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Posts Tagged ‘deficits’

Purpose of Blog

As the government goes about the business of dealing with the the Fiscal Cliff, one of the most controversial issues it will have to address is raising taxes on our wealthier citizens. Value judgments work their way into the decision-making process because everyone, democrats, republicans, and independents, all have different ideas about what constitutes “Fairness, and Fairness for Whom?”

But one thing that can help extricate decision-makers from their own prejudices and value judgments, is to shed light on the issue with data and facts. I would be naïve to suggest that this is going to be an easy process. It will take their best effort and require everyone involved to put aside their political biases. The purpose of this Blog is the answer with data and facts the following question on the revenue generating side of their deliberations:

What is the Effect on the Economy if the Wealthy Are Taxed at Higher Rates?

With the 2012 presidential election over, it is important now to review facts as President Obama and the Congress come to grips with an important issue now looming over the nation. That issue has been metaphorically described as a fiscal cliff.

What is the Fiscal Cliff?

I love the way we use metaphors in this country to describe every social or economic problem. There once was a “War on Poverty,” “The Missles of October” that was better known as the Cuban Missle Crisis (Gee! I thought it was an American crisis as well) and now we have a “Fiscal Cliff” where all our money is going to drop over the edge of a great chasm like the Grand Canyon. The latter, like all the previous metaphors, conjures up graphic images in order to convey a very important message: Whatever the crisis is or gap between people, whatever the details are, the American people need to take the “Fiscal Cliff” seriously because the consequences are important to the nation’s financial health, and may be longlasting.

So personally, I get the message and I know it’s serious. Hopefully, my fellow Americans will take the underlying metaphorical graphic image such as a “Fiscal cliff” seriously as well.

Basically, the Fiscal Cliff is a popular way to describe the confusing, difficult riddle or puzzle the U.S. government will face at the end of 2012, when the terms of the Budget Control Act of 2011 are scheduled to go into effect.

Laws will be affected when the gong hits midnight on December 31, 2012, including last year’s temporary payroll tax cuts (resulting in a 2% tax increase for workers), the end of certain tax breaks for businesses, shifts in the alternative minimum tax that would take a larger bite, the end of the tax cuts from 2001-2003, and the beginning of taxes related to President Obama’s health care law.

At the same time, the spending cuts agreed upon as part of the debt ceiling deal of 2011 will begin to go into effect. According to Barron’s, over 1,000 government programs – including the defense budget and Medicare are in line for “deep, automatic cuts.”

According to author Thomas Kenny, writing for About.com Guide, “In dealing with the fiscal cliff, U.S. lawmakers have a choice among three options, none of which are particularly attractive:

They can let the current policy scheduled for the beginning of 2013 – which features a number of tax increases and spending cuts that are expected to weigh heavily on growth and possibly drive the economy back into a recession – go into effect. The plus side: the deficit, as a percentage of GDP, would be cut in half.

They can cancel some or all of the scheduled tax increases and spending cuts, which would add to the deficit and increase the odds that the United States could face a crisis similar to that which is occurring in Europe. The flip side of this, of course, is that the United States’ debt will continue to grow.

They could take a middle course, opting for an approach that would address the budget issues to a limited extent, but that would have a more modest impact on growth.”

There are really only three things the U.S. Government can do to solve the problem of the Fiscal Cliff: Raise Taxes, Cut Spending, or both.

Fiscal Policy involves two major components: Taxes and Spending. While Monetary Policy is very important to the economy under the control of the Federal Reserve Board, my best guess at this point (as we get closer to the December 31, 2012 deadline) is that most of the compromises to be reached will be worked out between the President and Congress will mostly involve taxes and spending cuts.

The Issue of Higher Tax Rates for the Wealthy

President Barack Obama, of course, won re-election and, in a sense, is in the driver’s seat politically. The cornerstone of the President’s campaign in 2012 was to protect the middle class and require (on the tax revenue side) higher income households to pay more in taxes. Nevertheless, now is the time for a factual assessment of this issue.

According to author Chye-Ching Huang:

“Many policymakers and pundits assume that raising federal income taxes on high-income households would have serious adverse consequences for the economy. Yet this belief, which has been subject to extensive research and analysis, does not fare well under scrutiny. As three leading tax economists recently concluded in a comprehensive review of the empirical evidence, ‘there is no compelling evidence to date of real responses of upper income taxpayers to changes in tax rates.’ The literature suggests that if the alternative to raising taxes is larger deficits, then modest tax increases on high-income households would likely be more beneficial for the economy over the long run.

