Why would it be bad for me to spend more money this year than I take in? The answer to this question is that, obviously, at some point, a bill collector will come and insist that I pay up… or else. But in the shorter run, I can do this because someone is willing to extend credit to me… but at a price. If I buy a house, for example, taking out a $200,000 loan at 4.5% interest, I am spending way more than I am taking in, but the interest rate is modest, and the “item” I am buying may well hold its value or even appreciate. Still, if I take out this loan, I had better be assured that for the next 30 years, I have income to pay it off! But more commonly, a person might spend more than they take in by using credit cards, at a much higher interest rate, and this begins a cycle which often ends with the bill collector. All of this “spending” – however I get the money – “helps the economy” in the sense that my purchases create production opportunities for others. But it may not help MY economy.
So, why is it bad for government to spend more money than it takes in? Largely, the answer runs along the lines of the above paragraph. Much depends on the terms of credit I receive, and on what I am spending the money, and whether my prospects to make payments are secure. And this spending “helps the economy” because it creates production opportunities for others. This is why many economists believe that we are presently repeating the mistake of 1937, when, over fears about deficits, government spending was reined in, resulting into a fall back into recession. Unless folks are hoping that a world war once again comes along and “saves the economy” (!!), substantial cuts in government spending now are a mistake, particularly since the terms of interest right now are remarkably reasonable. Now would be the time to invest in “infrastructure” – when we can borrow money cheaply, and when workers and capital are sitting idle and waiting to be used.
The little story I am telling here has three quirks. One is that, like my own loan, my spending now means making sure I have income (preferably increasing) later. That means deficit spending has to be followed (when the economy recovers) by higher taxes. This is exactly what happened after World War II. It is also what happened when President Clinton, in his first term, raised taxes slightly, presided over an economic boom, and saw the federal budget come into balance and surplus for the first time since the 1960’s.
Two, not all government spending is “consumption” or “investment,” the way my spending is. Some of government spending consists of “transfer payments” – that is, I take the money I get from my paycheck or the loan, and pass it along to my Uncle Charlie or my Grandpa Joe. The vast majority of increase in government spending in recent years (under both Bush and Obama, under both Republican and Democratic legislatures) involve transfer payments. Transfer payments are a source of considerable debate, and increasingly have come to define the key electoral constituencies of our two parties. Eventually, the money transferred does have to come from somewhere. However, in the short term, transfer payments ordinarily prop up the economy, because they go to people who are in some need of basic consumer goods. One of the primary features of 20th century modern economies is the institution of various systems of transfer payments, more or less as forms of “social insurance” – there are many debates over when this works and when this runs into problems, but one cannot find an advanced economy (including our own) without significant government transfer payments.
Three, there are some folks who believe that government spending – not just government deficit spending – is bad, and this for two reasons. One, they believe that government is inefficient in whatever it is doing – and that it is spending money on unnecessary things or things which could better be provided by private business. Two, they believe that government spending, and taxation, actually “crowds out” private investment. That is, instead of giving money to private “job creators,” the money is taken by government. “Supply-side” or “trickle-down” economics claims that economic growth is spurred by increasing the supply of money to be spend and invested by private individuals, and that there is stagnation when the government takes this money. In effect, both of these arguments assume that spending is suspect because it is somehow in competition with private business. This is a particularly quirky quirk because it is so hard to draw a comparison with my personal situation.
The “political” aspects of the current debate over government debt and spending largely circles around the three “quirks” I have identified, but in ways that are destructive. How so? Well, note that the quirks can be deployed in absolutist ways – higher taxes are bad, transfer payments are bad, government spending is inefficient and bad and crowds out private investment. Once this happens, there cannot any longer be a rational, reality-based conversation. Why? Because ideas that involve prudential judgments are being subjected to absolute rules, which then fly in the face of empirical realities. Higher taxes can sometimes be perfectly compatible with healthy economic growth – but not always. Nearly everyone supports some form of government transfer payments (e.g. Social Security) – but not all of them. And finally, governments are efficient at providing some things – but not all. And under some circumstances, government spending may in fact crowd out private investment. Thus, conversations about what works are pre-empted by dogmatic claims that are not even empirically sound.
