Krugman and "Fiscal Scare Tactics"
I don’t like to start fights with Nobel prizewinners in economics, especially with one who is usually right, but I have a bone to pick with Paul Krugman on the topic of “fiscal scare tactics.”
For months now, Krugman has argued that Republicans and their lapdog followers in the press have been hyping the dangers posed by soaring federal deficits and debt.
“There’s no reason to panic about budget prospects for the next few years, or even for the next decade,” he wrote in his Times column on February 4. Given the magnitude of this recession, Krugman argues, we absolutely should be running huge deficits in order to prevent an even bigger cataclysm.
Last Friday, Krugman followed up with a post on his blog entitled “Debt is a political issue.” There he explained that the Federal debt, now approaching 60 percent of GDP, wouldn’t pose a huge burden even it jumped to 100 percent of GDP. After inflation, the Treasury’s real interest rate is only about 1.5 percent.
If you do the arithmetic of debt service, that really does seem to suggest that debt isn’t a problem….All the government has to do is pay the real interest on it. So suppose that we add debt equal to 100 percent of GDP, which is much more than currently projected; servicing that debt should cost only 1.4 percent of GDP, or 7 percent of federal spending. Why should that be intolerable?
Now, I agree with Krugman’s broader arguments. No serious economist thinks it would be a good idea to slash spending and deficits yet. At best, that would choke off the feeble recovery. At worst, we would plunge back into a deep recession.
I also agree that Republicans, most of them latter-day converts to fiscal piety, are hypocritically whipping up hysteria to advance two dubious goals: 1) discredit President Obama, even though he inherited today’s mess from Bush; 2) attack Social Security, Medicare and Obama’s health care reform as threats to freedom-loving Americans.
But Krugman doesn’t stop there. Perhaps because he’s convinced this is a political battle, he resorts to gimmicky arguments to make a simplistic case that there really isn’t much of a deficit problem at all.
As a result, I think he undermines his credibility by sounding like a propagandist rather than the truth-teller he usually is.
Full disclosure: Krugman attacked an article that I wrote on the “debt bomb’’ in the New York Times back in November. He called it “alarmist’’ to write about the projected surge in interest expense to $700 billion a year by 2019.
But I’m writing today about two more recent pieces. On February 4, he explained why there was “no reason” to panic about the budget for the next few years “or even for the next decade.”
His evidence? The White House projection of $700 billion in annual interest expenses, 10 years from now, would equal only 3.5 percent of G.D.P. “How scary is that?” Krugman wrote. “It’s about the same as net interest costs under the first President Bush.”
Well, no, it’s not even close to the same. Under Bush, that debt burden occurred when the US was just crawling out from the back-to-back recessions of 1990 and 1991. As Krugman would say, that’s exactly when you would want big deficits and, if necessary, high interest payments.
By contrast, the interest-expense projections we’re talking about here -- which come from the White House and CBO -- are for 2020 and assume that we will have enjoyed TEN YEARS of steady economic expansion. That’s exactly when you’re not supposed to have high deficits.
On Friday, Krugman made another dubious comparison. This time, he threw up a chart showing that the United Kingdom’s public debt shot up to 250 percent of GDP during World War II and then plunged back to normal levels after 1950.
If it worked for the Brits, it ought to be fine for us too, right? No, and for a similar reason as before. In 1950, the British economy had been bombed almost to oblivion. By definition, the debt-GDP ratio was incredibly high because GDP was incredibly low. With the war over, GDP had nowhere to go but straight up. It was the absolute perfect moment to have high debt.
The United States is in almost the opposite situation. Our debt is now approach 60 percent of GDP and it could approach 80 percent by 2020. But again, that would be after 10 years of steady growth.
To cement his case, Krugman also argued on Friday that the Treasury’s cost of borrowing is incredibly cheap. Real interest rates on 10-year bonds, after adjusting for inflation, are only about 1.5 percent. What’s so scary about that?
The trouble, of course, is that interest rates are heading up. If everything goes perfectly and the economy recovers without a surge of inflation, the betting is that nominal 10-year rates will top 5 percent in a year or so -- 3 percent, if you stick with “real’’ rates and discount for inflation.
The outlook gets a lot uglier if things don’t go so swell. If foreign investors get nervous, or inflation expectations come unhinged, or the rating agencies knock down the U.S.’s AAA rating, it’s anybody’s guess what kind of a risk premium gets attached to US borrowing.
Krugman admits this. “If bond investors start to lose confidence…. they’ll demand higher rates, which requires much larger primary surpluses, and you can go into a death spiral.”
That’s what worries a lot of smart people who aren’t Republican charlatans but are worried about deficits. They don't want to slash this year's deficit or next year's. They want to see a credible gameplan over the next five to ten years for regaining control over what the CBO flatly describes as the current “unsustainable’’ trend.
I have to believe Krugman thinks the same thing. But because he’s so worried about Macchiavellian fear-mongering by Republicans, he ends up sounding less than honest himself.