The debate over the economic effects of higher taxes on people with high incomes has focused on a number of issues — how increasing taxes at the top would affect taxable income and revenue as well as the effects on work and labor supply, saving and investment, small businesses, entrepreneurship, and, ultimately, economic growth and jobs.”

Economic Growth and Jobs

I found during the presidential campaign many people on both sides had something to say about job creation. All of the topics above can be found in Huang’s full report referenced at the end of this Blog. However, I want to share with you the relationship between taxing the wealthy and job creation, since it too is critically important.

History shows that higher taxes are compatible with economic growth and job creation: job creation and GDP growth were significantly stronger following the Clinton tax increases than following the Bush tax cuts. Further, the Congressional Budget Office (CBO) concludes that letting the Bush-era tax cuts expire on schedule would strengthen long-term economic growth, on balance, if policymakers used the revenue saved to reduce deficits.

In other words, any negative impact on economic growth from increasing taxes on high-income people would be more than offset by the positive effects of using the resulting revenue gain to reduce the budget deficit. I venture to say that Wall Street’s reaction  would be very positive if a major dent were to occur in our national debt. Risk/Reward ratios would favor the Bulls (“and you can take that to the bank”).

In addition, tax increases can also be used to fund, or to forestall cuts in, productive public investments in areas that support growth such as public education, basic research, and infrastructure.

Summary

According to Huang, “These findings from the research literature stand in contrast to assertions of extensive economic damage from increases in tax rates on high-income households, which are repeated so often that many policymakers, journalists, and ordinary citizens may simply assume they are solid and well-established. They are not.

These issues are of considerable importance, because sustainable deficit reduction is not likely to be possible without significant revenue increases. Unsupported claims that modest rate increases for high-income people would significantly impair growth ought not stand in the way of balanced deficit-reduction strategies that ask such individuals to share in the burden and pay somewhat more in taxes.

Raising revenues by broadening the tax base can in fact improve the efficiency of the tax code. And, because a cleaner tax code offers fewer opportunities to evade taxes, base broadening can reduce the economic cost of any rate increases also needed to achieve fiscal sustainability.

The research in the field does not provide strong evidence that modestly raising tax rates at the top of the income scale would have significant growth-reducing effects on labor supply, taxable income, savings and investment, or entrepreneurship. Moreover, as Professor Joel Slemrod has emphasized, the economic impact of tax increases depends in part on how the revenue raised is used. In the current fiscal and political environment, policymakers would likely use revenue raised by increasing marginal tax rates for high-income taxpayers to reduce deficits, which likely would have positive overall effects on long-term economic growth.

The nation faces a daunting fiscal challenge, as well as historically large income inequality and increased spending needs stemming from the graying of the population and advances in medicine that improve health but add to cost. These challenges mean that revenues, as well as spending cuts, need to make a significant contribution to deficit reduction.”

Post Script

As a political moderate, I have never been a big fan of class warfare discrimination, or any kind of discrimination for that matter. This is why it is so important to bring in facts, not just one’s value judgments. Even in “The Reasoned Society” separating facts from value judgments, in one’s own reasoning ability, can at times be a slippery-slope. The wealthy in America do in fact contribute disproportionately (as a percent and in gross dollar amounts) more money to charity than do lower-and-middle class individuals. The wealthy are to be applauded and respected for that kind of giving. Being wealthy, of course, does put one in a rather unique position to help others—and that is a good thing for society.

Nevertheless, quite clearly, the data have shown that our tax laws have disproportionately favored high-income taxpayers for decades over low and middle income citizens. Fairness as a concept is a two way street where income or tax equality is concerned. Many lower and middle class individuals often use sterotypical thinking to villify and demonize wealthy individuals to the point of appearing to be “Not Too Bright.” Nevertheless, the research data presented by Huang clearly and strongly sugggest that raising marginal tax rates on high-income individuals to help pay down our national deficit, and put our economic house in order, is both reasonable and fair.

Also, evidence shows that taxing wealthier individuals will have a positive effect on increasing GDP and job creation, what everyone, on both sides of the aisle, said was so important during the 2012 presidential election campaign.

________________________________________________________________________

The information for this Blog comes from two sources, Thomas Kenny who wrote an article in About.com Guide called The Fiscal Cliff Explained, and Chye-Ching Huang who wrote an article for the Center for Budget and Policy Priorities that answers the primary question raised in this Blog. The title of her article was Recent Studies Find Raising Taxes on High-Income Households Would Not Harm the Economy —Policy Should Be Included in Balanced Deficit-Reduction Effort. I was impressed by the clarity of writing by both these authors.