It seems to me that the third “quirk/dogma” here is the most crucial. Right now, in 2010, corporations as a whole made $651 billion in overall unspent profits – a haul virtually compatible with the $670 billion peak in 2005, and far, far higher than the typical level reached in the 1990’s. Why? After all, corporations have strong incentive to reinvest their profits – if they are reinvested, they are not taxed! Further, not only do corporations have a large amount of savings, but they can also borrow at historically low rates. All this is to say: there is no supply-side problem. Economic expansions are always premised on significantly increased capital investment, due to the demand for some new innovation – communications and computer technologies in the 1990’s – which keeps corporate savings low, because they know where to invest the money in the future. In the 2000’s, unfortunately, much of the “expansion” investment was directly poorly – at an inflated housing market that is still in the tank. Right now, there is no obvious place to invest money – and there is real uncertainty in the world.
This is the time when governments are supposed to take the investment lead. This cannot be emphasized enough. The technology boom was largely predicated on a computer platform and network developed by (yes) the government. The enormous expansion of retail and housing we now call “suburbia” was (for better or worse) made possible by the interstate highway system developed by (yes) the government. There is no doubt that government investment can be directed poorly… but so can private investment (didn’t we just learn this on a massive scale?).
The most obvious government investments – the ones that promise the most “payoff” in the future – are really pretty clear. One is investing in long-term energy efficiency and development. Foreign oil is a large and unpredictable drag on the economy and the environment, and since this market involves relatively large and somewhat chancy investments, it is the perfect place for government to take the lead. Two is investing in rationalizing the health care system. Like foreign oil, health care expenditures are a drag on the economy – both private and public – and they are only likely to get “worse” as the population ages and as we endure more and more inefficiencies in a system where the economic incentives are all messed up. Right now, in both these areas, there is a fairly high investment in the status quo by some very large economic actors – even though even these actors know that the status quo is unsustainable. While the oil question is subject to a lot of debate, the health care question is not, as this CBO chart illustrates:
The Population Age 65 or Older as a Percentage of the Population Ages 20 to 64
But again, we have a situation where prudential judgment has been collapsed into an absolutism. Green energy and “socialized medicine” (being defined as any attempt by the government to be involved in managing the health system) are the province of Europeans and San Franciscans, not true Americans. That is, energy-guzzling and health-care-guzzling have been given a cultural valence that makes rational debate impossible. And makes economic growth virtually impossible, because, at the end of the day, growth is going to come from both the public and the private sphere dancing in unison.
And yet this is surely the place where Catholic social teaching provides a counter to the dogmatic insistence on certain propositions. Contemporary CST clearly presumes a “mixed economy.” Making this argument in the blogosphere can be nearly impossible, if one merely trots out links and proof-texts, because what is really necessary is a study of the documents. However, Pope John Paul II is clear on this in Centesimus Annus in two places. One, he affirms the “struggle against” an economic system which upholds “the absolute predominance of capital”, and explains
In the struggle against such a system, what is being proposed as an alternative is not the socialist system, which in fact turns out to be State capitalism, but rather a society of free work, of enterprise and of participation. Such a society is not directed against the market, but demands that the market be appropriately controlled by the forces of society and by the State, so as to guarantee that the basic needs of the whole of society are satisfied (para 35).
Two, when he asks, in light of the fall of the Soviet bloc, whether capitalism should be understood to be victorious, he explains:
The answer is obviously complex. If by “capitalism” is meant an economic system which recognizes the fundamental and positive role of business, the market, private property and the resulting responsibility for the means of production, as well as free human creativity in the economic sector, then the answer is certainly in the affirmative, even though it would perhaps be more appropriate to speak of a “business economy”, “market economy” or simply “free economy”. But if by “capitalism” is meant a system in which freedom in the economic sector is not circumscribed within a strong juridical framework which places it at the service of human freedom in its totality, and which sees it as a particular aspect of that freedom, the core of which is ethical and religious, then the reply is certainly negative (para 42).
These quotes make clear that an affirmation of markets and private enterprise is only possible within a system that “guarantees the basic needs of the whole society” and regulates activities “within a strong juridical framework.” Thus, the (sideshow) arguments we have been having about government and deficit should really be more constructive arguments about what we want government to do and how we want government to do them, and how they can be partners in a larger plan for the development of society in a fully human form. Once we can say these things, we can then have the conversation about how to pay for them… which is the conversation about when I should borrow money, and under what conditions, with which I began the post!
