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(email exchange)

>   
>   On Thu, Jan 22, 2009 at 5:46 PM, Michael wrote:
>   
>   Bullet points from the GS report, what do you think of their assessment?
>   

Pretty good up to a point.

Agree the deficit probably should be larger to restore full employment.

It goes bad where highlighted below:

>   
>   The US economy urgently needs a large dose of fiscal stimulus to counter a sharp
>   retrenchment in private-sector spending. Consumers are cutting back in a way not
>   seen since World War II, and businesses are following suit. Based on current equity
>   prices, current credit spreads, and the trend in home prices, we expect the
>   private-sector balance between income and spending to rise from 1% of GDP in
>   mid-2008 to about 10% by the end of 2009, an annualized increase of 6% of GDP.
>   
>   To fill this hole in demand, the federal government should become the spender of
>   last resort, as monetary easing cannot do the job alone. We reckon that the
>   appropriate level of stimulus is $600 billion (bn) at an annual rate, or 4% of GDP,
>   

Could be. Maybe more.

>   
>   with the remaining 2% filled by a narrowing in the current account deficit.
>   

Increased domestic demand and higher crude prices could increase the trade gap, which would be highly beneficial, reduce demand, and therefore allow us to run deficits that much higher.

>   
>   Moreover, with prospects for cyclical recovery in the private sector looking dim,
>   this stimulus should stay in place through 2010 and be withdrawn only gradually
>   thereafter. The bill recently introduced in Congress, priced at $825bn over two
>   years, is a major step in the right direction but is apt to prove insufficient if our
>   estimates are correct. On the five-year view customarily used to score such
>   programs, we could justify stimulus totaling $2 trillion.
>   

Agreed!

>   
>   While stimulus will boost the federal deficit, it is important to recognize that the
>   deficit will rise sharply even if nothing is done. Our projection of the private-sector
>   balance implies a deficit of about $1 trillion in 2009, a figure that looks roughly
>   consistent with the Congressional Budget Office (CBO) baseline—$1.2 trillion for
>   fiscal 2009—when adjusted for differences in economic outlook, accounting, and
>   timing. Moreover, since the deficit must ultimately be financed either by private
>   domestic saving or net foreign inflows, the net budget cost of stimulus can be
>   reduced if the package avoids measures that mainly boost saving.
>   

There’s nothing ‘wrong’ with measures that increase savings and therefore require higher deficits. He’s afraid of deficits per se.

>   
>   Likewise, much of the prospective surge in federal debt that terrifies many market
>   participants is already baked in the recessionary cake. While stimulus will aggravate
>   this increase, the United States starts from a fairly comfortable federal debt ratio
>   of just over 40% of GDP at the end of fiscal 2008, lower than the G7 average. And
>   those who worry about a lack of demand for all this debt should not overlook US
>    households and businesses as potential customers.
>   

Lack of demand is never an issue.

>   
>   After all, it is their efforts to repair balance sheets that has caused the need for
>   stimulus; with risk aversion running high, it stands to reason that they will shoot
>   a few bucks the government’s way to help it do their spending for them.
>   
>   However, the long-term budget imbalance remains serious.
>   

Not applicable.

>   
>   Thus, any program must feature measures that not only have quick and powerful
>   effects but also expire as soon as the need for stimulus has passed. To balance
>   these competing objectives, the package should focus on infrastructure and
>   investment but also include carefully targeted tax cuts, enhancements of benefit
>   programs, and aid to state and local governments as a bridge to these projects,
>   many of which take time to develop.
>   

OK.

>   
>   Assuming that the final package is in the range now under consideration, we
>   estimate that the federal deficit will reach $1.425 trillion in FY 2009, or 10% of
>   GDP (based on CBO’s accounting for TARP and GSEs). While the scale of the
>   package driving this change has risen sharply in recent months, so has the rate
>   at which the economy is losing momentum. Accordingly, we have not changed
>   our economic outlook, though of course this remains subject to review.
>   

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>   
>   On Fri, Jan 23, 2009 at 3:04 PM, Randall wrote:
>   
>   Take a look; incredible. Instead of a holiday they come up with a mess.
>   

Right, and whoever thought leaders who know nothing about how the monetary system actually works would get it so wrong:

Congress is racing to pass a giant bill to stimulate the economy. But a key piece of it may be a little slower in coming than many people expect.