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ELECTION YEAR POLITICS

 AND THE ECONOMY

 [Part II]

 

Part II has three major divisions: How Economic Cycles Work, American Economy and Fiscal Policy, and The Staggering American National Debt. Originally I was only going to discuss the first two topics but the more I got into Fiscal Policy the more crucial it was for me to also discuss deficits and our national debt.

 

Economic Cycles and How They Work?

Traditional business cycles undergo four stages: expansion, prosperity, contraction, and recession. After a recessionary phase, the expansionary phase starts again. Each of the phases of the business cycle is characterized by changing employment, industrial productivity, and interest rates. Some economists believe that stock price trends precede business cycle stages. Also, the length of each cycle can vary quite a lot showing that economic or business cycles take on a life of their own. Although timing is problematic the cycles are nevertheless predictable. And that means they will occur again and again in the same order.

One might like to have an endless prosperity cycle but that will never happen. The overriding concept of business cycles is that they influence the long-term pattern of changes in National Income (highest during prosperity and lowest during the recessionary phase).

The term business cycle (or economic cycle) more specifically refers to economy-wide fluctuations in production or economic activity (creating goods and services) over several months or years. These fluctuations occur around a long-term growth trend, and typically involve shifts over time between periods of relatively rapid economic growth (an expansion or boom), and periods of relative stagnation or decline (a contraction or a recession).

Business cycles are usually measured by considering the growth rate of real gross domestic product. I will emphasize again for your understanding: Despite being termed cycles, these fluctuations in economic activity do not follow a mechanical or predictable periodic pattern. However, while varying in duration one thing is always certain:  they always repeat in the same order and have a life of their own.

This is why, in an absolute sense, placing blame on a single individual makes no sense at all. It’s like holding someone responsible because the earth rotates around the sun, or because the four seasons occur in a certain order. No one can alter the seasons or rotational pattern of the earth in space.

However, one can argue that although a sitting President cannot absolutely control the economy, he or she can Influence some of the variables within a cycle such as changing employment, industrial productivity, and interest rates. Theoretically, such tinkering with these types of variables should speed up or slow down economic activity.

Without going too far astray with explanations, most economists would say whatever influence or leverage any president has to affect change, or to influence the future direction of  economic or business cycles—lies in two major areas. These two areas are Fiscal Policy and Monetary Policy. How these areas of influence are used depends largely on political preferences and both the level of knowledge and assumptions made by those who occupy the Oval Office, among those who sit in Congress, or among those in leadership positions in the Federal Reserve.

The first area to be explored is Fiscal Policy. I am providing a very detailed, informative explanation on how the government influences the economy through fiscal policy. Some of what I’m going to say is general information (albeit mostly recent history). Let’s proceed now down an “economic memory lane.”

The American Economy and Fiscal Policy

The role of government in the American economy extends far beyond its activities as a regulator of specific industries. The government also manages the overall pace of economic activity, seeking to maintain high levels of employment and stable prices. As said above there are two main tools for achieving these objectives: fiscal policy, through which it determines the appropriate level of taxes and spending; and monetary policy, through which it manages the supply of money. Your real education on the economy begins here.

Fiscal Policy

Much of the history of economic policy in the United States since the Great Depression of the 1930s has involved a continuing effort by the government to find a mix of fiscal and monetary policies that will allow sustained growth and stable prices. That is no easy task, and there have been notable failures along the way.

But the government has gotten better at promoting sustainable growth. From 1854 through 1919, the American economy spent almost as much time contracting as it did growing: the average economic expansion (defined as an increase in output of goods and services) lasted 27 months, while the average recession (a period of declining output) lasted 22 months. From 1919 to 1945, the record improved, with the average expansion lasting 35 months and the average recession lasting 18 months. And from 1945 to 1991, things got even better, with the average expansion lasting 50 months and the average recession lasting just 11 months. Inflation, however, has proven more intractable. Prices were remarkably stable prior to World War II; the consumer price level in 1940, for instance, was no higher than the price level in 1778. But 40 years later, in 1980, the price level was 400 percent above the 1940 level.

My wife and I have owned three homes in 44 years of marriage. We bought our first home in 1969 for $16,500—a nice, large 3 bedroom, 2 bath home (with a family room) in a decent neighborhood. Despite the decline in home values the last 5 years, that same home today would nevertheless cost between $225,000 and $247,000. Inflation is wonderful when it works for you, but its terrible when it stabs you in the back through no fault of your own (for example, when young people and new home owners owe more on their home than its worth in a free market economy).

