The Clintonomics trap.
Give or take a minor up-tick, the longer-term result will almost certainly be to reduce economic growth, cut job growth, and accelerate a longer historical trend toward profound economic stagnation and decay. Elements of this counter-intuitive result are no longer much in doubt. The main questions - big ones - involve how massive the effect will be.
The hope is that reducing the deficit will comfort the bond market, thereby reducing interest rates, and that this will, in turn, actually induce new investment to boost the economy. However, a number of specialists - but, as yet, few political observers - have begun to realize that the Clinton plan is radically anti-Keynesian Its design and current goal are to withdraw almost $400 billion in stimulus from the economy over the next four years. This fact has consequences.
It is a mistake to be misled by the modest economic upturn. As a number of bitter Republicans point out, the main course of the current mini-cycle was set during the last year of the Bush Presidency. Although Clinton's election probably helped spur some new confidence, the current "recovery" is extremely mild and unstable by historical standards, and is not likely to produce many new long-term jobs.
Historically, the rate of growth in the first year-and-a-half of a recovery has averaged 9.8 per cent, with unemployment falling by 1.8 per cent. This time, we're experiencing a slow-motion "recovery": In its first year-and-a-half, the economy grew at a rate of 2.9 per cent, while unemployment increased by 0.7 per cent. There has been a slight improvement in recent months, but a high proportion of the new "jobs" are part-time. A recent Blue Chip Economic Indicators survey projected 1993 growth of 3.1 per cent, yielding only a fractional fall in the average unemployment rate for the year as a whole.
The Clinton plan is especially problematic when we focus on the next four years. There is little doubt that it will reduce economic growth below what it would otherwise be, and that it will reduce job growth. Several recent forecasts have come to the same surprising conclusion. For instance, Allen Sinai, chief economist of the Boston Company, testified before Congress recently that Clinton's proposals would produce "a somewhat stronger economy in 1993, up by 0.2 percentage points, then weaker, with real GDP [gross domestic product] growth of approximately 0.4 percentage points a year from 1994 to 1997."
Lawrence Chimerine, senior economic counsel for DRI/McGraw-Hill, similarly testified that "the Administration program is likely to hold down economic growth during the next three to four years by between 0.2 per cent and 0.4 per cent per year, even after factoring in the impact of long-term interest rates. That would be true of any program that reduces the deficit. . . ." Another study by DRI/Mc-Graw-Hill predicts that the plan will create no new jobs this year and lead to a net loss of 250,000 jobs in 1994.
The main reason is obvious: The plan taxes more than it spends. It thus withdraws Government support and stimulus from the economy. That is its purpose.
I like many of the social, environmental, infrastructure, technological, and tax programs Clinton has proposed, but that is beside the point. Considered as a package (the way Clinton has asked us to consider it), the plan is fundamentally deflationary.
The budgetary concepts that undergird Clinton's economic strategy are, in fact, the same ones urged by the three Presidents whose policies paved the way for the Great Depression - Warren Harding, Calvin Coolidge, and Herbert Hoover. As late as 1933, Hoover held to the view that "it would steady the country greatly if there could be prompt assurance that . . . the budget will be unquestionably balanced."
Comparing Clinton's proposal with Ronald Reagan's policies is also instructive. Reagan was a radical military-Keynesian. He dramatically increased both Government military spending and tax cuts, providing a powerful stimulus to the economy. A recent study points out that the average rate of Government purchases of goods and services was 3.45 per cent between 1982 and 1988, with the corresponding growth rate for the economy as a whole at 3.86 per cent.
Clinton's plan moves in precisely the opposite direction. He projects Government growth at 0.96 per cent even as taxes are increasing - and he hopes this will lead to a growth rate for the economy of 2.77 per cent between 1993 and 1998.
I have stressed the word hopes because little long-term experience suggests this will actually happen. Indeed, the same study emphasizes a critical fact of Twentieth Century economic history: "There have been no extended periods of rapid economic growth in this century without rapid growth in Government purchases."
