of economics empirical experience.

The amazing thing is the tolerance of the US public opinion in respect of the underlying causes of deadlock and the reticence of the educated elites, the Press and the political class to engage in debating the issues involved. There are some economists who inveigh against the deficit for fear of crowding out in an economy awash with liquidity and short on investments. It seems the economics profession has yet to demonstrate that it learned something from the Financial Crisis of 2008: the Democrats have yet to articulate a position on the concept of the modern state and its economic management under a market the system when it fails, and the Republicans have retreated to the concept of minimal state essentially occupied with defense and public security. Above all, the American public has yet to show receptivity to informed views.

To be sure, the US current budget deficits are unsustainable and should be cut down in the intermediate run. But cutting the deficit drastically in the short run, in the midst of a slow recovery and very high unemployment, is fatal to economic growth. It is economic growth that creates employment and employment that creates aggregate demand, i.e.: consumers’ buying and business investing. We know of no economy that has solved its debt and deficit problems without growing its income. Moreover, reducing deficits by only reducing budgetary expenditure is highly contractionary, since the size of the income multiplier of expenditure is about a quarter higher than tax changes. The recommendations of the bipartisan Group of Six and those of the Presidential Commission on Fiscal Responsibility and Reform, known as the Bowels-Simpson Commission were both ignored in the debate.

Today, the US combined Federal tax take is about 18.3 % of the GDP, by far the lowest ratio in the industrial countries. Half of the US population does not pay Federal income taxes, and the upper-income brackets now pay less taxes than they did in the 1990’s. It is equally true that the corporate tax rate is high by international standards, in particular for small and intermediate enterprises. This means that the US tax code is outdated and distorted. Thus, the entire Federal government budget, on both the revenue and expenditures sides, should be put on the table. In particular, the entitlements programs, the Defense budget and war-related expenditures, the tax rates, all are to be revised. One simply cannot discuss taxes and expenditures on the basis of the current budgetary structure; there are some expenditures that should not be there and some taxes that ought to be imposed. For the debate to be sensible there has to be first a determination of what type of government we want and how much financing it needs. Thereafter, we should map out how we can attain that at the prevailing phase of the business cycle. Our vision of the US economy in the future should factor in expected global competition, the prevailing deterioration in our infrastructure, the decline in our educational standards and the need for new environmentally sound technologies. Instead of that, our politics now are centered on uninformed debates based on ideologies, unquestionable dogmas and electioneering calculations. The US seems to lack the will to map out a long-run policy vision and its politicians are incapable of making strategic state choices.

President Obama does not need the Republicans to increase the debt ceiling. The fourteenth amendment to the US Constitution provides a constitutional basis to safeguard the trust and credit of the US so that its credibility remains unquestioned. He should recall that Abraham Lincoln imposed income tax to finance the war so that the credit and faith of the US government remain unquestioned. The wars in Iraq, Afghanistan and the hugely costly war on terror (in addition to Bush’s tax cuts) are the causes of the US's current big deficits thereby furnishing constitutional grounds for the executive act under war conditions. This is a better choice than engaging in a patrician uninformed and dogmatic debate.