In part, the government’s relatively poor record on inflation reflects the fact that it put more stress on fighting recessions (and resulting increases in unemployment) during much of the early post World War II period. Beginning in 1979, however, the government began paying more attention to inflation, and its record on that score has improved markedly. By the late 1990s, the nation was experiencing a gratifying combination of strong growth, low unemployment, and slow inflation. But while policy-makers were generally optimistic about the future, they admitted to some uncertainties about what the new century would bring.

Fiscal Policy — Budget and Taxes

The growth of government since the 1930s has been accompanied by steady increases in government spending. In 1930, the federal government accounted for just 3.3 percent of the nation’s gross domestic product, or total output of goods and services excluding imports and exports. That figure rose to almost 44 percent of GDP in 1944 (you remember folks—the war industries were going strong), at the height of World War II. However, it dropped back to 11.6 percent in 1948. But government spending generally rose as a share of GDP in subsequent years, reaching almost 24 percent in 1983 before falling back somewhat. In 1999 it stood at about 21 percent.

The development of fiscal policy is an elaborate process. Each year, the president proposes a budget, or spending plan, to Congress. Lawmakers consider the president’s proposals in several steps. First, they decide on the overall level of spending and taxes. Next, they divide that overall figure into separate categories — for national defense, health and human services, and transportation, for instance.

Finally, Congress considers individual appropriations bills spelling out exactly how the money in each category will be spent. Each appropriations bill ultimately must be signed by the president in order to take effect. This budget process often takes an entire session of Congress; the president presents his proposals in early February, and Congress often does not finish its work on appropriations bills until September (and sometimes even later).

The federal government’s chief source of funds to cover its expenses is the income tax on individuals, which in 1999 brought in about 48 percent of total federal revenues.  Payroll taxes, which finance the Social Security and Medicare programs, have become increasingly important as those programs have grown. In 1998, payroll taxes accounted for one-third of all federal revenues; employers and workers each had to pay an amount equal to 7.65 percent of their wages up to $68,400 a year.

The federal government raises another 10 percent of its revenue from a tax on corporate profits, while miscellaneous other taxes account for the remainder of its income. (Local governments, in contrast, generally collect most of their tax revenues from property taxes. State governments traditionally have depended on sales and excise taxes, but state income taxes have grown more important since World War II.)

The federal income tax is levied on the worldwide income of U.S.citizens and resident aliens and on certain U.S.income of non-residents. The first U.S. income tax law was enacted in 1862 to support the Civil War. The 1862 tax law also established the Office of the Commissioner of Internal Revenue to collect taxes and enforce tax laws either by seizing the property and income of non-payers or through prosecution. The commissioner’s powers and authority remain much the same today.

The income tax was declared unconstitutional by the Supreme Court in 1895 because it was not apportioned among the states in conformity with the Constitution. It was not until the 16th Amendment to the Constitution was adopted in 1913 that Congress was authorized to levy an income tax without apportionment. Still, except during World War I, the income tax system remained a relatively minor source of federal revenue until the 1930s.

During World War II, the modern system for managing federal income taxes was introduced, income tax rates were raised to very high levels, and the levy became the principal sources of federal revenue. Beginning in 1943, the government required employers to collect income taxes from workers by withholding certain sums from their paychecks, a policy that streamlined collection and significantly increased the number of taxpayers.

 Most debates about the income tax today revolve around three issues:

  • The appropriate overall level of taxation
  • How graduated, or “progressive” the tax should be, and
  • The extent to which the tax should be used to promote social objectives.

The overall level of taxation is decided through budget negotiations. Although Americans allowed the government to run up deficits, spending more than it collected in taxes during the 1970s, 1980s, and the part of the 1990s, they generally believed budgets should be balanced. Most Democrats, however, are willing to tolerate a higher level of taxes to support a more active government, while Republicans generally favor lower taxes and smaller government.

From the outset, the income tax has been a progressive levy, meaning that rates are higher for people with more income. Most Democrats favor Robin Hood politics (steal from the rich and give to the poor i.e., the famous class warfare scenario) because they believe or argue that it is only fair to make people with more income pay more in taxes. This argument merely points out that assumptions about what is viewed as “fairness” has nothing whatsoever to do with fairness, and everything to do with discrimination and value judgments that rationalize the justification for such discrimination. It’s all about values, not logic, reason, or fairness.