The biggest single tax break in the Democrats’ proposed economic recovery package is the $145 billion ‘Make Work Pay Credit’.

The credit, which President Obama championed, would reach close to 95% of workers and be paid primarily through paychecks. It would be worth $500 per worker or $1,000 for working couples who file jointly. The full credit will be available to those making $75,000 or less, or $150,000 or less for couples. Even workers in those income groups with no tax liability would get it.

The bill is still being debated. But as things currently stand, workers may not see that money until June. And some of the lowest wage workers — those who economists say are most likely to spend the money rather than save it — may not see their credit until they file their 2009 federal tax return sometime next year. But for the credit to be paid out in workers’ paychecks, employers will need to change how much tax they withhold. And they would need new withholding tables from the Treasury Department to do that.

>   
>   On Fri, Jan 23, 2009 at 11:54 Stephanie wrote:
>   
>   See business about time necessary to prepare new tables, etc. Totally unnecessary
>   if we move to zero with payroll tax holiday.
>   
>   

Worker Tax Cut: Maybe Not so Immediate

by Jeanne Sahadi

Jan 23 (CNN Money) — Congress is racing to pass a giant bill to stimulate the economy. But a key piece of it may be a little slower in coming than many people expect.

The biggest single tax break in the Democrats’ proposed economic recovery package is the $145 billion “Make Work Pay Credit.”

The credit, which President Obama championed, would reach close to 95% of workers and be paid primarily through paychecks. It would be worth $500 per worker or $1,000 for working couples who file jointly. The full credit will be available to those making $75,000 or less, or $150,000 or less for couples. Even workers in those income groups with no tax liability would get it.

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The World Won’t Buy Unlimited US Debt

by Peter Schiff

Jan 23 (Wall Street Journal) — Barack Obama has spoken often of sacrifice. And as recently as a week ago, he said that to stave off the deepening recession Americans should be prepared to face “trillion dollar deficits for years to come.”
But apart from a stirring call for volunteerism in his inaugural address, the only specific sacrifices the president has outlined thus far include lower taxes, millions of federally funded jobs, expanded corporate bailouts, and direct stimulus checks to consumers. Could this be described as sacrificial?

No. Good point! Why should utilizing idle resources be sacrificial?

It’s only during times of scarcity does ’sacrifice’ come into play.

What he might have said was that the nations funding the majority of America’s public debt — most notably the Chinese, Japanese and the Saudis — need to be prepared to sacrifice.

They already have been and want to continue net exporting to the US.

That is true sacrifice, and they are begging to be allowed to continue doing it.

They have to fund America’s annual trillion-dollar deficits for the foreseeable future.

No, we have funded their savings.

These creditor nations, who already own trillions of dollars of U.S. government debt, are the only entities capable of underwriting the spending that Mr. Obama envisions and that U.S. citizens demand.

No, they push to get to the front of the line to accumulate USD financial assets as part of their desire to net export (sacrifice) to the US.

These nations, in other words, must never use the money to buy other assets or fund domestic spending initiatives for their own people.

Yes, it’s better for us if they don’t. But they can at any time. And lucky for us they don’t want to.

When the old Treasury bills mature, they can do nothing with the money except buy new ones. To do otherwise would implode the market for U.S. Treasurys (sending U.S. interest rates much higher)

Maybe.

and start a run on the dollar. (If foreign central banks become net sellers of Treasurys, the demand for dollars needed to buy them would plummet.)

Only if they sell USD for other currencies, or spend those USD here.

And if the dollar goes down, so what? While it’s not my first choice to enact policy that causes the dollar to go down for other reasons, it does not alter the real wealth of the US.

Real wealth= everything produced domestically plus everything imported minus everything exported.

Exports are always a cost, imports a benefit.

In sum, our creditors must give up all hope of accessing the principal, and may be compensated only by the paltry 2%-3% yield our bonds currently deliver.

And if they never spend the USD interest earned is of no real consequence either.

As absurd as this may appear on the surface, it seems inconceivable to President Obama, or any respected economist for that matter, that our creditors may decline to sign on.

