An introduction to the debt limit

This post offers a plain vanilla explanation of the debt limit. This is basic background aimed at fiscal policy novices. I oversimplify in a few places for ease of understanding and push some caveats and complexities down to footnotes. Some of my past readers may find this too elementary, but it’s a foundation I can build upon in future posts that will offer more detail and discuss the current stalemate.

The federal government’s fiscal year begins October 1, so federal fiscal year (FY) 2013 just ended and FY 2014 just began last week. In FY 2013 the federal government collected about $2.813 trillion in revenues and spent about $3.455 trillion. The difference between those two numbers, $642 billion, is the unified budget deficit for Fiscal Year 2013. We say unified budget deficit because we’re looking at all money flowing into the federal government (revenues) and all money flowing out (spending), and not distinguishing among different sources or uses of those funds. In other contexts, usually having to do with Social Security, we might want to treat on-budget and off-budget spending and taxes differently, but for this discussion we will use unified numbers.

I think of these enormous numbers as representing flows of cash. (Please see the footnotes below for two caveats: [1] [2]) The key question: if last fiscal year the government spent $3.455 trillion in cash but collected “only” $2.813 trillion in cash, where did it get the other $642 billion in cash it needed to pay the rest of its bills?

The federal government borrowed it. The Treasury department sold IOUs that we call Treasury bonds (technically bills, notes, and bonds, depending on the timeframe). Investors paid cash for these IOUs, and in exchange they got a promise that Treasury will pay them back later, in full, with interest, and on time. We say that Treasury issued debt to raise cash. Treasury’s issuance of debt is a means to an end: it is the mechanism Treasury uses to get the cash it needs to pay all the government’s bills (which we call government obligations) on time.

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Observations on the Financial Crisis

For the five year anniversary of the 2008 financial crisis, Ed Lazear and I have released a paper titled “Observations on the Financial Crisis,” published through the Hoover Institution. It’s just over 25 pages and also has a fairly detailed timeline of events as an appendix.

Ed was chairman of President Bush’s Council of Economic Advisers when I was director of the National Economic Council.

Here are the 19 observation headlines. I urge you to read our supporting arguments, especially if you’re going to comment on or respond to them.  Each argument takes only about a page.

  1. “The recession that began in late 2007” conflates two distinct time frames.
  2. The financial panic began in September 2008. The financial crisis began long before, and first showed significant signs in August 2007.
  3. The shock and panic of September 2008 were triggered by a sequence of events, not just by the Lehman failure.
  4. Putting Fannie Mae and Freddie Mac into conservatorship likely averted larger shocks.
  5. The “deregulatory cause” hypothesis is flawed.
  6. The financial crisis was caused principally by unprecedented capital flows into the United States.
  7. Dominoes vs. popcorn
  8. TARP was a shift to a systemic solution from a case-by-case approach and was possible only when Congress accepted that inaction would lead to a catastrophic failure. Policy makers traded false negative errors for false positive errors.
  9. TARP is the most successful financial policy for which no member of Congress will admit having voted “aye.”
  10. Capital investment was indeed better policy than buying “toxic assets.”
  11. The financial crisis was largely resolved by the time President Obama took office in late January 2009. President Obama’s task was not to address the financial crisis, but instead to handle the ensuing financial cleanup, financial policy reforms, and the severe macroeconomic recession that resulted from the late-2008 financial crisis.
  12. The financial rescue continuity should not be surprising, since two of the three key players were unchanged.
  13. Some conservatives mistakenly assumed that Chapter 11 restructuring was a viable option for GM and Chrysler.
  14. President Bush’s decision to extend auto loans was in part influenced by the timing of the Presidential transition.
  15. While both were heavily involved in crisis management, Presidents Bush and Obama took different approaches to firm-level decisions.
  16. “The deepest recession since the Great Depression” does not mean the two are comparable in size.
  17. At best, the fiscal stimulus offset about a quarter of lost output in the past five years.
  18. The exceptionally slow recovery has magnified the economic losses of the 2008-09 recession.
  19. While the U.S. economy is growing, it is not returning quickly to its prior level.

If you find this paper interesting I have two other reading suggestions to offer.

