That’s one of the questions the Levy Institute’s latest Strategic Analysis asks as it examines the Congressional Budget Office’s projections for growth and employment in the context of tighter and tighter government budgets.  At the federal level alone we’re facing a well-publicized “fiscal cliff” in 2013, featuring large scheduled spending cuts and the expiration of a number of tax cuts.

As Dimitri Papadimitriou, Gennaro Zezza, and Greg Hannsgen note, the CBO “expects real GDP to grow by 2.2 percent in 2012 and by only 1 percent in 2013, and to accelerate once most of the fiscal adjustment has taken place, with growth reaching 3.6 percent in 2014 and 4.9 percent in 2015.  The unemployment rate is expected to rise to 9.1 percent with the slowdown in economic activity, and to fall rapidly from 2014 onward, once the economy recovers.”  This is all expected to take place in the presence of shrinking government deficits (based on the CBO’s “current law” projections for the federal budget).

Using the CBO’s numbers, the Institute’s macro team ran a simulation to find out what would have to happen in the rest of the economy to make this combination of budget austerity and even tepid-to-moderate growth possible.  The answer:  dramatic increases in private sector borrowing.  Here’s their graph showing, through 2016, the rise in private sector debt that would be necessary to attain the CBO’s economic growth projections in the context of austerity:

Since we cannot expect strong demand for US exports, given the state of the world economy, household and nonfinancial business debt would have to rise, relative to GDP, to levels that would return us to a situation “not so different from the one we had before the 2007-09 recession.”  If you recall, that didn’t end well.

Over at his Concerted Action blog, Ramanan has a post featuring some of Wynne Godley’s Levy Institute publications with special attention paid to Godley’s prescient “Seven Unsustainable Processes,” which appeared in 1999 as part of the Levy Institute’s continuing Strategic Analysis series.  Ramanan (whose blog derives its name from Godley’s last Strategic Analysis [2008]) quotes this passage from “Seven Unsustainable Processes” in which Godley, in the context of the budget surpluses of the ’90s, contrasted his approach to macro modeling (and its policy upshots) with what he regarded as the “consensus view” at the time:

The difference between the consensus view and that put forward here could not exist without a profound difference in the view of how the economy works. So far as the author can observe, the underlying theoretical perspective of the optimists, whether they realize it or not, sees all agents, including the government, as participants in a gigantic market process in which commodities, labor, and financial assets are supplied and demanded. If this market works properly, prices (e.g., for labor and commodities) get established that clear all markets, including the labor market, so that there can be no long-term unemployment and no depression. The only way in which unemployment can be reduced permanently, according to this view, is by making markets work better, say, by removing “rigidities” or improving flows of information. The government is a market participant like any other, its main distinguishing feature being that it can print money. Because the government cannot alter the market-clearing price of labor, there is no way in which fiscal or monetary policy can change aggregate employment and output, except temporarily (by creating false expectations) and perversely (because any interference will cause inflation).

No parody is intended. No other story would make sense of the assumption now commonly made that the balance between tax receipts and public spending has no permanent effect on the evolution of the aggregate demand. And nothing else would make sense of the debate now in full swing about how to “spend” the federal surplus as though this were a nest egg that can be preserved, spent, or squandered without any need to consider the macroeconomic consequences.

My friend Steve Keen recently presented a “primer” on Hyman Minsky; you can read it here.

In his piece, Steve criticized the methodology used by Paul Krugman and argued that Krugman could learn a lot from Minsky. In particular, Krugman’s equilibrium approach and primitive dynamics were contrasted to Minsky’s rich analysis. Finally, Krugman’s model of debt deflation dynamics left out banks—while banks always played an important role in Minsky’s approach. Krugman responded here.

I found two things of interest in this exchange.

First, Krugman argued: “So, first of all, my basic reaction to discussions about What Minsky Really Meant — and, similarly, to discussions about What Keynes Really Meant — is, I Don’t Care.” This is not the first time Krugman has mentioned Minsky—see, for example, here, which previewed a talk he was to give titled “The night they reread Minsky.”

