The greatest blunder in American domestic policy since World War II occurred a half-century ago and helps explain today’s policy paralysis.
The history — largely unrecognized — is worth recalling.
Until the 1960s, Americans generally believed in low inflation
and balanced budgets. President John Kennedy shared the consensus but
was persuaded to change his mind. His economic advisers argued that,
through deficit spending and modest increases in inflation, government
could raise economic growth, lower unemployment and smooth business
cycles.
None of this proved true; all of it led to grief.
Chapter One involved inflation. Increases weren’t modest; by 1980, they approached 14 percent annually. Business cycles weren’t smoothed; from 1969 to 1981, there were four recessions.
Unemployment, on average, didn’t fall; the peak monthly rate — reached
in the savage 1980-82 slump — was 10.8 percent. Americans lost faith in
government and the future, much as now. Confidence revived only after
high inflation was quashed in the early 1980s.
The balanced-budget tradition was never completely rigid. During wars
and deep economic downturns, budgets were allowed to sink into deficit.
But in normal times, balance was the standard. Dueling political
traditions led to this result. Thomas Jefferson thought balanced budgets
would keep government small; Alexander Hamilton believed that servicing
past debts would preserve the nation’s credit — the ability to borrow —
when credit was needed.
Kennedy’s economists, fashioning themselves as heirs to John Maynard Keynes
(1883-1946), shattered this consensus. They contended that deficits
weren’t immoral and could be manipulated to boost economic performance.
This destroyed the intellectual and moral props for balanced budgets.
Norms changed. Political leaders and average Americans noticed that
continuous deficits did no great economic harm. Neither, of course, did
they do much good, but their charm was “something for nothing.”
Politicians could spend more and tax less. This appealed to both parties
and the public. Since 1961, the federal government has balanced its
budget only five times.
Arguably, only one of these (1969) resulted from policy; the other four
(1998-2001) stemmed heavily from the surging tax revenue of the
then-economic boom.
America now faces the consequences of all these permissive deficits.
The recovery is lackluster. Economic growth creeps along at 2 percent annually or less. Unemployment has exceeded 8 percent for 41 months.
But economic policy seems ineffective. Since late 2008, the Federal
Reserve has kept interest rates low. And budget deficits are enormous,
about $5.5 trillion since 2008.
Only one group of economists has a coherent response: Keynesians. Led by New York Times columnist Paul Krugman,
they argue that the deficits haven’t been large enough. If consumers
and businesses aren’t spending enough to revive the economy, government
must substitute. Its support would be temporary until more jobs and
profits strengthened private spending. Sounds convincing.
But it
collides with the 1960s’ legacy. Running routine deficits meant that the
federal debt (all past annual deficits) was already high before the
crisis: 41 percent of the economy, or gross domestic product (GDP), in
2008. Huge deficits have now raised that to about 70 percent of GDP;
Krugman-like proposals would increase debt further. It would approach
the 90 percent of GDP that economists Kenneth Rogoff of Harvard and
Carmen Reinhart of the Peterson Institute have found is associated with higher interest rates and slower economic growth.
Since
1800, major countries have experienced 26 episodes when government debt
has reached 90 percent of GDP for at least five years, they find in a
study done with Vincent Reinhart of Morgan Stanley. Periods of slower
economic growth typically lasted two decades.
Now, imagine that
the country had adhered to its balanced-budget tradition before the
crisis. Some deficits would have remained, but the cumulative debt would
have been much lower: plausibly between 10 percent and 20 percent of
GDP. There would have been more room for expansion. Balancing the budget
might even have forced Congress to face the costs of an aging society.
The
blunder of the Sixties has had a long afterlife. Economic policy is
trapped between weak demand and the fears of too much debt. Yesterday’s
Keynesians undercut today’s Keynesians. “In the long run we are all
dead,” Keynes said. But others are alive — and suffer from bad decisions
made decades ago.
http://www.washingtonpost.com/opinions/robert-samuelson-why-us-economic-policy-is-paralyzed/2012/07/08/gJQARBEwWW_story.html
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