Fiscal Stimulus

Bruce Bartlett:

The LA Times asked me and a bunch of people far more distinguished than myself what could be done to stimulate growth in 300 words. Although I think there is a case for further fiscal stimulus, I didn't see any point in saying so since the political chances of that were zero even before Republicans won control of the House.

I get this, of course. Still, it's kind of too bad Bruce didn't say it anyway. Sometimes I think that we reality-based folks cave in to reality a little too quickly. It may be true that we're not going to get more fiscal stimulus anytime soon, but if that option is being shut down by congressional know-nothings then at least it should be clear to everyone just how many people believe it's really our first best option and why we're not getting it. If the public thinks it's just Paul Krugman yelling about stimulus, that's one thing. If they know that it's actually a pretty mainstream position outside of the tea party right, that's quite another. And in the end, public opinion matters.

Lisa Mascaro writes in the LA Times that Democrats are lowering their sights for the lame duck session:

Gone is any hint that Democrats will try to ram through the rest of the ambitious legislative goals President Obama outlined two years ago when he took office with a Democratic majority in both chambers. No one, for example, is talking about a controversial bill to reduce global warming pollution with a cap-and-trade system.

Still, Democrats are intent on closing out the 111th Congress with a few final strokes that could provide a fitting coda to what historians have called one of the most productive sessions in a generation. Despite electoral losses that handed control of the House to Republicans and diminished Democrats' majority in the Senate, Democratic leaders are pressing an agenda that would extend middle-class tax cuts, fund the government and perhaps repeal the ban on openly gay men and women serving in the military.

I never believed for a second that Democrats could pass cap-and-trade, immigration reform, or card check during the lame duck session. It was a fantasy. If they couldn't do it during the regular session, what made anyone think they could do it during a lame duck?

Frankly, if they can pass a tax plan and repeal DADT, I'd consider that a pretty productive lame duck session. I'd even propose a deal that a few moderate Republicans might be open to: extend all the Bush tax cuts for three years in return for passage of the funding bills, including DADT repeal. If Democrats managed to do that, and possibly get Senate approval of New START too, it would go a long way toward showing that they haven't been entirely cowed by their "shellacking."

Empowering Women

Dani Rodrik notes the surprising news that among the countries that have most improved their human development indicators since 1970, the stars are mostly Muslim countries, including several in North Africa:

What was their secret? Determined policies to expand educational opportunities and access to health along with a willingness to depart from the conventional wisdom of the day and experiment with their own remedies. Even though all three North African countries are Moslem, empowering of women seems to have played an important role as well:

There is now substantial evidence that the health and schooling of children can be raised by empowering women, and this is precisely what Tunisia did when it raised the minimum age for marriage, revoked the colonial ban on imports of contraceptives, instituted the first family planning programme in Africa, legalized abortion, made polygamy illegal, and gave women the right to divorce as well as the right to stand and vote for election.

This comes up repeatedly. As near as I can tell, the single most important thing that developing countries can do to ensure themselves a brighter future is to educate and empower women. I'm not sure there's even a close second.

The Uncertainty Meme

Why does the economy continue to suck? The LA Times is hosting a symposium on the topic today, and USC business professor Ayse Imrohoroglu says the answer is uncertainty:

Businesses don't know what will happen to interest rates. They have trouble calculating what new workers will cost in light of potential new healthcare mandates and costs. They don't know what will happen to tax rates, which could rise dramatically. They are uncertain about increasing financial regulation and the possibility of a carbon tax. And as if that isn't enough, the soaring deficits and national debt raise very real questions about the federal government's long-term ability to meet its debt obligations.

OK, let's take these one by one:

  • Interest rates will remain very low for a very long time. The Fed has made this as clear as any central bank possibly could.
  • PPACA has no impact on small businesses and only a minuscule impact on large businesses. Medium-sized businesses face a modest penalty if their workers use federal subsidies to enroll in private insurance programs via the exchange. In other words, the overall financial impact on the business community is pretty modest. What's more, there's really not much uncertainty here. The broad impact of PPACA's rules is already clear, and they don't take effect until 2014 anyway. This is not having a significant impact on business investment decisions in 2010.
  • There's no excuse for Congress leaving tax policy up in the air for as long as it has. But even with that said, the Bush tax cuts affected personal tax rates, not business rates. And despite demagoguing to the contrary, even if the Bush tax cuts expire completely the effect on small businesses would be close to zero.
  • Financial reform was a fairly modest affair, and in any case its effect is almost entirely restricted to the financial sector. Its effect on the rest of the business community is slight.
  • There is no possibility in the near future of a carbon tax.
  • There is no question about the federal government's long-term ability to meet its debt obligations, and even if there were this would have very little effect on short-term investment decisions by American businesses.