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The Debt Again
It would be helpful if the federal data were too include the off balance sheet debt obligations of the government, e.g., Freddie, Fannie, the other GSAa, etc., in order to have a clear picture of the total debt explicitly and implicitly guaranteed by the taxpayer.
this doesn't seem correct
"By contrast, the interest-expense projections we’re talking about here -- which come from the White House and CBO -- are for 2020 and assume that we will have enjoyed TEN YEARS of steady economic expansion. That’s exactly when you’re not supposed to have high deficits."
It looks to me like you are equating high deficits and high interest payments here, which isn't correct.
Fiscal scare tactics?
Krugman's saying people would whip up "debt hysteria" just for partisan political purposes?
For instance -- a few years back when both debt and deficit projections were far less bad than today, but the other party was in power --- like this?
~~~~
I'm terrified about what will happen to interest rates once financial markets wake up to the implications of skyrocketing budget deficits ... we're looking at a fiscal crisis that will drive interest rates sky-high...
But what's really scary ... is the looming threat to the federal government's solvency.
That may sound alarmist: right now the deficit, while huge in absolute terms, is only 2, make that 3, O.K., maybe 4 percent of G.D.P.
But that misses the point ... because of the future liabilities of Social Security and Medicare, the true budget picture is much worse than the conventional deficit numbers suggest ... the conclusion is inescapable...
The accident, the fiscal train wreck, is already under way.
How will the train wreck play itself out? ... my prediction is that politicians will eventually be tempted to resolve the crisis the way irresponsible governments usually do: by printing money, both to pay current bills and to inflate away debt. And as that temptation becomes obvious, interest rates will soar.
... investors still can't believe that the leaders of the United States are acting like the rulers of a banana republic. But I've done the math, and reached my own conclusions....
~~~~
Who was that?
One of the entertaining things about Krugman is how often he accuses other people of being just like him.
Is it the argument or the time frame?
If Krugman were saying 5 years instead of 10, would you still disagree with him?
It seems to me that we should be planning for controlling the deficit, but the controls should not go into place until after the current economic crisis is well past. Politically, it's also somewhat easier to do things down the road.
Just what *should* be the time frame on deficit reduction starting from the economic doldrums that we are in today?
Two years?
Three years?
Five years?
Why must interest rates rise?
Why must interest rates rise? If inflation becomes a problem, why not use fiscal policy?
Manipulation
Wealthy special interests lobby and run misinformation campaigns to maintain the special tax breaks for the wealthy, no bid contracts and to keep tax rates on the wealthy as low as possible. They prefer cyclical policy- deficit spend (especially on welfare for the wealthy) during the economic expansions and then use recessions to build support (or excuses) for cuts to popular and essential services that the majority of people would ordinarily resist.
Their strategy has been to shift as much of the tax burden as possible onto the lower and middle class and reduce or eliminate as much government service for the lower and middle class as possible. This was the beauty of Reagan. Massive tax cuts for the wealthy were accompanied by massive payroll tax increases for the working class and user fees for services aimed at the lower classes. Their idea is to reduce the value of government to citizens at the bottom of the economic ladder in order to build support for their tax and spending system that takes from the poor and middle class and makes the wealthy into politically powerful super rich. Representative Ryan has done a great service in putting forward on paper, the Republican tax policy vision that favors the wealthy over the middle class.
The wealthy are waging class warfare on the rest of this. This is done in part through a misinformation campaign to make it difficult for the public to determine which policies serve the public interest and which policies serve the wealth special interests. Since the wealthy special interests own all the media, the public has few good sources of information.
Their misinformation campaign is designed to confuse the long term structural deficit problems in the US with the short term deficit. As the budget wonks can tell you, the Bush tax cuts for the wealthy turned surplus revenue into an unsustainable revenue shortfall. The long term problem is the growth in health care spending, not just government spending but all spending. The misinformation campaign conflates the short term deficit (primarily caused by short term, recession-linked revenue shortfall) and the long term deficit issues created failure to contain health care spending and by lowering the top tax bracket and special tax cuts for the wealthy.
Wealthy special interests are trying to protect their cash cows in medical insurance and the health care industry that delivers obscene salaries to their overpaid multi-millionaire CEOs. Doctors must pay outrageous fees to student loan sharks to join the club. Once in the club, the public pays for doctors to make top dollar and the public pays off their loan sharks.
As a way to protect payments and tax breaks to wealthy special interests, the class warfare propaganda tries to conflate our long term revenue and health care spending problems with an attack on all domestic programs, including those that are essential to workforce development. Since 1980, greedy wealthy plutocrats have pushed so much of the burden for basic workforce development onto the individual that the whole economy has collapsed under the weight of unsustainable levels of personal debt. Attempts to reign in the loan sharks are met with more lobbying and campaign donations to politicians that protect the status quo.
The wealthy special interests are fine with the US government running deficits. The government handouts to the wealthy continue and holding government bonds and collecting interest on the debt instead of collecting that money from the wealthy in tax revenues is just more gravy in the government welfare for the wealthy.
Writing about the deficit as a problem in the abstract plays into the hands of the wealthy special interests who co opt untargeted messages for their own misinformation campaign. The wealthy special interests don't care about debt reduction and helping them out creates a political environment where debt reduction is even less possible.
It is misleading to write about deficit problems UNLESS the deficit is specifically linked to rising health care costs or the need to end the unsustainable Bush tax cuts.