Balanced Budget Amendments are Bad Policy

I always have to cover this topic in any introductory macroeconomics class I teach because usually one nutjob or another running for office always brings this up and people fall for it.  The arguments are usually based on complete fallacies and misunderstanding of the math of economics, but hey, for some reason balanced budgets sound ‘reasonable’ when they are anything but.

I used to talk theoretically about how balanced budget amendments will kill state economies when the next real recession hits.  Well, it hit a few years ago and we’re there.  States continue to make their own economies worse day in and day out but there’s still those people that insist that if a family has to balance its budget, then so should the country.  That’s even stupid considering most families have mortgages and car payments and probably student loans. Take Michele Bachmann as an example. She’s got all of the above plus farm subsidies and government grants.  Even the President is guilty of that false equivalency.  No person or family exists in perpetuity.  No person or family can print money.  No person or family has the power of taxation.  Because of these three things, you cannot compare government to a family.  Nor can you compare government to a business.  Businesses exist to make a profit.  Government exists to provide services and goods that the private sector will not provide or provides at an outrageous cost.  It exists to administer justice and ensure level playing fields and fair play exists.  Everything about a government is unique and is no way comparable to either businesses or households.

Macroeconomists know from years of study that the federal government can influence the economy at large.  It does so through its spending and taxing priorities and policies.  This is called fiscal policy.  We have found several economic laws that guide the relationship between taxes and government spending and the behavior of Gross Domestic Product (GDP) which roughly measures all the legal and reported spending by households, governments, foreigners, and businesses.  In our economy, household spending comprises about 68% of all GDP.

Investment or purchases by businesses is the smallest and most erratic component of GDP.  Keynes said that it is easily spooked and subject to animistic spirits.  Because it’s an unreliable source of growth, Keynes argued that in down turns, government should use its power to spend.  Business investment usually only does fine in good economies. Please note,  Keynes said deficit spend in recessions.  Keynes’ prescription also said that Federal governments should run balanced budgets during times when the economy is fully employed and surpluses during bubble or boom times to relieve inflationary pressure.  As usual, conservative politicians completely lie about the nature of Keynes and his highly proven and credible theories on fiscal policy.  A lot of what we know about Monetary Policy comes from Milton Friedman, however, that is not the subject today.  What I want to emphasize is that both men spent a lot of time analyzing panics and the Great Depression and are very much at the heart of accepted theory.  We are seeing a classical lack of aggregate demand today.  It is what’s driving the budget deficit.  It is what’s driving the joblessness. It is what’s driving the slow recovery.  Government must and will by automatic stabilizers be in a deficit position during downturns.  It is simple math.  More revenues come in during good times than bad.  More safety net spending increases during bad times than good.  We naturally run towards deficit in bad economies and towards surplus in good.

However, show me an economy that’s booming with high revenues and lower safety net spending and I will show you a group of politicians spending wildly.  This tends to create inflation and can lead to bubbles.  However, you never hear them complain at that point in time.   That’s because it should be relatively easy to balance a budget then, but they do not do so or if they do its by expanding programs that cannot be sustained without borrowing during bad economies.

With that short explanation, let me cite you some folks that tell you why balanced budget amendments are bad policy.  This first quote is from Simon Johnson who is the former chief economist for the IMF.  He asks us to keep in mind that GDP is a measurement that is fraught with problems.   He also mentions the fact that a balanced budget amendment makes the government make recessions worse.

Second and more seriously, imagine that this constitutional amendment were in place and that federal spending were roughly at its limit relative to the size of the economy. Then, what happens should the financial sector blow up again — either through no fault of its own (which, believe it or not, is the current prevailing myth on Wall Street about 2007-9) or because of some toxic combination of malfeasance and malpractice (the current predominant view of 2007-9 among many other people)?