That an increase in government spending has historically boosted the economy (and that a decrease tends to slow it) is so well known that the real question is why so little attention has been paid to the implications of this central feature of the Clinton plan. The answers seem clear:
First, so much media and other attention has been focused on the deficit as a problem that reducing it has overwhelmed all other considerations. Second, Ross Perot and his supporters have made it much more difficult for any politician to advocate spending new money - whether or not this makes good economic sense.
Americans have been inundated by such massive propaganda on the deficit issue that it is all but impossible to sort out fact from fiction. For instance, individuals, families, businesses, and most state and local governments draw a sharp distinction between current expenditures for current consumption on the one hand, and capital expenditures for long-term investment on the other. Few families would lump spending on groceries together with what they paid for their home and say they are running a massive "deficit" because they have a large mortgage loan.
Many studies have shown that if the Federal Government were to keep its books in a rational manner, the so-called deficit would collapse to exceedingly modest proportions. One study using standard business accounting procedures, for instance, estimated the 1991 operating deficit for all levels of government at $24 billion - after a $25 billion surplus in 1990. Following such accounting methods, the 1992 operating deficit was probably no greater than $100 billion - a figure largely attributable to tax losses caused by recession-level unemployment.
Our myopic public dialogue also regularly ignores the fact that Social Security "entitlement" programs are managed by trust funds that are not in deficit but are, in fact, running substantial surpluses - and are projected to continue to do so until the year 2036. (The Medicare trust fund, due to run out by the end of this decade, is an exception.)
Even by the present misleading accounting methods, the U.S. deficit is not particularly unusual when compared with the experience of many other nations. It currently stands at 4.8 per cent of gross national product. Britain ran a deficit of 4.4 per cent of GNP in 1983 and 5.6 per cent in 1979. Japan's deficit was 5. 1976, 7.0 per cent in 1980, and 6.7 per cent in 1983. The Netherlands' deficit averaged 5.2 per cent in the 1980-1989 period.
As Robert Eisner, a recent president of the American Economic Association, has observed, if we take into account the appreciating value of important Government assets - land, buildings, forests, and oil, gas and mineral reserves on public property - the increase in the Government's wealth over time has approximately kept pace with the increase in its borrowing. Changes in the Federal Government's balance sheet have not been negative by most comprehensive reckonings.
From a different perspective, consider how little the pure economics of the deficit matters when the country decides to go to war: The deficit increased massively, of course, during World War II. During the Korean war, it rose from a $6.5 billion surplus in 1951 to a $7.1 billion deficit in 1953. The deficit was 2.9 per cent of GNP in 1968 and would have increased more during the Vietnam war except for sleight-of-hand accounting which, in effect, borrowed from the public trust funds to pay military costs.
Recent wartime booms illustrate another obvious way of handling the deficit when there is sufficient political will to do so: A very substantial (rather than token) increase in the near-term deficit which stimulates strong growth can be recouped in the "out years" by increasing taxes when businesses are booming and people are working full-time jobs. Such a policy has many expert advocates but little political feasibility at the moment.
The U.S. Government, even during the conservative Bush Presidency, pressed the Japanese government to spend more money and increase its deficit in order to help stimulate global economic growth (and U.S. exports).
The Japanese have, in fact, just announced a $117 billion stimulus package - roughly four times larger than Clinton's initial proposal of a $31 billion stimulus and roughly eight times larger than his rejected compromise proposal of $14 billion. Furthermore, the impact of the Japanese package on a far smaller economy will be greater still.
In short, as many nations have shown, there is no doubt that the economics of the deficit can be managed when there is a political capacity to do so. Moreover, it is clear that high growth can generate sufficient productivity gains to undercut inflationary pressures: U.S. unemployment averaged 4.8 per cent during the 1960s with prices increasing at an annual rate of only 2.3 per cent.