The uncertainty meme is just mind boggling. Businesses always have a certain amount of regulatory uncertainty to deal with, and there's simply no evidence that this uncertainty is any greater now than it usually is. (It is, of course, entirely believable that business owners who spend too much time watching Fox or reading the Wall Street Journal editorial page might believe otherwise, but that's a whole different problem — and one that Imrohoroglu should spend his time debunking, not promoting.) The only significant real uncertainty that American businesses face right now is financial uncertainty: that is, whether there will be enough consumer demand next year to justify hiring more workers and buying more equipment today. PPACA and carbon taxes rank very far down the list.

UPDATE: Let me add something that I just mentioned in an email to a friend. The main sources of regulatory change during Obama's term so far have been PPACA and financial reform. During George Bush's first five years, he approved No Child Left Behind, the PATRIOT Act, McCain-Feingold, Sarbanes-Oxley, the Homeland Security reorganization, Medicare Part D, bankruptcy reform, and two big tax bills. He also tried and failed to pass major changes to Social Security. And all this was in addition to the usual background hum of agency regulatory hearings and rulemaking changes — including a heap of financial deregulation that eventually contributed to an epic banking meltdown.

And yet, no one complained about regulatory uncertainty back then. Why? Because the economy was growing. Businesses like some regulatory changes and dislike others, but it's mainly financial uncertainty that keeps them from hiring and investing.

The Great IOR Mystery

I'd like to second this comment from Matt Yglesias:

If the country’s political press could redirect 10 percent of the attention currently being paid to the House Democratic leadership race and the GOP pre-campaign for 2012 to one thing I would suggest the Federal Reserve’s interest on reserves program.

....In late 2008, the Fed for the first time ever said that if banks wanted to hold extra reserves they would get interest payments in exchange for doing so. Then they raised the interest rate. And then they raised it again. Via Scott Sumner, Louis Woodhill makes a very strong argument that this has been a massively underrated factor in producing the recession. The IOR payments led to a steep decline in the velocity of money, which in turn led to a collapse in Aggregate Demand.

Now, I think Woodhill's argument is overstated in two ways. First, the Fed didn't just raise the IOR rate and then raise it again. The IOR rate is based on the fed funds rate, and the Fed raised the IOR rate at the same time that it was reducing the fed funds rate, producing a sort of choppy up and down trajectory for a couple of months in 2008. Overall, though, between October and December of 2008 the nominal IOR rate dropped from 0.75% to 0.25%.

Second, I have my doubts that this was responsible for the great collapse of 2008. Woodhill bases his argument on coincidental drops in stock market prices, but this is fairly weak tea. The stock market was both very volatile and generally falling during this entire period, and the drops following the IOR increases were made up pretty quickly. It's not impossible that the fluctuation in the IOR rate was driving some of the stock market changes, but the evidence is thin. [See update below.]

That said, however, the general argument here seems unassailable: regardless of whether bouncing IOR rates affected the stock market badly in 2008, the fact that the IOR rate today is greater than zero seems very, very strange. As Woodhill says:

The Fed knows that IOR is contractionary. Chairman Bernanke has testified that raising the IOR interest rate is one option for fighting inflation. Two Fed staff economists issued a report in July 2009 ("Why Are Banks Holding So Many Excess Reserves?") that describes how paying IOR at the Fed Funds target rate would stop the "money multiplier" process dead in its tracks.

....In the absence of IOR, there is an incentive for anyone who receives a dollar to immediately pass it on by doing another transaction. There is also an incentive for banks to lend out their excess reserves....The payment of IOR at an "above market" interest rate (which has been the case for the past two years) short-circuits the processes described above. IOR creates a "roach motel" for money — the dollars go in and they don't come out.

In other words, if the IOR rate is zero, banks might as well lend their money and hope to make a profit on it. It's better than nothing. Conversely, if they can earn a safe return on their reserves just by parking them at the Fed, that might seem like the better deal. And so credit tightens and businesses have a hard time getting loans.

Control over the IOR rate, which was given to the Fed in 2006, is an important monetary lever. So why would the Fed announce a quantitative easing program designed to stimulate a weak economy at the same time that it keeps the IOR level set at a mildly contractionary level? It doesn't make sense. Once the Fed has officially announced that it believes the economy is stuck ("Pace of recovery...continues to be slow...high unemployment, modest income growth, lower housing wealth, and tight credit....Employers remain reluctant to add to payrolls. Housing starts continue to be depressed"), why wouldn't it use the IOR lever in addition to the QE lever? Why have them pointing in opposite directions?