This belief or value judgment occurs despite the fact everyone is entitled to just one vote, and everyone is theoretically equal in the eyes of the U.S. Constitution. However, despite paying lip service to notions like one man, one vote, or belief in the theoretical equality among citizens, Democratic administrations seem (as ideology and as a practical matter)  to favor a plan of income redistribution in order to contribute to social objectives like helping the poor. How pervasive is discrimination against higher income individuals?

In 2003 the following data was released in the Congressional Budget Office Report. It made very clear who really pays our Federal Income Taxes.

For 2003, the estimated share of total individual income taxes paid by:

Wealthiest 1%—-33.6%
Wealthiest 5%—-55.1%
Wealthiest 10%—67.9%
Wealthiest 20%—83.0%
Wealthiest 40%—97.8%
Wealthiest 60%—103.0%

The way to read this is that the wealthiest 10% of taxpayers pay 67.9% of the country’s individual income taxes (or that the top 5% in income pay more than half of all income taxes). And yes, that 103% is not a typo – the bottom 40% in income, as a group, pay negative personal income taxes (because of the EITC).

Many Republicans, however, believe a steeply progressive rate structure discourages people from working and investing, and therefore hurts the overall economy. Accordingly, many Republicans argue for a more uniform rate structure. Some even suggest a uniform, or “flat,” tax rate for everybody. Parenthetically, some economists— both Democrats and Republicans—have suggested that the economy would fare better if the government would eliminate the income tax altogether and replace it with a consumption tax (meaning a national sales tax on goods and services).

This would tax people on what they spend rather than what they earn. What’s nice about a consumption tax is that you, the individual taxpayer, are in the driver’s seat. What it means is that everyone is free to choose whether to buy or not to buy, thus exercising some degree of control over how much they ultimately spend on taxes. The irony of this plan is that ultimately the rich and the super rich will likely pay more in consumption taxes anyway since they are in a position to afford buying that expensive Cadillac or Mercedes Benz (thus paying a greater consumption tax). And, the poor would continue to pay less taxes because their incomes are small.

Proponents argue that a consumption tax would encourage saving and investment. But as of the end of the 1990s, the idea had not gained enough support to be given much chance of being enacted (think of all those industries and occupations that feed off your responsibility to pay taxes—everything from Turbotax software products, H&R Block, to the highest paid career tax accountants and lawyers doing business in the tax field. A National Sales Tax, while an intelligent and efficient system for generating tax revenues, would nevertheless negatively impact a lot of careers and some tax-related products.

Over the years, lawmakers have created various exemptions and deductions from the income tax to encourage specific kinds of economic activity. Most notably, taxpayers are allowed to subtract from their taxable income any interest they must pay on loans used to buy homes. Similarly, the government allows lower- and middle-income taxpayers to shelter from taxation certain amounts of money that they save in special Individual Retirement Accounts (IRAs) to meet their retirement expenses and to pay for their children’s college education.

The Tax Reform Act of 1986, perhaps the most substantial reform of the U.S. tax system since the beginning of the income tax, reduced income tax rates while cutting back many popular income tax deductions (the home mortgage deduction and IRA deductions were preserved, however). The Tax Reform Act replaced the previous law’s 15 tax brackets, which had a top tax rate of 50 percent, with a system that had only two tax brackets — 15 percent and 28 percent. Other provisions reduced, or eliminated, income taxes for millions of low-income Americans.

Fiscal Policy and Economic Stabilization

In the 1930s during the Depression the government began to use fiscal policy, not just to support itself or pursue social policies, but to promote overall economic growth and stability as well. Policy-makers were influenced by John Maynard Keynes, an English economist who argued in The General Theory of Employment, Interest, and Money (1936) that the rampant joblessness of his time resulted from inadequate demand for goods and services.

According to Keynes, people did not have enough income to buy everything the economy could produce, so prices fell and companies lost money or went bankrupt. Without government intervention, Keynes said, this could become a vicious cycle. As more companies went bankrupt, he argued, more people would lose their jobs, making income fall further and leading yet more companies to fail in a frightening downward spiral.

Keynes argued that government could halt the decline by increasing spending (The preferred Democrat Approach) on its own or by cutting taxes (The Preferred Republican Approach). Either way, incomes would rise, people would spend more, and the economy could start growing again. If the government had to run up a deficit to achieve this purpose, so be it, Keynes said. In his view, the alternative—deepening economic decline—would be worse.

These statements in 1936 by Keynes are very telling when one thinks about the current debate in Congress between Democrats and Republicans. The Republican’s mantra is to lower taxes; in contrast in the last four years the Obama administration enacted an economic stimulus package, tried to improve the country’s infrastructure, signed into law a long needed better health care system, and bailed out successfully General Motors and Chrysler and many financial institutions such as banks and corporations on the brink of disaster. Consequently, the economy not only came back from the brink of disaster, but also began heating up the economy fostering greater job growth and slowly lowering unemployment while holding inflation relatively constant. These economic theories of Keynes continued to have influence long after 1936.