There is also no doubt, however, that the deficit issue currently dominates everything, despite such facts. Its central rather than secondary role in American politics is a reflection, I believe, of the simple fact that our political culture has moved far to the right since Richard Nixon proclaimed in 1971, "We are now Keynesians."
The decline of private-sector union strength to a mere 11.9 per cent of eligible employees, the rise of new (overt and covert) racist themes in politics, and the waning influence of central cities have been devastating to the old political coalition that once supported liberal Keynesian doctrine. Perot's 1992 campaign, which reaped 19 per cent of the vote, was essentially the result of the trajectory of steadily weakening unions and cities and increasingly strong suburbs - and no President, no matter how Keynesian his advisers might be, can afford to ignore the new reality.
The fact that even Clinton's pitifully small stimulus package went down to defeat in the Senate is powerful testimony to the strength of the political forces at work.
The painful truth is there have been no extended periods of rapid economic growth in this century without rapid growth in Government purchases. During three critical periods of the century, the form of public spending that helped generate high growth was spending for war. The economy was in deep trouble in the first quarter of the century until World War I jolted it out of the near-depression of the 1911-1914 period. Military expenditures rose to 27.7 per cent of GNP in 1919.
In the second quarter of the century, World War II pulled the American economic system out of its massive Depression collapse. Military spending rose to almost 39 per cent of GNP. Moreover, for several years after the actual fighting, the U.S. economy was fueled by wartime savings at home and by spending to rebuild war-devastated Europe and Japan abroad.
The third quarter of the century gave us the Korean war, the Cold War, and the Vietnam war. Military spending peaked at just under 14 per cent of GNP during the Korean war and reached roughly 9 per cent of GNP during Vietnam.
A major problem of our final quarter of the Twentieth Century is almost 180 degrees the reverse of the conventional wisdom that Government spending is too high. From a historical perspective, the difficulty is not only that it is too low, but that its rate of growth has leveled off dramatically.
Total government spending (including expenditures by states and localities) was less than 8 per cent of the GNP in 1900. It rose to approximately 12 per cent by 1929 and was 21 per cent in 1948. Thereafter it climbed steadily to 33.2 per cent in 1975. In the final quarter of the century, however, it stalled: In 1991, it was still only 34.1 per cent. On its own, the Federal Government's share of GNP grew only a tad - less than I per cent from 1975 to 1991, from 22.8 per cent to 23.4 per cent of GNP. Under the Clinton plan the Federal government's share of GNP will shrink by roughly another percentage point, give or take a fraction depending upon which statistical projections turn out to be correct.
The tapering off has occurred in several areas, but reduced military spending has been especially significant in the latest decline, and will be an even more important negative trend now that the Cold War is over. Military spending averaged 10 per cent of GNP during the 1950s. It fell to 8 per cent during the 1960s, and to roughly 6 per cent during the 1970s and 1980s. It was projected to dwindle to 3.9 per cent in 1996 even under the Bush plan. If Clinton's proposed cuts are achieved, it will fall to 3.6 per cent by 1996. To put these figures into perspective: Total government spending as a share of GNP in the European welfare states has ranged in recent years from about 43 per cent in Germany to 49 per cent in France and 58 per cent in Sweden.
If the record of the Twentieth Century is any guide, the tapering off and projected decline of Government support for the economy is a recipe for long-term disaster - or, minimally, for ongoing economic stagnation. However, the situation may be even worse as we enter the approach period to the new century. Three additional underlying long-term trends may make Government spending even more important in the future than in the past.
First, modern technologies are, for better or worse, far too cheap to do the kind of work they used to do in stimulating the economy. In the days when huge steel mills gobbled up investment and put thousands of people to work, the "investment" share of the economy was approximately 20 per cent. Computers and modern electronics produce far more technically productive bang for the buck, but far fewer jobs and far less economic stimulus. Thus, gross private investment as a share of the economy has slumped to 15.5 per cent over the last several decades and has been even less in the most recent years-12.7 per cent in 1991 and 13.0 pet cent in the third quarter of 1992. We just don't need to spend as much on machinery and factories any more.