The blame game is irrelevant when G.D.P. drops 10 percent; the issue is how to prevent a Great Depression. But note that with such a decline in G.D.P., a level of nominal spending that was 18 percent of G.D.P. is suddenly 20 percent, and now a constitutional crisis awaits – even before we get to the question of whether tax cuts or other forms of stimulus might be appropriate.

It makes no sense to take aim, as a matter of constitutional process, at two numbers that are both outcomes of deeper economic processes.

And to be frank, sometimes it makes a great deal of sense to apply an economic stimulus to an economy in free fall. One such moment was 1930 (and 1931 and 1932), when no stimulus was applied. Other moments were 2008 and 2009; both President Bush and President Obama initiated stimulus packages. When credit for and confidence in the private sector evaporates, do you really want the government sector to be forced to make quick cuts — or to raise taxes?

James Ledbetter at Reuters argues that even conservatives should oppose a balanced budget amendment (BBA).  His reasons are more pragmatic.  He argues that it won’t work.

Historically, conservatives have opposed extending government authority in places where it is not effective. You can find all the evidence you need to conclude that balanced budget requirements are useless by simply investigating the oft-repeated claim that 49 states have laws requiring a balanced budget. Leave aside the falsity of the claim and just consider the logic: if so many states are required to balance their budgets, why are so many states in the red?

The answer is that requiring state governments to annually balance their books simply encourages them to find clever ways to disguise debt and deficits. For example: California has both a Constitutional and a statutory requirement that its budgets be balanced. Would any sane person maintain that the state’s books have been anything resembling healthy for at least a decade? This year, after some brutal spending cuts, the governor’s office found that the state still had a short-term deficit of more than $9 billion and $35 billion in long-term debt. The governor’s budget report noted that California’s “massive budget deficits for most of the past decade…have been largely the result of a reliance on one-time solutions, borrowing, accounting maneuvers, and cuts or revenues that were illusory and therefore did not materialize.”

If that sounds familiar, it may be because, as Richard Quest pointed out on CNN Sunday evening, we’ve witnessed numerous Congressional attempts in recent decades to rein in federal deficits—including Gramm-Rudman in 1985 and the Budget Enforcement Act of 1990—all of which fell victim to legislative legerdemain. Why would a federal balanced budget amendment be any different?

Here’s something from The Economist on “Fiscal Rules”.  Some fiscal rule–rather than a balanced budget amendment–would better stop congress from spending during booms and full employment cycles rather than balancing its budget via a BBA. This would be a rule that attaches the spending mandates to what’s going on in the economy.  But again, I doubt they’d follow it since they’ve ignored a good portion of the Keynesian prescription for years any way.

It is difficult for Congress to tie its own hands. Any law that can pass Congress can later be undone or changed. In the rare cases that Congress puts together a near-perfect piece of legislation, that’s a bad thing. In the vastly more common occurrence that Congress passes highly imperfect legislation in need of significant future tweaks, that’s a very good thing. Support for an amendment to the constitution is a spectacular vote of confidence in the ability of a legislature to design near-perfect legislation, because the only thing rarer than an amendment to the constitution is a subsequent amendment undoing or clarifying a previous amendment.

I see the argument for a well-designed, over-the-business-cycle balanced-budget amendment. But the idea of enshrining this Congress’ pathologies into the constitution is terrifying. Let’s see Congress design some quality fiscal rules using the normal legislative process first, and then we can talk about adding those to the constitution.

Bruce Bartlett has some excellent analysis up for the current go round of balanced budget amendments.  Mark Thoma explains how a BBA is a very bad idea. His analysis includes looking at the destabilizing effects that states’ BBAs have had on their economies. There’s a nifty graph that I did not include here if you’d like to go view it.

I’ve argued on many occasions that one of the big lessons we need to learn from this recession is that state-level balanced budget requirements are highly destabilizing. When a recession hits, spending goes up for social services and taxes fall as income, sales, property values, and other sources of revenue for state and local governments decline.