I suppose one reason this doesn't get very much attention is that there's nothing much to say about it. The Fed won't comment on it, members of Congress are mostly unaware it even exists, Glenn Beck hasn't devoted a show to it, and there's nothing to say in a news story other than "once again, the Fed has taken no action on the IOR rate." Your editor won't let you write that story very often.

Still, it's a pretty interesting question. Why is the IOR rate still stuck at 0.25% instead of zero? Is it because the Fed believes that lending is constrained by demand and the IOR rate isn't playing a role? Is it because they think providing a steady source of profit for the banking system is still Job 1? Is it because they consider IOR's effect on lending to be pretty trivial at 0.25% and not worth bothering with? Or what? It is indeed mysterious.

UPDATE: My intent in this post was to agree with Matt Yglesias's point about the IOR rate being too high without also implicitly buying into the Louis Woodhill argument that he links to. That's the only reason I spent any time on it at all. However, Niklas Blanchard thinks my skepticism was too mild:

IOR policy wasn’t the driver of the collapse in 2008, inadvertently tight monetary policy was. If you are hardcore about monetary disequilibrium, like I am, then that was the key to the entire recession (contra what was happening with financial intermediation). The IOR policy was just heaping gasoline on a fire, so to speak.

I mostly agree, and I should have been more pointed about this. The great collapse of 2008 was largely driven by economic fundamentals. Regulatory issues played a role in making the collapse worse than it had to be, but it would have happened regardless. Likewise, IOR fluctuations may have affected stock market prices in late 2008 — though even that's not indisputable — but the recession had been underway for nearly a year by that time, the financial system had come close to collapse a month earlier, and the IOR policy, at worst, might have made things slightly worse. The argument that it caused the collapse just doesn't hold water.

Derek Thompson is disappointed with liberal reaction to the deficit commission report. For example, liberals like me:

The third most frustrating criticism comes from folks like Kevin Drum, who claims that any effort to reduce the deficit that isn't 98% health care reform isn't serious. The fact is, there are no feasible ways to definitively curb health care inflation starting today (if Kevin has some in mind we need to hear them!). We can shoot a thousand arrows at the medical inflation monster — health care reform, to its great credit, does. We can nudge providers and customers away from pay-for-service, which rewards over-treatment. We can increase cost-sharing to help patients react to prices, increase transparency and quality through exchanges, and so on. But these are efforts, not answers. If we waited for the messianic Answer to health care inflation, we might never act on the budget. I can't imagine that's what Kevin would prefer. Instead, we should make the changes we can make today, slowly.

This is fair up to a point. But only up to a point. Here's the problem: most plans to reduce the long-term deficit consist of three things: shiny baubles, smoke and mirrors, and actual deficit reduction measures. You want to minimize the former and emphasize the latter, and on that score I don't think Simpson-Bowles does very well.

Their discretionary cuts are a combination of baubles and smoke and mirrors. The baubles are the trivia, like cutting printing costs and eliminating earmarks. The smoke and mirrors comes from vague non-choices like cutting the federal workforce 10% or pretending that a spending cap will actually accomplish anything. Discretionary spending isn't really a long-term problem in the first place, but if you're going to address it anyway, then address it by proposing actual program cuts. You think manned space exploration is a boondoggle and you want to cut NASA's budget in half? Fine. You think ethanol subsidies are outrageous and you want to eliminate them? Great. You think our nation would be safe with nine supercarrier groups instead of a dozen? Preach it. But that's what it takes to cut the discretionary budget: cuts to real programs, not handwaving about caps and generic rollbacks.

Next up are their tax reform proposals, which are almost entirely smoke and mirrors. You can make any deficit reduction plan easier by proposing a tax system that (you claim) will boost growth rates by 1% per year. Run that out over 50 years and economic growth will take care of half your problem. Hooray! But the evidence that this will actually happen is close to zero. Our current tax system just isn't that inefficient. Pretending that a better tax regime will supercharge economic growth isn't as bad as relying on the infamous troika of waste, fraud, and abuse, but it's close.

Their Social Security proposal is.....actually not bad. With one change I could probably accept it as is.1 Still, even though I favor taking action on Social Security now, this is basically a bauble. It's reponsible for only a small part of the long-term deficit, and it's not something that rises forever. It's a one-time increase associated with the retirement of the baby boomer generation.

