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Lilnev Fiscal Policy Debate - Per Capita Real Growth

 
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PostPosted: Tue Feb 10, 2015 7:10 am    Post subject: Lilnev Fiscal Policy Debate - Per Capita Real Growth Reply with quote

PeakTrader:

I think, the U.S. needs strong real growth over the next 15 years with small budget deficits and surpluses to reduce federal debt to GDP before the last of the Baby-Boomers reach 65 in 2029, which will likely cause another long-wave bust.

Otherwise, a relatively small workforce will have to pay more in taxes to support a relatively large retired population, along with providing the goods & services, and fiscal policy will be more constrained to deal with the long-wave bust cycle.

Monetary and fiscal policies will prevent the long-wave bust from becoming a deep depression similar to the Great Depression of the 1930s or the Long Depression of the 1870s. Instead, we may have stagflation, similar to the 1970s.

Average annual per capita real GDP growth:

2008-13: 0.39% (recession/depression)
1982-07: 2.30% (long boom)
1973-82: 0.98% (long-wave bust)
1946-72: 2.21% (long boom)
1929-38: -0.49% (depression)

It should be noted, in the 1946-72 boom, Europe and Japan were rebuilding. In the 1982-07 boom, current account deficits also boomed, which subtracted from GDP.

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lilnev:

The US will never need to default (and hopefully the R’s in Congress have given up the idea of doing so voluntarily). To see the actual concerns, you have to look at flows (more important than stocks), aggregate demand, inflationary pressures and the Fed response. And realize that the budget deficit/surplus and interest rates are not independent. The potential concern is that high interest payments are a flow of money to the private sector, increasing aggregate demand, adding inflationary pressure, leading the Fed to raise rates, resulting in higher interest payments, etc. Vicious cycle. But it also works in reverse. Reducing the deficit or running a surplus drains spending power from the private sector, reducing inflationary pressure, causing the Fed to lower rates, reducing interest payments further. So the debt is quite easy to get under control via fiscal policy when desired, because the Fed’s response function amplifies the fiscal action. Except at ZIRP or course, when they’re unable to offset austerity by pushing rates down, which makes it exactly the wrong time to try to reduce deficits.

Overall, the correct size of the deficit is to match the private/foreign sectors’ desire to net save in our currency. Doing so will allow the Fed to maintain a low (but positive) interest rate, good for investment and employment. Too much deficit and the Fed will raise rates, crowding out private investment. Too little and the economy stalls for lack of aggregate demand. Clearly, the deficit has been too small for several years running.

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PeakTrader:

lilnev, I don’t disagree with your statement, although I wonder how much of the interest income is spent in the current period.

Yet, I disagree with your conclusion.

In the first four years of this depression, we managed to add $5 trillion of federal debt.

Why would more of the same over the last two years be any different (we still added $1 trillion more debt, even with record low interest rates).

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lilnev:

Household net worth dropped over $16 trillion. You think $5 trillion should have been enough to fill that hole? That’s not counting any increase in foreigners’ desire to hold our currency, or in corporations sitting on profits rather than reinvesting them

Far more people want to save, to spend less than they earn, to try to repair those balance sheets. And, greater income insecurity makes people want to save more. And, many of those who still might have sought credit are being turned down because standards have tightened. And, business investment dropped because they see the huge drop in demand. The private sectors’ desire to net save has been enormous, but we can’t all do that at the same time, someone has to dis-save. When zero interest rates aren’t low enough to make borrowing attractive, and the fiscal authorities didn’t step up, that accounting identity was met the only way it could be: forcing millions of households into dis-saving by destroying their income through involuntary unemployment.

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PeakTrader:

You wanted the federal government to give Americans who own assets $16 trillion or more “to fill that hole?”

Households should pay-down or pay-off debt (e.g. balances on a car or credit cards), or catch-up on bills, when debt levels are high, to raise discretionary income and strengthen the banking system.

That’s one reason large tax cuts were important, instead of the small and slow tax cuts we got.

And, people will use tax cuts most efficiently – the best way they see fit – rather than squander it.

When there’s excess private goods, the solution isn’t to create public goods.

The solution is to clear the market of private goods, to increase production.

Another reason why large tax cuts were needed is Americans bought foreign goods and foreigners bought U.S. Treasury bonds. Not enough of those dollars were “refunded” to consumers to allow the spending to go on.

We need more spending & saving and less squandering.

We can also praise the Fed. Lower interest rates and higher asset prices induce people to spend and borrow, and reduce saving, a lower cost of capital spurs production, refinancing at lower rates increases discretionary income, lower mortgage rates makes buying a home more affordable, 401(k)s and IRAs increase in value, etc. There are massive multiplier effects throughout the economy.

****

Monetary policy continues to do its job (for example, my parents refinanced their house last November, which was finalized last month, resulting in lowering their monthly payments by over $500 a month, through lower mortgage payments, the bank paying-off an almost new car, a credit card, along with a disputed charge with Citibank, and they have a lot of cash left over).

Fiscal policy and economic policies by Washington politicians were less effective and more counterproductive. Basically, they cultivated pro-growth and anti-growth policies simultaneously. With one foot on the accelerator and the other foot on the brake, it’s no wonder the result would be what it has been – an expensive depression.

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lilnev:

The $16T figure is just to put the $5T added to the debt into perspective. I don’t think $16T should have been given directly to households (though that almost certainly would have ended the recession). $5T seems like a scary big number, but I think it was still inadequate to the scale of the problem. (And that’s just the balance sheet damage to households; income insecurity, foreign and corporate sectors all made their own contributions to the desire to save more).

I think we actually agree on a lot. Monetary policy has been good, it has just been limited by the zero bound, and that made it inadequate to the scale of the problem. Rates should have fallen substantially negative if we wanted desired savings and investment to clear within the private/foreign sector. (I think unconventional policy has been marginally helpful at bringing down longer-term rates, but not particularly powerful). The fact that unemployment stayed high and inflation below target, for years, tells me that it wasn’t enough, the aggregate desire to save was too great.

How much additional spending was needed? I don’t have a model-based answer, but I’d guess an additional (beyond ARRA and the automatic stabilizers) $1 to 2T per year for 2 or 3 years would have done wonders, depending on composition. Regarding composition, infrastructure spending produces long-lasting public goods in addition to providing private sector income; but it can be slow to bring online, and you get diminishing returns as you scale it up and it gets pork-barreled into bridges to nowhere. State budgets should definitely have been supported so they didn’t have to slash spending, lay off large numbers of public employees, etc. Tax cuts can be fast and large, and effective if they’re directed towards the bulk of the population with a high propensity to spend e.g. payroll tax cuts, not capital gains tax cuts. You could add some targeted programs — adding some money to encourage banks to write down and refinance underwater mortgages, energy efficiency retrofits to help employment in the hard-hit construction sector, grants for adults going back to school, etc — but the big three components should have been infrastructure, state aid and broad-based tax cuts.

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