Amazingly, Minsky only appears in the title of the talk. It is pretty clear that Krugman has not cared enough to try to find out what Minsky wrote, much less “what Minsky really meant.” Minsky always argued that he stood “on the shoulders of giants”—and he took the time to find out what they had said. So while Minsky probably would have agreed with Krugman that arguing about what the “master” really meant was less interesting, he did believe it was worthwhile to try to understand the writings of those whose shoulders you stand on.

Second, at the end of his most recent blog it is pretty clear that Krugman leaves banks out of his model because he doesn’t understand “what banks do.” He starts by saying ”If I decide to cut back on my spending and stash the funds in a bank, which lends them out to someone else…” Well, if he had actually read Minsky, he would understand that this is the description of a loan shark, not a bank.

So what I want to do today is to quickly summarize Minsky’s main areas of research. Then next week I will post more on Minsky’s view of “money and banking.” For those who want to read ahead, you can see the more “wonkish” piece at the Levy Institute, where I summarize Minsky’s later (mostly unknown) work on banks.

So, who was this Minsky guy and what was he all about? continue reading…

In 2010, the first year of the economic recovery, 93 percent of all income growth in the US was captured by the top 1 percent, according to Emmanuel Saez.  There are a whole host of reasons for the stubborn persistence of corrosive levels of inequality, but one of the surprising contributing factors may be found in the way we approach fiscal stimulus policy.

In her newest policy note, Pavlina Tcherneva explains how a conventional “prime the pump” approach to stimulating the economy does little to alleviate tendencies toward unequal growth—and may even exacerbate them.  The status quo, at best, offers us two choices in fiscal policy flavors:  austerity and stimulus through aggregate demand management.  While stimulus is preferable, says Tcherneva, there are still flaws in a fiscal strategy that aims at boosting investment and growth without explicitly targeting unemployment.  The problem with pump priming is that it is rarely aggressive enough to adequately reduce unemployment—and when it is sufficiently aggressive, it has inflationary tendencies.

Here Tcherneva is relying on a recent working paper of hers that models the effects of different fiscal policies on prices and income distribution.  She compares the effects of government as a provider of income transfers (in the form of unemployment insurance and investment subsidies), as a purchaser of goods and services, and as a direct employer of workers and finds that the first two policies are more inflationary and more inequitable than direct job creation:  “pro-investment policies in particular add upward pressure to prices and skew the income distribution toward the capital share of income.”

Jumping off from these results, Tcherneva offers a third way on fiscal policy, beyond austerity and pump priming.  continue reading…

It says something about how badly the battle for public opinion on budget matters has been lost when a headline about a “fiscal cliff” the US is about to fall over in 2013 leaves you grimly expecting a pile of words dedicated to the poorly articulated threat of near-term public debt and deficits.  But in this case, hold off on letting your eyes glaze over.  The author is Alan Blinder and the fiscal emergency he’s talking about is a large scheduled swing toward further budget austerity: a combination of expiring tax cuts and automatic spending cuts (from the debt ceiling deal) that are all set to occur in January 2013.  Combined, says Blinder, the fiscal contraction amounts to a drag of 3.5% of GDP—a serious blow to aggregate demand.

And if the macro-level view of things doesn’t grip you, the view from the ground offers enough frustrating examples of the self-inflicted wounds to come.  As Nancy Folbre points out today, Head Start, the early childhood education (ECE) funding program, is destined for cuts.  This isn’t just a “think of the poor children!” moment (though, seriously, think of the poor children.  For whatever reason, only budget hawks are allowed to chastise us for short-changing the next generation).  The economic case for borrowing right now (at negative real interest rates) to make public investments in projects that would yield even modest benefits down the road is compelling.  Making the case for decreasing investment over the next few years in a program that yields substantial benefits, like early childhood education, is a feat to be attempted by only the most clever of sophists.  This is one of those situations where the macro level might not be the most favorable terrain for an argument; where “cutting government spending” doesn’t register quite like “cutting early childhood education.”

