The Politics of Budget and Deficit

The economics of federal budgets and deficits is fairly straightforward.  It is basically a matter of simple math that comes from the results of automatic and discretionary spending, tax policy, and the current state of the economy.  The last ten years have seen a combination of contradictory tax policy and spending priorities and a bad economy. We also face an aging population that will rely heavily on entitlement programs that have not been re-gauged since the Reagan years. The last serious attempts at deficit reduction occurred in the Clinton and Carter years. There were spending frenzies in the Reagan and Dubya Bush years. Tax policy was seriously crippled in the Dubya Bush years and was completely out of alignment with spending. The decade long wars we’ve endured were not only long and expensive, they were also the first wars that were not specifically funded with tax increases. Obama has inherited serious fiscal problems due to these wars, the bad economy, and capricious tax policy based on failed hypotheses.

Paul Ryan’s budget and its underlying assumptions go beyond capricious and fall into the category of scam. His budget–combined with evidence provided by recently written articles on the Obama 2011 budget negotiation– show that Republicans are only serious about crippling the Federal Government with voodoo tax policies.  Obama appears to have fully embraced Republican policies that were offered up during the Clinton years.  Obama is clearly the deficit hawk in the room.  You wouldn’t know this, however, if you spend time in the economics illiteracy zone that is our press and media.  All we ever get is spin on lies analyzed by folks with journalism and law degrees at best.

Paul Krugman sums up Ryan’s budget antics nicely. He also understands that many Republican defenders that position themselves as moderates are not moderate.  They are only partisan.

These are people whose whole pose is one of standing between the extremes of both parties, and calling for a bipartisan solution. The problem they face is how to maintain this pose when the reality is that a quite moderate Democratic party — one that is content to leave tax rates on the rich far below those that prevailed for most of the past 70 years, that has embraced a Republican health care plan — faces a radical-reactionary GOP.

What these people need is reasonable Republicans. And if such creatures don’t exist, they have to invent them. Hence the elevation of Ryan — who is, in fact, a garden-variety GOP extremist, but with a mild-mannered style — to icon of fiscal responsibility and honest argument, despite the reality that his proposals are both fiscally irresponsible and quite dishonest.

The fact that a Republican presidential wannabe with degrees in business from Harvard (JD/MBA) actually embraces this budget scares me. That’s because every thing we see from Obama’s budget negotiations last year indicates he’s probably the biggest deficit hawk we’ve ever had in the White House and he over-compromises.  Evidence indicates that Obama is more than willing to out-Republican the Republicans on the issue.  Yet, the right wing noise machine ignores the ignoble Ryan’s budget assumptions and numbers and the actions of 2011 in Obama the negotiator.  Republicans seem to easily drag him way into their policy zone while calling him a socialist at the same time.  For any one with a background in economics and finance, this is like watching John Cena wrestle Pee Wee Herman while accusing Pee Wee of  Droid Rage.

Obama was willing to make substantial cuts to the crown jewels of liberalism—Social Security, Medicare and Medicaid—and get little in return, in order to get a deficit-reduction deal with Republicans.

The details of the proposed deal should be very disturbing to anyone who believes in Democratic core values and protecting the American Dream. In addition to substantial cuts to Social Security, Medicare, Medicaid and the domestic budget, Obama was willing to reduce top-end tax rates, maintain current tax rates on investment income (the reason millionaires like Mitt Romney pay such low tax rates) and prevent the expiration of the Bush tax cuts in return for increasing tax revenues by $800 billion.

That amount is less than half the amount of new revenues recommended by the co-chairs of the Bowles-Simpson Deficit Reduction Commission, but, as it turns out, the $800 billion in “new revenues” was mostly a mirage. The $800 billion mentioned by the Republican Speaker of the House, John Boehner, would not have come from increasing taxes on anyone, especially not the rich, who would have had their taxes cut even below the Bush tax cut levels, but from nebulous plans to “overhaul the tax code,” which may or may not have ever gotten through Congress, and from projecting new revenues based on the largely disproven assumption that lower tax rates would boost the economy and produce more revenues (the laughable Laffer Curve). As one of the authors, Jonathan Chait, characterized it, “The Republican position was that its higher revenue, in other words, had to be imaginary, theoretical revenue.”

The “laughable Laffer Curve” should not underlie the negotiations or budget assumptions of any serious policy.  Laffer developed a testable hypothesis of the basic underlying voodoo economics assumption that high marginal tax rates deter savings and investment and incentives to work.   Here’s the basic theses: “When you cut the highest tax rates on the highest-income earners, government gets more money from them.”  Laffer’s curve showed up in 1978 and was immediately pounced upon by Reagan Republicans.  Decades of reality has now made that curve and hypothesis laughable. Here’s some short form evidence from Lane Kenworthy.  I’m going to just highlight the latest results but you can go read the other examples at that last link.

Tax reform in the early 2000s reduced the top marginal rate by four percentage points, from 39% in 2002 to 35% in 2003. In this case the effective rate on the top 1% of households fell by exactly the same amount, from 24% in 2002 to 20% in 2003.

That’s a one to one change.  That’s not going to bring increased revenues.  Ryan’s budget numbers are still based on the idea that taking away taxes from the rich and benefits from the poor increases economic activity and tax receipts.  Neither of these assumptions are based on anything more than wishful thinking and an obsession to kill all government services except a vast, powerful military.  This explains the right wing behavior, but it does little to explain the behavior of the President who was willing to basically do the same thing.  The “Grand Bargain” seems to play into this pretzel logic even though the President has been talking about upping the taxes of the richest of our rich. Talk is obviously cheap.

When they reached Daley’s office, the Republicans were handed a four-page document that made changes, typed in red, to an offer Boehner had made two days earlier, during a secret meeting at the Capitol.

A lot of red ink, the Republicans thought. But the major elements of a bargain seemed to be falling into place: $1.2 trillion in agency cuts, smaller cost-of-living increases for Social Security recipients, nearly $250 billion in Medicare savings achieved in part by raising the eligibility age. And $800 billion in new taxes.

In Boehner’s offer Friday night, the taxes came with strings attached. The Republicans wanted Obama to give up plans to raise the tax rate paid by the wealthiest Americans, now set at 35 percent. Instead, they wanted that rate to go down. They also wanted to preserve low rates for investment income — one of the biggest perks for the wealthy in the tax code — and establish a blanket exemption from U.S. taxes for corporate profits earned overseas.

Another key caveat: Much of the $800 billion would have to come from overhauling the tax code — not from higher tax rates. The Republicans believed lower rates and a simpler code would generate new revenue by discouraging cheating and spurring economic growth. If the White House would agree to count that money, the Republican leaders said, then they might have a deal.

That last condition was a problem. For years, Democrats have mocked the Republican argument that tax cuts pay for themselves by boosting the economy, an assertion for which evidence is scant. Many independent budget experts say the effect, if it exists, would be almost impossible to measure and useless in crafting a budget. Fiscal “snake oil,” some Democrats say.

So there were issues to work out that Sunday but also reason for optimism. In its counterproposal, the White House appeared to accept the $800 billion tax offer and a lower top rate. The administration rejected the exemption for overseas profits, but Geithner told the Republicans, they said, that he could get most of the way there.

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