By the 1960s, policy-makers seemed wedded to Keynesian theories. But in retrospect, most Americans agree, the government then made a series of mistakes in the economic policy arena that eventually led to a reexamination of fiscal policy. After enacting a tax cut in 1964 to stimulate economic growth and reduce unemployment, President Lyndon B. Johnson (1963-1969) and Congress launched a series of expensive domestic spending programs designed to alleviate poverty (You remember. They called it the “War on Poverty”). Johnson also increased military spending to pay for American involvement in the Vietnam War. These large government programs, combined with strong consumer spending, pushed the demand for goods and services beyond what the economy could produce. Wages and prices started rising. Soon, rising wages and prices fed each other in an ever-rising cycle. Such an overall increase in prices ( repeated here, but also pointed out as everyone’s enemy in Part I ) is known as inflation.

Keynes had argued that during such periods of excess demand, the government should reduce spending or raise taxes to avert inflation. But anti-inflation fiscal policies are difficult to sell politically, and the government resisted shifting to them. Then, in the early 1970s, the nation was hit by a sharp rise in international oil and food prices. This posed an acute dilemma for policy-makers. The conventional anti-inflation strategy would be to restrain demand by cutting federal spending or raising taxes.

But this would have drained income from an economy already suffering from higher oil prices. The result would have been a sharp rise in unemployment. If policy-makers chose to counter the loss of income caused by rising oil prices, however, they would have had to increase spending or cut taxes. Since neither policy could increase the supply of oil or food, however, boosting demand without changing supply would merely mean higher prices.

President Jimmy Carter (1973-1977) sought to resolve the dilemma with a two-pronged strategy. He geared fiscal policy toward fighting unemployment, allowing the federal deficit to swell and establishing countercyclical jobs programs for the unemployed. To fight inflation, he established a program of voluntary wage and price controls. Neither element of this strategy worked well. By the end of the 1970s, the nation suffered both high unemployment and high inflation.

While many Americans saw this “stagflation” as evidence that Keynesian economics did not work, another factor further reduced the government’s ability to use fiscal policy to manage the economy. Deficits now seemed to be a permanent part of the fiscal scene. Deficits had emerged as a concern during the stagnant 1970s. Then, in the 1980s, they grew further as President Ronald Reagan (1981-1989) pursued a program of tax cuts and increased military spending. By 1986, the deficit had swelled to $221,000 millions, or more than 22 percent of total federal spending. Now, even if the government wanted to pursue spending or tax policies to bolster demand, the deficit made such a strategy unthinkable.

Beginning in the late 1980s, reducing the deficit became the predominant goal of fiscal policy. With foreign trade opportunities expanding rapidly and technology spinning off new products, there seemed to be little need for government policies to stimulate growth. Instead, officials argued, a lower deficit would reduce government borrowing and help bring down interest rates, making it easier for businesses to acquire capital to finance expansion. The government budget finally returned to surplus in 1998. This led to calls for new tax cuts, but some of the enthusiasm for lower taxes was tempered by the realization that the government would face major budget challenges early in the new century as the enormous post-war baby-boom generation reached retirement and started collecting retirement checks from the Social Security system and medical benefits from the Medicare program.

By the late 1990s, policy-makers were far less likely than their predecessors to use fiscal policy to achieve broad economic goals. Instead, they focused on narrower policy changes designed to strengthen the economy at the margins. President Reagan and his successor, George Bush (1989-1993), sought to reduce taxes on capital gains — that is, increases in wealth resulting from the appreciation in the value of assets such as property or stocks.

They said such a change would increase incentives to save and invest. Democrats resisted, arguing that such a change would overwhelmingly benefit the rich. But as the budget deficit shrank, President Clinton (1993-2001) acquiesced, and the maximum capital gains rate was trimmed to 20 percent from 28 percent in 1996. Clinton, meanwhile, also sought to affect the economy by promoting various education and job-training programs designed to develop a highly skilled — and hence, more productive and competitive — labor force.

The way I like to look at fiscal policy is that, in general, there is a very consequential “balancing act” going on all the time. However, there is now a new element lurking in the shadows known as a staggering national deficit. That is, inflation, high unemployment, and huge deficits (all terrible outcomes) balance one side of the scale, while the other side is balanced by choosing, appropriately at the right time, either increases or decreases in taxation, or either increases or decreases in spending (And I bet you thought Albert Einstein’s theories were difficult to grasp).