The result is a big hole in state and local government budgets, and that forces either increases in taxes or cuts in spending both of which make things even worse. And though some state and local governments were an exception to this, far and away the choice is to cut spending. We can see this in the state and local government employment statistics:

That’s not what we want to have happening when we are trying to recover from a recession. It would be much better if states had rainy day funds to rely upon, and if the rainy day funds fall short, the federal government could backfill the budget holes to prevent the destabilizing downsizing.

So have we learned the lesson? Nope, at least not if you are a Republican. They’d like to impose the same destabilizing rules on the federal government:

You really would have to search high and low for an economist that actually supports a BBA.  The more conservative ones go for the fiscal rule that attaches spending to business cycles but even they believe that it would be unenforceable and easy to avoid. Can you imagine some District Judge trying to look over a complex macroeconomic model and figure out if the government forecast was correct or not?

A group of leading economists, including five Nobel Laureates in economics, today publicly released a letter to President Obama and Congress opposing a constitutional balanced budget amendment. The letter outlines the reasons why writing a balanced budget requirement into the Constitution would be “very unsound policy” that would adversely affect the economy. Adding arbitrary caps on federal expenditures would make the balanced budget amendment even more problematic, the letter says. The Economic Policy Institute and the Center on Budget and Policy Priorities organized the letter.

“A balanced budget amendment would mandate perverse actions in the face of recessions,” the letter notes. By requiring large budget cuts when the economy is weakest, the amendment “would aggravate recessions.”

The signatories of the letter are Nobel Laureates Kenneth Arrow, Peter Diamond, Eric Maskin, Charles Schultze, William Sharpe and Robert Solow; Alan Blinder, former Vice Chair of the Federal Reserve System’s Board of Governors and former member of the Council of Economic Advisors; and Laura Tyson, former Chair of the Council of Economic Advisors and former Director of the National Economic Council.

I’ll let former Reagan economist Bruce Bartlett have the last word here. He looks at the recent debate in Congress on the BBA.

Next week, House Republicans plan to debate a balanced budget amendment to the Constitution. Although polls show overwhelming public support, it is doubtful that many Americans realize that the measure to be debated is not, in fact, a workable blueprint to enforce a balanced budget. In fact, it’s just more political theater designed to delight the Tea Party.

We really need improved economic literacy in this country.  I genuinely can’t get over what some of the morons in congress can get away with saying.  Economists call them on it but it appears no one every listens.


Saturday: Let It Snow

Good morning everyone! Wonk the Vote here, wishing you a merry and a happy on this Saturday, December the 25th, 2010.

Whatever you celebrate or do not celebrate. I hope your inner child is finding a little peace, a little hope, and a little laughter this holiday season and that as we edge closer to 2011, we are able to keep on keeping on–with a little help from our family and from our friends.

In some ways, blog communities feel like a little of both family and friendship. We have been through a lot side-by-side in the past three years since we gathered together around Hillary 2008.

As a token of gratitude to each and every one of you, I want to share my all-time favorite holiday carol youtube with y’all — Rosemary Clooney’s rendition of “Let It Snow”:

I cannot help but be happy watching that footage! I hope if that doesn’t do the trick for you, you share what makes you happy downthread in the comments.

And, speaking of pure happiness–I am typing this from a brand new MacBook Air! Santa came a little early in the Wonk household, so I got my present on Christmas Eve. My laptop woes are over. Hooray! I can finally get back into the swing of all things news junkie.

Before I get to the news though, let’s take a look back on Christmases past.

On this day, December 25th, in history:

1223 – St. Francis of Assisi assembles the first Nativity scene.

When I went to Italy, I visited a lot of churches. I won’t lie. They all started to blur together for me. Assisi was the one place that really stood out for some reason. Something about St. Francis I guess. Probably also has a lot to do with the first time I ever heard this prayer:

Lord, make me an instrument of your peace.
Where there is hatred, let me sow love.
Where there is injury, pardon.
Where there is doubt, faith.
Where there is despair, hope.
Where there is darkness, light.
Where there is sadness, joy.