And this isn’t just a rhetorical point—the payoffs from ECE are considerable.  Rania Antonopoulos and Kijong Kim’s working paper on the economic benefits of ECE surveys the research showing the direct welfare improvements and positive spillover effects that come from these investments in human capital (enhanced cognitive and noncognitive development for children leading to improved labor market outcomes and asset ownership in the future, improved labor market participation for mothers, higher GDP, etc.).  Antonopoulos and Kim also share the results of their research (along with a team of other Levy Institute scholars) on the job creation potential of a 50 percent increase in Head Start/Early Head Start funding (which, it should be noted, still wouldn’t be enough to offer universal ECE).  In terms of the number of jobs created per dollar spent, they found that investing in social care service delivery packs a serious punch (more than twice the jobs per dollar, when compared with more capital-intensive infrastructure projects).  And if that isn’t enough, Head Start, because it’s targeted at poor children, enhances the sort of equality to which both sides of the political spectrum feel compelled to pay lip service:  equality of opportunity.

Head Start, as Folbre observes, “has never served more than 60 percent of eligible children in extreme poverty.”  That’s a lot of wasted potential.  We’re planning on wasting even more, and in exchange for what exactly?

The Nation notes that austerity policies in Europe have proved to be very damaging to economic growth in the region, and points out that after adhering to IMF and EU austerity programs since last May, Portugal is “even deeper in the hole. The austerity has only increased its debt, as it has spread more suffering.”

The editorial goes on to point out that the euro countries have also been hindered by their unified currency system. This system currently makes it difficult for member governments to see to it that there is a market for their bonds and other securities—namely, their central banks. Taking exception to Republican fears of a “Greek-type collapse,” the Nation emphasizes that the “sovereign currency” possessed by the American government has always allowed it to avoid difficulties making payments on its debt. (A web version of the editorial is here. A similar Washington Post opinion piece is posted here.) Compare this with the current financial problems experienced by many state and local governments, as documented by recent articles in the New York Times (“Deficits Push New York Cities and Counties to Desperation”) and the Wall Street Journal (“States Keep Axes Sharpened”).

Many things can go wrong in an economy, even one with a smoothly running monetary system.  But the Nation’s argument remains crucial for the U.S.—first, that deficit-financed stimulus programs have helped keep our economy going; and second, that a government with its own currency is almost unable to default.

Quick note: In an interesting op-ed piece, Martin Wolf of the Financial Times notes that U.S. budget deficits have allowed the  private sector to deleverage a bit: “If the public sector does not sustain spending as the private sector  cuts back, the latter will go too far, causing unnecessarily deep damage to the economy.” He contrasts the U.S. situation with the crisis in the United Kingdom and Spain, where deleveraging has not gone as far. He points out that Spain’s lack of a sovereign currency has prevented its government from helping along the private-sector deleveraging process.

Although recent employment numbers seem to have set off a fresh round of complacency, the December Strategic Analysis from the Levy Institute makes it pretty clear that more fiscal stimulus is necessary if the economy is going to reach decent levels of growth and employment anytime soon.

However, there’s very little reason to think that anything substantial is forthcoming on the stimulus front, as the US slides slowly into austerity.  And the biggest obstacle is congressional opposition.  Short of an historic wave election, substantial new stimulus just isn’t likely (although when it comes to increasing government spending to counteract a recession, Congress appears to be much more accommodating when there’s a Republican in the Oval Office).  But short of these once-in-generation electoral outcomes, there’s another possibility:  business groups could come around to the realization that they might benefit from an increase in aggregate demand and start seriously pushing their clients in Congress to pass something.