Now, despite the predictability of the order of economic or business cycles, it does appear currently that negatives like inflation, high unemployment or large deficits are collectively impacting society at the same time. No policymaker in Congress or the White House has a complete grasp of all the relevant elements in this balancing act, much less having notions of when things will occur.

The best that any administration hopes to accomplish is to choose some set of actions (increase spending, cut taxes etc.) and hope to hell the timing will be right. However, the fly in the ointment right now is a 15.6 trillion dollar deficit. John Maynard Keynes said to ignore the deficit. Unfortunately, we can’t do that. Current fiscal policy cannot effectively manage our staggering national deficit and fully run the government without some sort of Draconian approach to doing both.

The Staggering American National Debt

[What Are Its Implications?]

In the United States, national debt is money borrowed by the federal government of the United States. Debt burden is usually measured as a ratio of public debt to gross domestic product. Debt as a share of the US economy reached a maximum during Harry Truman’s ‘s first presidential term. Public debt as a percentage of GDP fell rapidly in the post-WWII period, and reached a low in 1973 under President Richard Nixon. The debt burden has consistently increased since then, except during the presidencies of Jimmy Carter and Bill Clinton. The president who increased the national debt the most was Ronald Reagon due primarily to reducing taxes and increasing military spending. In recent years sharp increases in deficits and the resulting increases in debt have led to heightened concern about the long-term sustainability of the federal government’s fiscal policies.

 

The Blame Game

If you like playing the blame game, where the national debt is concerned, you might start by looking at yourself in the mirror.

All of us are responsible for where we are now and how we got here. This is particularly true where our national debt is concerned. As the great Thomas Jefferson once said in 1790, “A Nation of Sheep produces a Government of Wolves.” And, it’s not just us and politicians who helped to put all of us in terrible debt. Businesses in America played a major role and have since the 1960s. Those business enterprises that promoted the idea of credit cards (buy now, pay later) gave permission to the American people not to save for something they wanted, but to buy now and pay later. This credit card mentality has permeated the American psyche since the late 1960s, and has influenced how American society has changed fundamentally in its attitudes toward debt in general. I received my first credit card in the mail 3 months before my graduation from college in 1968. I was only a student and I wasn’t even employed yet. Nevertheless, here comes this credit card in the mail encouraging me to buy now and pay later.

What I’m describing here in American culture is the credit card mentality as preparation for things to come when our spending (outlay some people like to call it) needs started to outstrip our receipts or revenues for running the government. Think about it—It was easy for the American people to take a blind eye to what has happened in Washington the last 40+ years. Why? Because we’ve been spending beyond our own personal ability to pay for decades.

 

What is the United States Public Debt?

In the United States, national debt is money borrowed by the federal government of the United States in order to fund all government programs and operations. More specifically, the United States Public Debt is the money borrowed by the federal government of the United States at any one time through the issue of securities by the Treasury and other federal government agencies.

This public debt consists of two components:

  • Debt held by the public comprises securities held by investors outside the federal government, including that held by investors, the Federal Reserve System and foreign, state and local governments.
  • Intragovernment debt comprises Treasury securities held in accounts administered by the federal government, such as the Social Security Trust Fund.

Public debt either increases or decreases as a result of the annual unified budget deficit or surplus. The federal government budget deficit or surplus is the cash difference between government receipts and spending, ignoring intra-governmental transfers. However, there is certain spending (supplemental appropriations) that add to the debt but are excluded from the deficit.

Debt burden is usually measured as a ratio of public debt to gross domestic product.

Debt as a share of the US economy reached a maximum during Harry Truman’s first presidential term. Public debt as a percentage of GDP fell rapidly in the post-WWII period, and reached a low in 1973 under President Richard Nixon. The debt burden has consistently increased since then, except during the presidencies of Jimmy Carter and Bill Clinton. In recent years sharp increases in deficits and the resulting increases in debt have led to heightened concern about the long-term sustainability of the federal government’s fiscal policies.

The public debt has increased by over $500 billion each year since fiscal year (FY) 2003, with increases of $1 trillion in FY2008, $1.9 trillion in FY2009, and $1.7 trillion in FY2010. As of March 29, 2012 the gross debt was $15.589 trillion, of which $10.831 trillion was held by the public and $4.757 trillion was intragovernmental holdings. The annual gross domestic product (GDP) to the end of 2011 was $15.087 trillion (Jan 27, 2012 estimate), with total public debt outstanding at a ratio of 103.3% of GDP. If counted using the total public debt outstanding over the annual GDP in chained 2005 dollars, the ratio reached 115% since Feb. 2012.