Unless something takes the place of this gap in spending, however, there is bound to be economic distress-and the difficulty is that the available "somethings" are also in trouble.
Economists usually discuss the distribution of income in terms of fairness, equity, and adequate incentives to get the job done. Everyone knows, of course, that for some time the distribution of income has become steadily more regressive: the top 10 per cent, for instance, had 28.4 per cent of after-tax income in 1977 and 34.6 per cent in 1989. Under the Clinton proposal, it is "hoped" this will slip a bit, but only a bit, as families making over $200,000 experience an effective tax increase of 2.9 per cent, or about $16,000.
From a purely economic standpoint, the problem is that although poor people spend every bit of additional money they get, the rich can't and don't - at least not sufficiently to take up the economic slack. If rich people receive more money, many simply bank it.
The trend of steadily increasing inequality thus has a powerful effect on the overall economy, and on jobs: It reduces the amount of money in circulation (or the "multiplier" effect which occurs when someone buys bread from the baker who, in turn, buys a television set from the appliance dealer who, in turn . . . ). Less rather than more economic slack has been taken up in recent decades from consumer spending because of this factor. (In this regard. Federal interest payments to domestic and foreign owners of capital amounted to $199.4 billion in 1992.)
Foreigners buying American goods and services might also help take up the economic slack, but here there is even worse news: The value of goods and services we have been buying from foreigners (stimulating their economies) has far exceeded what they have been buying from us. In 1992, the estimated merchandise trade deficit was $91.2 billion. This, too, is a reversal of historic experience: We used to sell more abroad than we bought. In fact, the United States ran a total merchandise trade surplus in every year of this century until 1971, when the long-term trend reversed.
So if the Government sector is stalled or trailing off, if growing inequality of income means less money in the hands of people who circulate it, and if foreigners are hurting rather than helping us, what is to be done?
The Clinton hope is that low interest rates will do just about everything. "if there's anything that this program is directed at," chairman of the National Economic Council Robert Rubin recently declared, "it's interest rates."
There is little doubt that a reduction of interest rates can help some sectors - housing in particular - but the idea that it can help a great deal flies in the face of historical experience. No business will invest much in new equipment, even with low rates, if it doesn't believe there will be customers to buy what it produces. One Wall Street insider recently put this obvious point rather bluntly: "Job-creating investment is influenced more by market demand and profit prospects than by interest rates."
A half-century ago, both Harvard's leading liberal and leading conservative economists (Alvin Hansen and Joseph Schumpeter) urged alternative theories which converged around the argument that persistent stagnation was inevitable under capitalism - the result of a chronic state of weak consumption or a recurrent failure of investment, or both. Hansen pointed to the end of the American frontier, and the lack thereafter of adequate consumption and investment, as enduring problems. Schumpeter's historical analysis suggested the inevitability of recurrent periods of stagnation lasting up to forty years.
Each argued in his own way that, contrary to conventional theory, our economy is not self-correcting; it will not always come out of stagnation on its own, even if interest rates drop a bit. The economy might simply keep decaying.
One world war, two medium-sized hot wars, and one Cold War interrupted the historical context in which these dismaying assessments were first offered. It seems, however, that the fundamental insight may well have been accurate. Even before Clinton took office, a slowly deepening pattern of stagnation was evident in the American economy.
Government appears to be the only sector capable of truly leading the economy in our emerging predicament. Hence, a slowdown in the rate of governmental growth, with a resulting reduction of public spending as a share of the GNP, is likely to worsen the economic trajectory over the coming years.
Our political system does not seem able at this stage of history to permit us to deal with the danger. The Clinton plan is almost certainly the best rather than the worst we might expect under current political constraints.
Unfortunately, we will probably have to endure a long, stagnating, painful period of development before the kind of politics that can support a vibrant economic program will be possible in the United States.
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|Date:||Jun 1, 1993|
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