Hi David,
I know you are probably referencing George H.W. Bush’s use of the term “voodoo economics” to disparage Reaganomics and most certainly meant no harm by using it again in the title of your post, but I think we should refrain from using the term voodoo to refer to things that are superstititious, scientifically unsound, illogical, and/or primitive as voodoo is a real religion that is just as sophisticated, complex, and meaningful as other religions like Christianity or Islam. The fact that in American English the word “voodoo” is used in this way (I am thinking also of the movie “Avatar” in which the scientist played by Sigourney Weaver insisted that that something wasn’t “voodoo” but real science) is due to racism pure and simple.
To be clear, I am NOT in any way accusing you of racism, only pointing out the way that we can unintentionally perpetuated evils with our language and the fact that the meaning/impact of language does not reside solely in the speaker’s intention.
Voodoo was a religion forged in fires of Haitian slavery and has its roots in African Traditional Religions, a religious culture that is ancient and venerable. It is because of this African association and the fact that Haiti is by far the most African country in the Western Hemisphere that it has come to signify the backward and even the evil. Imagine how we Christians would feel if people like Christopher Hitchens used the phrase “Christian economics” in the way you are using “voodoo economics.” Ouch, right?
Even this comparison doesn’t really capture it of course, because, unlike as is the case with Europeans and European Christianity/Christians and people of African descent, especially Haitians (see http://www.democracynow.org) atheists don’t have a long history of enslaving, torturing, oppressing, and impoverishing Christians.
David,
I enjoyed your post! I appreciate your beginning and framing the Household v/ government analogy – ultimately showing where the analogy fails (at least as I read you..). As Aquinas reminds us on analogy and god-talk, analogies only hold to a point. In my opinion, part of the problem in the public debate stems from people trying to hold on too tightly and absolutely to what is an analogy between household spending and government spending.
Briefly, I’d like to add to the conversation….
The question of unemployment is crucial to all economic arguments. It is largely being left out or misrepresented (in ways linked to my 2nd point and your acknowledgment of the supply-side arguments) – but economic theory takes into account unemployment numbers when making suggestions about government deficit and debt (2 other things that are largely being conflated on tv media coverage (debt and deficit) -sigh). There is a point where public spending comes into competition with private – but it is when a country nears or hits FULL EMPLOYMENT. Unemployment is what we should be focusing on (and aren’t). Related, the misrepresentation of government spending as being in competition and crowding out private spending (again which is a concern near or at full employment) leads to the insistence that the government doesn’t create jobs or that government jobs are somehow “less” than private sector jobs. This is perhaps something I find most scary – as it belittles the dignity of every public worker in this country (social workers, police, firemen, teachers, nurses, community workers, the men and women building our roads…..). And as Pres. Obama noted in his press conference this week….as the stimulus money for the states is running out – significant numbers of public employees are being laid off – thus increasing unemployment (with the direct loss of government civil service jobs).
I meant to say that I thought unemployment crucial to all economic arguments about the current state of US economy…not all arguments in general.
David,
I very much enjoyed your post. I also think that using the household-government analogy is not only misguiding debate, but is a very unhelpful analogy because government finance and household finance are completely different. However, I am glad that despite using this analogy, you do not draw the same conclusions as most people do.
A proper understanding of money and government finance would show you and others that government deficits are not only good, but necessary and normal if the private sector wants to “net save.” Furthermore, the government doesn’t have to finance its spending with taxes or bonds. It has the power to issue its own currency and can therefore spend whatever it needs to. Taxes do not function to supply the government with funds, but are rather a drain on reserves and function to create a demand for the government’s issued currency so that the government can allocate real resources to itself. This is much different than conceptualizing the federal government as a household, state, or member of the EU (or another institution that does not issue its own currency).
Aside from my dislike of you using the analogy, you make very excellent points and I really enjoyed your use of two of my favorite passages in all of the CST documents.
If you are anyone else is interested in the views of money I described above you can read my blog at csteconomics.blogspot.com, or follow the modern money primer at neweconomicperspectives.blogspot.com/, or I very highly recommend the book “Understanding Modern Money: The Key to Full Employment and Price Stability” by L. Randall Wray.
Alex Binder
Ph.D. student of Economics at UMKC