‘Legacy of Debt’ Gives Fiscal Stimulus Bad Name: Caroline Baum

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This article gives Baum a bad name.

‘Legacy of Debt’ Gives Fiscal Stimulus Bad Name: Caroline Baum

Commentary by Caroline Baum

June 5(Bloomberg) — By the time the U.S. government unveiled its Public Private Investment Partnership in March, the toxic loans and securities clogging bank balance sheets had become “legacy assets.”

What if deficit hawks took the same tack and marketed the $787 billion fiscal stimulus as “legacy debt?”

They would be making yet another error. This is no basis for an article unless one is intent on being part of the problem rather than part of the answer.

“The $787 billion the U.S. Treasury will be borrowing or confiscating from you via taxation will saddle future generations with a legacy of debt,” the press release might read. “Your children and grandchildren can look forward to higher taxes, a lower standard of living and minimal government support in their old age.”

Wonderful, another deficit terrorist spewing counterproductive rhetoric and irresponsible journalism.

First, there is no intergenerational transfer of debt in real terms. Whatever goods and services our children produce will be consumed by whoever happens to be alive at that time. And a nominal government deficit does not keep them from operating at less than full employment.

Second, government securities function as benefits for investors, not costs. One buys them voluntarily and, at the macro level, directly or indirectly, as an alternative to holding reserve balances at the Fed. This means they are purchased at prices where they are preferred to holding balances at the Fed. Nothing is ‘taken away’ by sales of treasury securities and total (non government)holdings of financial assets remain unchanged.

Third, taxes function to reduce aggregate demand. Taxes need be raised in the future when aggregate demand is deemed too high, and not the deficit per se. That is a scenario of low unemployment and high consumption relative to available resources. Not ‘a lower standard of living’ or ‘minimal government support in their old age.’

Maybe the public would balk. And maybe some member of Congress would be bold enough to sponsor a measure to call off the still-uncommitted expenditures.

And thereby contribute to even lower output and employment.

After all, the economy appears to be recovering without fiscal stimulus.

??? The relative improvement has come only after the (non TARP) deficit got over 6% of GDP
And it has barely slowed the collapse.

The 9.4% unemployment is clear evidence aggregate demand is grossly deficient.

The rate of decline in real gross domestic product has slowed from an average 6 percent in the fourth quarter of last year and first quarter of 2009. Real GDP is expected to fall 1.9 percent in the current quarter, according to the median forecast of 61 economists in a Bloomberg News survey from early May. Less negative is the first step toward positive.

Yes, due to the ‘automatic stabilizers’ increasing the deficit, as above.

And only when GDP grows faster than productivity does the output gap fall.

And that’s before any real money gets spent. So far $36.7 billion has been distributed via various government agencies, according to Recovery.gov, the Web site that tracks where your tax dollars are going. That’s 7.4 percent of the $499 billion of outlays ($288 billion of the $787 billion is “tax relief”) and 29 percent of the funds that have been committed to a purpose or a project.

Patient, Heal Thyself

Tax relief comes in the form of larger monthly paychecks for workers and tax credits — for investment in renewable sources of energy, for first-time home buyers — that are encouraging activity now even though the benefit is in the future.

Still, it’s a trickle, not a waterfall.

So if fiscal stimulus can’t take credit for the improvement in the economy, what can? The answer is a combination of monetary policy and self-healing (an economy’s natural tendency is to grow).

Wrong. It’s been all fiscal to this point. Yes, its healed itself, via the very ugly automatic fiscal stabilizers of falling revenue and rising transfer payments with rising unemployment. This could have been avoided with proactive fiscal measures last July.
The Federal Reserve has thrown the kitchen sink at the economy, using traditional and non-traditional means to provide liquidity and credit when the banking system wasn’t up to the task.

Lower rates have drained aggregate demand as savers lost a lot more income than borrowers gained. The Fed’s portfolio alone has removed over $50 billion of annual interest income from savers and investors.

Fed’s CPR

Even before the Fed lowered the overnight interbank lending rate to 0 to 0.25 percent in December,

Savers have seen rates fall by about 5%, reducing aggregate demand, while most borrowers have seen little, if any, drop in rates as bank net interest margins widened to over 4%. And this additional bank income has a marginal propensity to consume of near 0.

the central bank was already ministering to markets and institutions outside its normal discount window customers, otherwise known as depository institutions. It was supporting the commercial paper market; had committed to purchase mortgage-backed securities and agency debt; had agreed to finance investor purchases of asset-backed securities; and had leant support to specific institutions, taking on some of Bear Stearns’s toxic, I mean, legacy, assets in March 2008 and bailing out American International Group in September.

Yes, and all of this has served to lower the term structure of rates and reduce saver’s incomes.

That’s the beauty of monetary policy. It can be implemented instantaneously. The Fed’s challenge is to be as quick on the return trip.

And, as per Bernanke’s 2004 paper, said rate cuts reduce aggregate demand via the ‘fiscal channel’ which means it reduces interest paid by government which needs to be offset by easier fiscal policy to not be a drag on output and employment.

The problem with fiscal stimulus, aside from the fact that it’s a misnomer, is that it arrives too late.

And further delayed by articles like.

Also, a payroll tax cut is instant, as would be per capita revenue sharing checks to the states.

At least that was the standard criticism prior to the enactment of the $787 billion American Reinvestment and Recovery Act of 2009 in February. The government’s tax and spending policies require the approval of a majority of the 100 senators and 435 members of the House of Representatives. And as we know, these 535 individuals sometimes confuse the people’s business with their own: getting re-elected.

True, which includes dealing with public opinion that is further jaded by unintentionally subversive articles like this one.

Preferred Stimuli

This time around, a new president with solid majorities in both Houses of Congress was able to saddle future generations with trillions of dollars of debt less than a month after he took office. The Congressional Budget Office projects the debt- to-GDP ratio rising to 70 percent in 2011, the highest since the early 1950s, when the U.S. was winding down the war effort.

You are including purchases of financial assets which is highly misleading and shows a further lack of understanding of public accounting.

If you believe, as I do, that monetary policy is the more potent of the stimuli, that fiscal “stimulus” just transfers spending from tomorrow to today and from the private sector to the government, with no net long-term gain, then maybe it’s time to stand up for the next generation.

And stand against the accounting identities.

Government deficits add directly non government savings of financial assets. To the penny.

Changes in interest rates only shift incomes between savers and investors.

And all the econometric evidence shows ‘monetary policy’ does little or nothing while fiscal policy is directly traced to changes in GDP.

Besides, where is it written that the ill effects of years of over-consumption and under-saving have to be repaired in a year? Instant gratification means future deprivation.

Over consumption? Did we consume more than we produced? No, investment remained positive during the growth years, which were years of high investment as well. That is not over consumption.

Now, with the recession and consumer pull back, is when investment is falling and we can be said to be thereby over consuming.

Word Choice

Fed Chairman Ben Bernanke used part of his June 3 testimony to the House Budget Committee to warn of the consequences of unchecked spending, even in the face of recession and financial instability.
“Unless we demonstrate a strong commitment to fiscal sustainability in the longer term, we will have neither financial stability nor healthy economic growth,” he said.

Yes, sadly, he’s in that camp as well. As is the entire administration if you believe their current rhetoric.

If it takes a marketing gimmick — labeling fiscal stimulus a “legacy of debt” — to convey the message to the public and Congress, so be it.

How about taking the effort to get it right and trying to undo the damage you’ve done…

(Caroline Baum, author of “Just What I Said,” is a Bloomberg News columnist. The opinions expressed are her own.)

Opinions are her own, as selectively published by Bloomberg News.


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