An article in Bloomberg points out that just such a push occurred in the 1940s, as a coalition of business interests, concerned about what would happen to demand as war spending wound down, pushed for fiscal stimulus (interesting side note:  Fed Chairman Marriner Eccles is featured in the article as someone whose Depression-era experience in the private sector led him to conclude that government stimulus was necessary):

Dennison joined forces with Paul Hoffman of Studebaker, advertising executive William Benton, and top managers from Eastman Kodak, General Foods, Sears and General Motors in the Committee for Economic Development in 1942. Fearful that the economy would slip back into a depression once World War II ended, they advocated an activist state that spent money to promote consumption and high employment. Their position was hardly radical, and they aimed their appeal at “all who are interested in keeping the system of private enterprise and larger personal freedom.” But they understood that capitalism could survive only if there was a way to “counter the tendencies toward boom and depression.” Capitalism required growth, by whatever means necessary.

… soon even the Chamber of Commerce took the plunge and joined the growth coalition. Under the dynamic leadership of Eric Johnston, it supported the Full Employment Act of 1946, a Keynesian, albeit conservative, embrace of government spending to reduce the boom-and-bust cycle that Hoffman feared.

It’s notable that such a coalition, as far as I can tell, has not emerged in the contemporary United States.  One can’t help but think that it might have something to do with the decoupling of median and average incomes; with the fact that the top 1 percent seem to be able to enjoy quite robust income growth without needing to pull the average worker along with them.

Medicare cost growth has been slowing down, and according to research published in the New England Journal of Medicine there may be more going on here than just a temporary reaction to the recession.  This is just one analysis of course, but if it pans out, if it marks the beginning of a sustained trend, the implications for the budget debates would be huge.

If Medicare cost growth tapers off, this would address the most pressing issue for those who are concerned (in good faith at least) about the long-term US budget picture.  “Deficit doves,” who are careful to state that we need to increase deficits in the short-term to deal with the recession’s aftermath, will tell you that in the long run the problem is not spending in general, or entitlements (the long-term gap in Social Security funding is estimated to be about 0.6 percent of GDP), or even demographics (the aging of the population will inevitably mean more spending on programs for the elderly, but this trend levels off after a certain period; it’s predictable and manageable).  The very core of their case for long-term debt anxiety is the belief that healthcare costs (and by extension Medicare costs) will rise much faster than GDP for the foreseeable future.

But this means that a large part of the debate has been driven by what we think will happen to healthcare costs decades and decades into the future.  That’s not to say that we should simply wave away problems if they’re based on long-term projections, but we do need to keep it all in perspective.  In this vein, Karl Smith picks up the story on Medicare costs and delivers a bracing inoculation against the “think of the children!” disease that afflicts so many policymakers: continue reading…

The title of C. J. Polychroniou’s latest policy note, “Neo-Hooverian Policies Threaten to Turn Europe into an Economic Wasteland,” gives you a pretty good idea of where he’s coming from:

There can be no denying that, despite the experiences provided by the Great Depression and the numerous financial crises that have taken place since 1973, policymakers have been dismally wrong in their assessment of the 2007–08 global crisis and governments dreadfully incompetent in developing a clear strategy for addressing it appropriately. The reason for this lies with an economic ideology, a conceptual framework with which government officials and bankers deal with economic reality, that is fundamentally flawed.

As a way of addressing some of the flaws of the eurozone policy architecture, and of counteracting the ideology of austerity that is embedded in that architecture (the “fiscal compact” currently being debated, which would place more automatic penalties on governments that deviate from severe limits on budget deficits, goes even further in embedding this ideology in the setup of the European Monetary Union), Polychroniou is looking to a “United States of Europe” model, with an expansion of EU-level fiscal policy powers.

As he observes, however, the European project is moving in the opposite direction:

Indeed, in an indication of where Europe may be headed politically, the EU’s budget was slashed by four billion euros in 2010, with some governments arguing that the EU budget, in the words of British Prime Minister David Cameron, should be progressively “reduced rather than increased”—and this appears to be the definite trend in Euroland.

What manner of union is this?

Read the policy note here.