And then you get to healthcare. This is the big one. This is 90% of our long-term deficit problem. I don't have any real problem with tackling inefficient discretionary programs or sprucing up the tax code or fixing Social Security. But burbling on at length about this stuff mainly serves to allow us to avoid talking about our real problem. Because, as Derek says, it's too hard. But that's like an alcoholic nattering on about putting a taxi service on speed dial or remembering to take his vitamins every day. Those are great ideas, but they're basically distractions that prevent you from facing up to the fact that you need to stop getting hammered every night.

The whole point of a deficit reduction commission is that they can address the hard truths that a bunch of politicians can't. If Simpson-Bowles were really dedicated to hard truths, their report would have said two things in no uncertain terms. First, we're not going to waste too much time on discretionary spending or Social Security. They're shiny baubles that distract us. So here are links to half a dozen good plans for reining in both of them. Go ahead and read them at your leisure.

Second, healthcare costs are going up. We're getting older, medical technology is advancing, and the spending curve on healthcare heads to infinity if we don't do something about it. So we've decided that essentially our entire report is going to be about healthcare because we want to rub your faces in the fact that you have to deal with it whether you like it or not. This means, at a minimum, two things: (1) distilling the best ideas around for reining in rising healthcare costs, and (2) acknowledging that costs are going to go up anyway and we're going to have to raise taxes to deal with it.

But as hard truths go, I guess that's a little too hard. Tax increases! Paying doctors less! Telling the American public that they can't have every procedure they want just because they want it! Besides, we just spent over a year passing healthcare reform, and we're all exhausted. PPACA made only modest progress on cost controls, and that was hard enough. Better to just do some handwaving about a cap on growth rates and call it a day.

I get it. No one wants to dive back into that briar patch right now. But that's too bad. So go ahead: take a whack at reducing discretionary spending by 2% if it makes you feel virtuous. Go ahead and reform the tax code. It needs it. And sure, fix Social Security just as a warmup to prove that you can hit AA pitching before you move on to the show.

But don't pretend that you've really done much of anything about the long-term deficit. For that, we're going to need a whole bunch of straight talk about tax hikes nobody likes and cost controls that everybody hates. But isn't straight talk like that exactly what Simpson and Bowles were supposed to give us?

1I would ditch the increase to the retirement age and pay for it by gradually increasing payroll tax contributions from 12.4% to 13%. The rest of their proposal strikes me as fairly reasonable.

On the left, Inkblot has claimed ownership of the newly reupholstered reading chair. Surprisingly, it took him a couple of days. Usually it takes more like a couple of minutes when something new comes through the door. In any case, it's his now. On the right, Domino takes advantage of our current November warm spell to enjoy the outdoor sunshine while she can.

In other feline news, four engineers have finally figured out how cats lap up water. Dogs, of course, merely scoop it up crudely in their tongues, but cats, it turns out, have a far more elegant method based on subtle considerations of fluid dynamics, a remarkably fast tongue speed of 78 cm/sec, and the need to keep their whiskers dry. Pretty much as you'd expect. Explanation and pictures here. There's even a formula for lapping frequency:

This turns out to be about 3.5 times per second for your average housecat, somewhat less for your kings of the jungle. So be sure to take a closer look the next time your cat ambles on by to the water dish. It's all in the name of science.

I am, of course, thrilled to see conservatives beating each other senseless over earmark reform. They've spent years demagoguing Democrats over it, and the spectacle of Sen. James Inhofe now complaining that he's being demagogued over earmarks is pretty priceless. Still, Inhofe makes an unassailable point: earmarks direct spending, they don't increase it. Actual overall appropriation levels are set separately, and earmarks merely take a bit of spending authority away from the federal bureaucracy and hand it directly to members of Congress. Over at The Corner, however, Stephen Spruiell offers a novel argument about why Inhofe is wrong:

Proponents of reform will readily concede that earmarks direct rather than add spending. But that is the problem: As long as powerful appropriators are getting to direct their share, they are less concerned with the overall size of the spending package. I think it’s fairly hard to dispute that point. The number of congressional earmarks doubled between 2001 and 2005, coinciding exactly with the years that congressional Republicans let non-defense discretionary spending grow at a rate not seen since the early seventies.

Senator Inhofe attempts to minimize the importance of this correlation by producing one of his own: “Over the course of the last several years, the overall number and dollar amount of earmarks has steadily decreased. During that same time, overall spending has ballooned by over $1.3 trillion.” Well, let’s just put it this way: Special inducements and temptations aren’t necessary to get a Democrat-controlled Congress signed up for more spending. The lesson of 2001 to 2005 is that earmarks hypnotize Republican majorities into spending like Democrats. Earmarks are our problem, not theirs.

