When the Guardian reports on President Obama's cave-in over the Bush-era tax cuts by saying...
Paul Krugman, the Nobel economics prize winner, called on Obama to stand firm against the Republicans' "tax-cut blackmail" which will cost the US treasury $4 trillion in revenue over the next decade and prompt a "major fiscal crisis".they're quoting an "economist" whose long-since abandoned serious research and become instead a parody of himself. The fact is, Krugman has worked out that there are an awful lot of people for whom no taxes are high enough (especially when applied to someone else, usually "the rich") and neither can spending ever be high enough, and having a Nobel Laureate pander to their prejudices pays rather well. As he recently argued that the deficit was not big enough, to suggest that NOT RAISING TAXES which is what not allowing the Bush cuts to expire amounts to, is fiscally catastrophic when you've been arguing for a far higher level of Government spending funded by borrowing, Krugman is dishonest at best. The reality is more complex.
The jury is still out on whether "Fiscal stimulus", using government spending to kick-start the economy by boosting demand, is possible at all outside the "automatic stabilisers" of welfare provision. But because most people are utterly ignorant of economics, they think state borrowing is a magic money-tree, which means you don't have to tax in order to spend, this allows politicians who should know better to call state spending over and above that received in tax "investment" in the boom and "stimulus" in the bust. These are big, important-sounding words that make it seem that insane profligacy is backed by some proper economic thought.
Such "stimulus" can take two forms tax-cuts and state spending on services. Whilst keynes argued for the state to use slack demand in the economy to build roads and public works (a position close to coalition policy...) in practice, the neo Keynsians argue that it's the borrowing that puts money into the economy, by increasing demand. This frees them to spend on their priorities unconstrained by tax reciepts which are rarely roads and public works which actually benefit joe ordinary, and instead consist of make-work schemes for a client state. Because this spending is of marginal utility, people are not better off in the long-run.
The arguments in favour of tax-cuts as stimulus are slightly stronger: by leaving the money in peoples pockets, some is spent on things people find worthwhile (ie NOT TSA Crotch-Fondlers and Diversity Outreach Coordinators), generating VAT and sales taxes and cycling through businesses leading to an increase in corporation tax. Some of it is invested (actually invested in the hope of an above inflation return as opposed to "invested" in public services) in businesses leading to extra employment, raising income tax receipts, stamp duty and CGT receipts, should the investmet go well. Some will be invested in Government bonds, which has the effect of lowering the interest rate paid by the Government. Of course, whether this increase in other taxes as a result of the tax-cut is greater than the "cost to the exchequer" is moot. I suspect, in the long run generally a well-designed tax-cut (ie not the ones Obama has just extended) may pay for itself in extra growth generated as explained above, in the short, run they just increase the deficit, with exactly the same effects as extra spending.
The absolute size of "the state" is not important here (even if I generally favour a smaller one), nor does the form the stimulus takes, extra spending or tax-cuts matter a great deal. What IS important, however is what Krugman himself once derided as "the old-time religion of sound-money". Something the Republican right has abandoned with unfunded tax-cuts, and the British Left has never thought about in the first place with its insanely profligate love of ever-higher state spending.
Politicians risk stagflationary catastrophe (if they're lucky...) by running these huge deficits, and it matters not whether it's spending or tax-cuts which did it. The effect of deficits is the same - inflation as money is printed, high interest rates as the bond markets lose confidence; high intereset rates potentially cause the economy to stagnate, leading to currency weakness, raising the price of imports and effectively making people poorer. Furthermore, people save to offset future tax-rises and use artificially low short-term interest rates to pay off debt, negating much of the effect of the "stimulus". So there's not much if any extra growth in the economy for a great deal more debt hanging around the tax-payer's neck. The way Governments spend money in practice means the tax-payer hasn't even got good infrastructure for all that debt, which MIGHT have led to higher growth because extra state spending is often, in effect, like paying men to dig holes and fill them in: work of no utility at best. Leftists like this because they like lots of lovely government spending, and because, in the UK at least the neo-keynsians and leftists are the same people, the "stimulus money" gets spent on diversity outreach coordinators and assorted prod-noses, who actually hold back economic growth in a sea of red tape. In the US the punk-keynsians are on the right so the stimulus money is spent on more prisons, TSA crotch gropers, expeditionary warfare and the "war on drugs", crippling the country in pointless security theater. Does any grown-up think this spending increases utility in the economy?
Whether it's tax-cuts or spending increases, deficit spending doesn't work to stimulate the economy beyond the Automatic stabilizers, especially in the long-run. The message to politicians is simple: Don't cut taxes if you're not going to cut spending. Don't raise spending if you're not going to raise taxes. In economics, there is no such thing as a free-lunch. Whether you favour a big state or a small spending MUST be paid for. Small deficits in a recession are fine - no-one's suggesting that the budget be in balance every year, but deficit must be matched by surplus in the good times. And that happened under those much derided and much under-rated politicians: John Major (and Gordon Brown, for a couple of years, until he abandoned TORY spending plans, which is why I don't give him credit) and Bill Clinton (how clever of him to hide unpopular fiscal sanity by shagging a fat lass)
So last night, Obama took the easy option and gave into the Republicans over Bush's tax-cuts, and already American debt is falling sharply on the news, heralding higher interest rates for all, which will negate much of the stimulus effect, as millions pay more on their mortgages. Obama wasted all his political capital on futile Health care reform, and had none left to fight the Republicans where it matters. He seems to neither know, nor care about the danger of a big deficit. Indeed, he's unwilling to cut spending, and appears to welcome a deficit as "stimulus" so he's as much of a stupid Punk Keynsian as Ed Balls. He wants to Spend, Spend, Spend on Government programs. But like all politicians, he won't ask the voter to pay for it - he may be able to blame the Republicans for half of the problem, but that's a political call; he's demonstrated his priorities. If you beleive in "stimulus" why not cut taxes as you raise spending? Politically, it makes sense: The voter's kids, the poor dupes who are going to pay for it all eventually, don't have a say. Of course America is a big, rich economy so the wheel will come off a long time after he (and Bush, who it must be remembered caused the problem in the first place) have left office.
Obama, the politician who entered office on a wave of Optimism not seen since JFK has failed to stand up to a recalcitrant congress and within two years become, fiscally at least, a nightmare love-child of Bush Junior and Gordon Brown. It is debasement of the currency caused ultimately by unfunded "bread and circuses" for the mob which eventually did for the Roman Empire. Unless we return to "the old-time religion of sound money", and stop taking listening to that dishonest purveyor of pretty lies, Paul Krugman, western civilisation is doomed.