O Divine Master,
grant that I may not so much seek to be consoled, as to console;
to be understood, as to understand;
to be loved, as to love.

For it is in giving that we receive.
It is in pardoning that we are pardoned,
and it is in dying that we are born to Eternal Life.

–St. Francis

Doubt is as important to me as faith. That’s just the way I am. I do, however, like the idea of reframing all the destructive energy in this world–in other words, turning oneself into an instrument for the universe’s creative energy. I also think that reflexive doubt, just like blind faith, is a corrosive force. It blinds us as individuals and as a populace. It makes us deaf to our own inner voices. I feel that in some ways, this is where America is at right now.

At any rate, St. Francis’ prayer always seems to me a sort of prototype for cognitive-behavioral therapy before its time, as portions of religious texts and prayers often do. I would add one more line to it…

Where there is pain, let there be healing.

All this mythos stuff–in all its purest forms, unadulterated by institutionalism and authoritarianism–reads like one big self-help section on how to understand the world around us and how to do life. We human beings love to understand our world through storytelling–different stories pull us in, but we are all trying to understand some pretty universal themes when it comes down to it–human bonding, suffering, loss, and resilience. That’s what ties us all together. And, we want to hear our human story retold over and over again, in as many ways as possible, until it makes some sort of sense. It’s just the way we are.

Alright, enough of my existential ramblings. I want to touch on some actual newsy items in my holiday roundup.

First, a moment of remembrance for Benazir Bhutto, who was assassinated on December 27, 2007. CNN has this clip up of an interview with Duane Baughman, director of the recent documentary Bhutto.

Now, for some quick headlines that caught my eye from the top of my news feeds at the moment–keep in mind that between computer chaos and holiday mayhem, I’ve been out of the news junkie loop for about a week, so some of this might be old news to you by now… Karl Rove: Hillary Clinton Will Be A Presidential Candidate In 2016 – Huffington Post December 23, 2010:

“I suspect she will be a candidate. I suspect she is going to think about being a candidate in 2016, and we’ll know by about 2014,”Rove said on Fox News. “If she leaves the administration in 2014 or 2015, in order to give herself a chance to write a book about her experiences and reconnect with the grassroots, then she might entertain it.”

We’ll see about that. I know I’m like a broken record on this one, but it’s all I can think: I can’t blame Hillary if she never runs again.

Former Hillary Clinton political director named executive director at DSCC – The Hill (blog) December 22, 2010:

Longtime Democratic operative Guy Cecil will serve as executive director of the Democratic Senatorial Campaign Committee for the 2012 cycle, Sen. Patty Murray (D-Wash.) announced Wednesday. Cecil succeeds J.B. Poersch and is tasked with helping Democrats keep their tenuous majority in the Senate given a tough 2012 map for the party. […] Cecil served as national political director for then-Sen. Hillary Clinton’s 2008 presidential campaign.

Interesting little shift of the Democratic political winds there. Something to keep an eye on, methinks.

Bill and Hillary Clinton surprise Steve Tyrell at Cafe Carlyle on the eve of … – CultureMap December 24, 2010

Christmas came early for song man Steve Tyrell and his glam fiancéKaren Pulaski when former President Bill Clinton and Secretary of State Hillary Clinton popped in at the Cafe Carlyle in New York on Thursday night to catch the holiday show by Tyrell, one of the former president’s favorite singers. The Clintons, including daughter Chelsea, had primo seats, posed for photos with the Tyrell/Pulaski clan and wished the couple all the best with their wedding, which will take place at the Carlyle Hotel on Sunday. Yes, the day after Christmas. When Tyrell dedicated The Way You Look Tonight to the Clintons, Chelsea moved to sit next to her father. They held hands, and according to Tyrell, the former president wiped a tear from his eye. You might remember The Way You Look Tonight as the song that Tyrell sang inFather of the Bride and it was his version of the tune that Bill and Chelsea chose as their first dance at her wedding.

