Arnold Kling  

The Deficit Argument, II

The Deficit Argument... The Deficit Argument, III...

Liberal and conservative economists are not as far apart on the issues of fiscal policy as it might first appear. Both sides share a concern that government growth could outstrip GDP growth.

The position of liberal economists on the U.S. Budget deficit is that in order to keep government from growing too quickly relative to GDP, we will need higher tax rates over the medium term (once the current recession is over). The position of conservative economists is that in order to keep government from growing too quickly relative to GDP, we need to keep taxes low.

Both sides agree that if GDP grows at 1.5 to 2.0 percent per year over the next 25 years, then the cost of entitlement programs, particularly Medicare, will rise even faster. As a result, assuming that other spending as a percent of GDP remains about where it is today, total Federal government spending would be around 27 percent of GDP in 25 years, compared with around 20 percent today.

Liberal economist Brad DeLong sees it as imperative to reduce the deficit and lower future interest costs, in order to leave room for this burst in spending. In his view, the Bush Administration tax cuts would "put the U.S. once more on the path to national bankruptcy."

On the other hand, growth theorist Brad DeLong argues that

Today's ongoing revolutions in biotechnology-and-information technology see technological progress of at least 15% per year in industries that make up 13% of total production -- a direct leading-sector boost to economic growth of 2% per year. Indeed, today's world economy packs more structural change and technological progress into a decade than the 20th century packed into a generation.

If he is correct, and GDP growth for the next 25 years is, say, 1 percent higher per year than the conventional forecast, then even with the rise in entitlement spending the ratio of total Federal spending to GDP will remain about where it is today. The deficits will go away, too.

DeLong (both of him) sees reducing entitlement commitments as unthinkable.

the baby-boom generation (and its elders) simply have too many votes, and we are (mostly) a democracy.

In contrast, the President's Budget states flatly that

these programs cannot continue as they are structured today. We must make a different kind of promise to the retirees of tomorrow. We must not delay in enacting reforms to make these programs financially sustainable.

Is that what the real argument is about? If so, then perhaps my idea, to phase out Medicare, should be on the table.

For Discussion: Which is most likely to be the biggest determinant of how much government is involved in the economy: the rate of growth of the economy; the structure of entitlement programs; or choices made for the level of tax rates and non-entitlement spending?

Comments and Sharing

COMMENTS (5 to date)
Patrick R. Sullivan writes:

Of course, Delong is on record:

>>...the existence of the baby-boom generation, rising medical costs, and the belief that everyone ought to be able to see a doctor together more-or-less force federal government spending up from its current twenty percent or so of GDP to somewhere between twenty-five and thirty percent over the next generation. [Steve] Cecchetti's belief that taxes should be restricted to 19 percent of GDP and debt to 50 percent is a decision to award victory to one side of American politics in a debate that has yet to be started.

James Picerno writes:

The structure of entitlement programs. A program like Medicare, for instance, as currently structured, is likely to growth dramatically regardless of tax receipt, economic trends, or tax rates. History suggests as much, don't you think?

Jim Glass writes:

>> History suggests as much, don't you think?

Patrick R. Sullivan writes:

Following up on what Jim Glass wrote, here's Tom Sargent:


Patrick R. Sullivan writes:

Hmmm. Gremlins have eaten the lengthy quote I put up from Tom Sargent. The gist of which was that SS was initially devised with the "stagnation theory of overaccumulation of capital" in mind. I.e., an unfunded pension system would "cure" oversaving, especially by the young, thus reducing unemployment.

Which is hardly our worry today.

Anyway, here's my second try at inserting the quote from Sargent:

"The U.S. social security system was conceived during the 1930's, when many
academic economists believed that excessive saving and overaccumulation of
capital were fundamental macroeconomic problems.

"Because it depressed the prospective returns to new physical investments, a
large capital stock promoted unemployment. This was the stagnation thesis. An
unfunded social retirement system, could 'cure' the problem of capital
overaccumulation by diminishing incentives to save: taxes from young workers
were to be transferred to retirees. The promise that they too should expect to
receive transfers when they were old would dissuade the young from saving.
This cure for too much capital was later formalized by the analysis of Paul
Sauuelson's (1956) overlapping generations model....

"With the passage of years, concerns about capital overaccumulation and
stagnation have receded into memeory, to be replaced by public concern over a
low U.S. saving rate. But we continue to live with a social retirement system
that was designed to ARREST SAVING". [My emphasis]

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