"Earmarks hypnotize Republican majorities into spending like Democrats." I love that. It's yet another example of a creative conservative argument that never would have occurred to me. It also suggests that Republicans are really cheap dates. Apparently all it takes to get them to spend like drunken sailors is a few million dollars each in earmarks. That's some party you have there, Stephen.

In any case, I don't really have a dog in this fight. Giving members of Congress some limited amount of say over how money is spent in their districts actually seems defensible to me, as long as it's public and transparent. On the other hand, the opportunities for mischief are pretty obvious too, so doing away with earmarks wouldn't bother me much. What's more, deep sixing earmarks entirely would have the salutary effect of (a) forcing alleged deficit hawks to talk about something a little more serious, and (b) putting an end to pretzel-bending arguments like Spruiell's. Count me in, I guess.

Via Andrew Sullivan, Bulworth defends the deficit commission's Social Security proposal from a progressive point of view:

This Social Security package would restore long term solvency, go a long way towards protecting it from would-be privatizers, and enhance benefits for the lowest lifetime earners through two new provisions. It also includes a tax max increases, which progressives tend to support. The benefit formula reduction — which some Progressives erroneously liken to "means-testing" — is actually just an extension of the already existing progressive benefit structure.

This criticism seems particularly odd coming from progressives who normally want the more well to do to bear the brunt of any Social Security fixes. Progressives can't clamor for higher payroll taxes or higher limits to the "tax max" while simultaneously criticizing benefit reductions that affect higher-than-average earners. In short, this is overall a pretty progressive package of changes to the program, which Progressives and Democrats should support.

For what it's worth, I agree. The co-chairs' Social Security proposal is not the one I'd make, but it's pretty solidly in the mainstream of reasonable takes on shoring up Social Security's finances. Basically, it's a collection of small revenue increases and small benefit cuts, with the cuts focused on high earners and everything phased in over several decades. The worst part of their plan is the increase in retirement age — I think there are much better ways of reducing benefits — but the increase they propose is pretty modest: full retirement goes from 67 to 68 by 2050. That's not Armageddon.

If it were up to me I'd do a bit more on the revenue side, possibly increasing the payroll tax from 12.4% to 13%, for example. But as a discussion draft, Simpson-Bowles is OK, and it's a good demonstration of my point that fixing Social Security is pretty easy if both sides are even minimally serious about finding a compromise.

Other aspects of the plan still strike me as unserious. The 21% cap is just a sop to conservative dogma, not something related to deficit reduction. Ditto for the tax plan. The discretionary cuts are mostly pie in the sky, and in any case don't really deserve much space in a document concerned with long-term deficit reduction. And the healthcare discussion is woefully underpowered.

But the Social Security proposal? It's not bad.

Criticism of the deficit commission report continues apace. Matt Yglesias:

The flipside of the Simpson-Bowles document’s unsound aggregate cap on revenue is that they were very uncreative in their exploration of revenue options. For example, what about a tax on greenhouse gas emissions? The mere fact that the conservative movement is currently engaged in a massive fit of pretending that greenhouse gas emissions aren’t a problem doesn’t change the fact that greenhouse gas emissions are, in fact, a problem. Taxing them would reduce the quantity of greenhouse gas emissions and help mitigate the problem. It also creates revenue.

In fairness, they do recommend a gasoline tax. It's a small one, but at least it's there as a talking point. So I guess they deserve a bit of credit for that.

But that brings up another point: one entire section of the report is devoted to comprehensive tax reform. Why? Broadening the base of the tax system and reducing marginal rates might or might not be a good idea, but it doesn't really have anything to do with deficit reduction.1 In fact, the only tax-related subject that's germane to deficit reduction is increases in total tax revenue. The report mainly addresses this in its discussion of reducing tax expenditures, which is a perfectly defensible way of raising more revenue. But why go beyond that to a root-and-branch proposal for tax reform that's essentially revenue neutral?

As with the entire report, the answer is ideological: this is less a report on reducing the deficit than it is a report on remaking the government in a conservative image. Which, again, is fine, if you're a conservative think tank and this is what you believe. But it's not what a report should be if it's a supposedly nonideological effort to reduce deficits. That kind of report should focus solely on cutting spending and increasing revenue, not on remaking the tax system.

1The co-chairs' argument — though it's articulated only glancingly in the body of the report — is that their version of tax reform would spur economic growth and thus help reduce the deficit. This is a defensible argument, but it's also a highly ideological one. It's really not appropriate in a document that's supposedly a neutral take on deficit reduction.