In the United States, there continues to be disagreement between Democrats and Republicans regarding the United States debt. On August 2, 2011, President Barack Obama signed into law the Budget Control Act of 2011, averting a possible financial default. Two months earlier in June 2011, the Congressional Budget Office called for “…large and rapid policy changes to put the nation on a sustainable fiscal course.”

What Caused Such a Deficit Problem?

In 2001, the national debt stood at just $5.8 trillion. Why did the government have to borrow so much more in such a short time? There are six major factors that caused a tripling of the national debt in just a little over 10 years:

1. The Bush tax cuts

The biggest culprit? The 2001 and 2003 tax cuts under then-president George W. Bush, reported the Associated Press. These tax cuts added an estimated $1.6 trillion to the national debt. It’s pretty clear, says Brian Beutler at Talking Points, that Bush-era policies, “particularly debt-financed tax cuts,” make up “the lion’s share of the problem.” And they’re ongoing, so the tab for them builds every year.

2. Health care entitlements

Democrats “constantly harp” about the Bush tax cuts, says Peter Morici at Seeking Alpha, but those rates were in place in 2007, and the deficit that year was one-tenth this year’s budget shortfall of $1.6 trillion. So what has changed since then? Added “federal regulation, bureaucracy, and new Medicaid and other entitlements have pushed up federal spending by $1.1 trillion — $900 billion more than required by inflation.” And down the road, says Yuval Levin at National Review, our “health-entitlement explosion” will account for “basically 100 percent” of our debt problem.

3. Medicare prescription drug benefit

Another piece of the pie: George W. Bush’s addition of Medicare’s prescription drug benefit. That has added $300 billion to the debt, according to the AP. Expanding entitlements like Medicare, or last year’s health-care reform package, is a particularly tempting way for Congress to run up debt, says Jagadeesh Gokhale at the Daily Coller. Since lawmakers don’t typically map out a revenue strategy to fund those benefits, they are “shielded from the political costs of actually paying for the new programs.”

4. The wars in Iraq and Afghanistan

The tab for the wars in Iraq and Afghanistan comes to $1.3 trillion, another major chunk of new, unexpected spending over the last decade. “These wars cost us plenty,” says Nake M. Kamrany at The Huffington Post, and they “have to be financed with borrowing, which adds up to national debt.”

5. Obama’s economic stimulus

The 2009 stimulus package enacted by President Obama cost $800 billion. And the 2010 tax-cut compromise between Obama and Republicans, which extended jobless benefits and reduced payroll taxes, added another $400 billion to the debt. Add another $200 billion for the 2008 bailout of the financial industry, and the government’s efforts to soften the blow of the Great Recession amount to one of the largest chunks of the debt build-up. The “federal budget was one good year away from balancing” after 2007, says Tom Blumer at News Busters. But in the years since, Obama and Democrats in Congress put that goal out of reach.

6. The Great Recession

Some of the spending gap came from factors outside the control of Congress and the White House. As the government spent heavily to boost the economy, says the AP, it took in hundreds of billions less in tax revenue than expected, because the Great Recession eroded Americans’ income and spending.

 

Where Are We Now?

Here it is, based on the National Debt Clock, as of April 11, 2012.

 

U.S. NATIONAL DEBT CLOCK

The Outstanding Public Debt as of 11 Apr 2012at01:26:21 AM GMTis:

 $ 15,626,018,571,743.67 (15 Trillion, 626 Billion, plus change)

The estimated population of the United Statesis 312,562,722
so each citizen’s share of this debt is $49,993.21.

The National Debt has continued to increase an average of
$4.00 billion per day since September 28, 2007.

 

As far as our nation’s staggering national debt is concerned, it will take a separate blog to ferret out what to really do about it. At a tentative preliminary level (no-brainer idea) I think it advisable if the next administration raised taxes on everyone, cut spending drastically, and stay the hell out of wars. This, of course, would run counter to achieving greater prosperity and reducing unemployment. This comes back to the tradeoffs I mentioned in Part I. America is headed toward economic disaster nationally and globally if we fail to bring our national debt down. We either face America in bankruptcy and total collapse down the road, or we control and contain our fiscal policies geared toward greater prosperity and low unemployment. You decide!!! What happens when normal people cannot pay their bills, mortgage payments, and do not have any savings? They lose everything.

In Part III ahead I will explain how President Obama views Fiscal Policy.

 

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