So that’s a little of what the Clintons have been up to for the holidays. Sounds delightful! Check out the links for a few nice photos.

NM Gov Bill Richardson to replace Hillary Clinton at State Dept? – Examiner.com December 24, 2010.

I’m not even going to excerpt on that one. Mostly my reaction is no comment. It’s an Examiner article, so grains of salt and all that.

Fierce Urgency of Inevitably Sometime? Via memeorandum.com:

Biden sees ‘inevitability’ for gay marriage (Russell Berman/The Hill)December 24, 2010

Another story I saw pop up on memeorandum:

Kamala Harris: Democrats’ anti-Palin (Ben Smith/The Politico)December 25, 2010

I really wanted to read the profile on Kamala, but the constant defining of her as “the anti-Palin” or “the female” Obama made me tune out before I could get past the first page. The genius messengers of the Democratic party just don’t quit, do they?

Going to switch from memeorandum to Raw Story for the next few stories…

Manning’s message on Christmas Eve: ‘I greatly appreciate everyone’s support’ December 24, 2010

From the link:

“When told of the Pentagon’s statement that he did indeed receive exercise, Manning’s reply was that he is able to exercise insofar as walking in chains is a form of exercise,” House wrote.

Firedoglake was also featuring an online petition asking supporters to demand an improvement to the conditions of Manning’s detention.

Sigh. What continues to go on in our names is a disgrace to all the hope this season is supposed to bring. I’m not sure a petition is enough to make a dent here, but at least it’s something.

Also from Raw Story:

New rules to allow Blackberries, iPads on House floor December 24, 2010 David Edwards

One more RS link:

Device uses sunlight to make liquid fuel December 24, 2010 Eric W. Dolan

I’m intrigued. I’d love to hear from someone with some expertise.

Like I said, I’m just playing catch up here. Y’all can probably add some fresher links of what’s going on in the world in the comments.

Moving away from the headlines back to a holiday link, here’s a concise history on Thomas Nast’s Christmas illustrations, including “Santa Claus and His Works,featured in Harper’s Weekly on December 1866. (via the Gray Lady):

Nast was instrumental in standardizing and nationalizing the image of a jolly, kind, and portly Santa in a red, fur-trimmed suit delivering toys from his North Pole workshop. This was accomplished through his work in the pages of Harper’s Weekly, his contributions to other publications, and by Christmas-card merchants in the 1870s and 1880s who relied heavily upon his portraiture.

[…]

As Nast’s own children entered and left their teen years, knowing that Santa was really their father, the artist’s illustrations finally showed direct communication and interaction between Santa Claus and the pictured children.  In a postdated January 1879 issue, a girl drops a letter to Santa in a mailbox (the first time the artist depicted a letter from a child to Santa), and in December 1884, Santa and a girl are able to speak with each other by using a relatively new invention, the telephone.  In the January 1879 issue, another Nast cartoon portrays Santa Claus in the midst of a group of gleeful children who he embraces affectionately. Santa is now recognized as part of the family, whose shared love is the greatest gift.  Nast’s Santa makes his last appearance in Harper’s Weeklythe next year when the jolly old (man-size) elf offers himself as a present. Nast’s last two Christmas illustrations in Harper’s Weekly appeared in December 1886, when he resigned from the newspaper, but his impact on the popular image of Santa Claus continued and remains potent to this day.

Well, that’s all I’ve got! I know today is busy for lots of people, so if you made it all the way to the end, thanks for reading and here’s wishing you a day of whatever brings you peace and joy. I’ve got to get going. I’m out of town and have a Christmas breakfast to go to this morning. As always, treat this as an open thread to share your Saturday reads and thoughts.