You would think they would have realized net exports hurt them long ago. But as of today they are still clawing and biting to increase net exports.

And, worse yet, our fearless leaders are trying to reverse that and balance of trade account.

Their confidence is derived from the fact that the arrangement has gone on for some time, and that our creditors would be unwilling to face the economic turbulence that would result from an interruption of the status quo.

No, they do it to support their export industries that have disproportionate political clout, supported by international mainstream economics that praises exports and condemns imports.

But just because the game has lasted thus far does not mean that they will continue playing it indefinitely.

Agreed! But we should strive to continue it, not strive to end it.

Thanks to projected huge deficits, the U.S. government is severely raising the stakes. At the same time, the global economic contraction will make larger Treasury purchases by foreign central banks both economically and politically more difficult.

No, it makes it more urgent, as they have no instinct to increase their domestic demand, but instead focus on supporting their exports.

The root problem is not that America may have difficulty borrowing enough from abroad to maintain our GDP, but that our economy was too large in the first place. America’s GDP is composed of more than 70% consumer spending.

Pretty normal. The entire point of any economy is consumption. The rest is investment which represents a down payment on future consumption.

For many years, much of that spending has been a function of voracious consumer borrowing through home equity extractions (averaging more than $850 billion annually in 2005 and 2006, according to the Federal Reserve) and rapid expansion of credit card and other consumer debt. Now that credit is scarce, it is inevitable that GDP will fall.

Yes, but because government doesn’t understand its role in sustaining domestic demand.

Neither the left nor the right of the American political spectrum has shown any willingness to tolerate such a contraction. Recently, for example, Nobel Prize-winning economist Paul Krugman estimated that a 6.8% contraction in GDP will result in $2.1 trillion in “lost output,” which the government should redeem through fiscal stimulation. In his view, the $775 billion announced in Mr. Obama’s plan is two-thirds too small.

Agreed!

Although Mr. Krugman may not get all that he wishes, it is clear that Mr. Obama’s opening bid will likely move north considerably before any legislation is passed. It is also clear from the political chatter that the policies most favored will be those that encourage rapid consumer spending, not lasting or sustainable economic change. So when the effects of this stimulus dissipate, the same unbalanced economy will remain — only now with a far higher debt load.

There is no reason for fiscal balance to ‘dissipate’ but instead can be continually altered to support aggregate demand/output/employment.

Currently, U.S. citizens comprise less than 5% of world population, but account for more than 25% of global GDP. Given our debts and weakening economy, this disproportionate advantage should narrow. Yet the U.S. is asking much poorer foreign nations to maintain the status quo, and incredibly, they are complying. At least for now.

We aren’t asking them to export to us, they are demanding the right to export to us.

You can’t blame the Obama administration for choosing to go down this path. If these other nations are giving, it becomes very easy to take.

In fact, foolish not to.

However, given his supposedly post-ideological pragmatic gifts, one would hope that Mr. Obama can see that, just like all other bubbles in world history, the U.S. debt bubble will end badly. Taking on more debt to maintain spending is neither sacrificial nor beneficial.

He misses the point. There is no financial risk to government ‘debt’, only the risk of inflation.

Government continuously has the option to sustain domestic demand and no reason not to do so apart from deficit myths and a lack of understanding of our monetary system.

Mr. Schiff is president of Euro Pacific Capital and author of “The Little Book of Bull Moves in Bear Markets” (Wiley, 2008).

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1. Immediately suspend all VAT and other national transactions taxes.
2. An immediate one time 1% of GDP fiscal transfer from the national government to regional governments.
3. A national service job for anyone willing and able to work to create an employed labor buffer stock for enhanced useful output price stability.

Regarding troubled banks, insolvent institutions should be taken over by government and reorganized to allow for the assets to be sold in an orderly manner and to avoid business interruption for bank clients. When this takes place, uninsured foreign currency liabilities of the insolvent institutions should all be dissolved.

Unfortunately, national budget deficit myths persist and will likely not allow this type of policy to be implemented.

On a technical level, the BOE should sell UK credit default insurance until the cows come home to get those premiums down and dispel notions of UK default risk.

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