  1. As a member of the Financial Crisis Inquiry Commission I wrote a dissent to the main report with Bill Thomas and Doug Holtz-Eakin.  Where the Hennessey/Lazear paper makes a collection of arguments on frequently discussed topics about the crisis, the Hennessey/Holtz-Eakin/Thomas dissent attempts to describe the causes of the 2008 crisis.
  2. I think this paper by Brookings’ Martin Baily and Doug Elliott, Telling the Narrative of the Financial Crisis, does the best job of framing the overall debate about what caused the 2008 crisis.  At a minimum it’s good to read their short blog post about the paper.  The Financial Crisis Inquiry Commission debate fit perfectly into these three narratives: the majority report tracked Narrative 2, Peter Wallison’s dissent tracked Narrative 1, and our dissent tracked Narrative 3 (where Baily and Elliott are).

Two sharp-eyed readers (who are better than I am at proofreading) found our typo.  On page 2 it should read “… steadily worsening to 830,000 jobs lost in March of 2009.”  The printed text says March of 2008.

Opposing the President’s FHFA nomination

Opposing the President’s FHFA nomination

Today President Obama announced his intent to nominate Rep. Mel Watt (D-NC) to head the Federal Housing Finance Authority (FHFA), the regulatory agency that regulates Fannie Mae and Freddie Mac.

In the mid 2000s Fannie, Freddie, and their hordes of lobbyists were able to delay GSE reform legislation until it was too late to do any preventive good. Despite the efforts of President Bush to push aggressive reforms for several years prior, legislation was enacted only in July 2008 as the firms were in the process of imploding. Congress allowed the barn doors to be closed only after the horses had escaped.

For GSE reformers the most important vote was on a bipartisan May 2007 House floor amendment by Rep. Randy Neugebauer (R-TX) and Rep. Melissa Bean (D-IL).

At the time Fannie and Freddie held portfolios of mortgage-backed financial assets of about $700 billion (each!) GSE reformers were afraid that these large hedge funds within the firms were carrying too much risk and had little to do with the core mission for which Fannie and Freddie were created. Because Fannie and Freddie (a) were so big, (b) held such huge portfolios with poorly-understood risk; and (c) were interconnected with so many other financial firms large and small, reformers feared they posed too much risk to the financial system.

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How to avoid shafting future retirees & creating another bailout

How to avoid shafting future retirees & creating another bailout

Congress will soon vote on a final version of a two-year highway spending bill.  Press reports suggest the just-concluded agreement includes a “pension funding stabilization” provision from the Senate version of the bill. This means that any Member of Congress who votes for the final bill will be (a) shafting some future retirees in defined benefit pension plans and (b) increasing the risk of a future taxpayer bailout of a government-run corporation that insures pension plans. Congress can avoid both these bad things simply by removing this provision from the final version of the bill.

In a defined benefit (DB) pension plan firm managers set aside cash now to pay benefits later.  The firm then invests that cash and hopes that future cash contributions, plus the investment returns on the assets, will be sufficient to pay these benefit promises in full. It’s a bit tricky to project future pension benefits, but the principal challenge is estimating the rate of return on investing the assets in the pension fund. If a firm manager assumes a high rate of return, then he doesn’t need to set aside a lot of cash now to pay future benefits and he can use that cash for other purposes now.

Of course if the investment returns fall short of his overly optimistic assumptions then the pension plan will be underfunded. There won’t be enough in the plan to pay future benefits. That becomes a huge problem if the firm goes bankrupt. Then the firm hands the plan assets and benefit promises over to a government-run insurance company, the Pension Benefit Guaranty Corporation (PBGC), whose sole purpose is to insure DB pension plans of firms that go bankrupt.

PBGC then takes those (insufficient) pension fund assets and distributes them among the firm’s retirees. Since the plan is underfunded, retirees have to take a “haircut” on their pension benefits.  Someone who spent decades of his life working for a firm finds, in retirement, that the pension promise upon which he has relied is now broken.

If the assets are insufficient to pay full benefits, PBGC will fill in the gap in a retiree’s pension promise, but only up to a specified amount (about $56K/year in 2012). Above that the retiree is shafted. That is problem #1.  Firm managers benefit while they are underfunding the pension plan.  They have more cash on hand to use for other purposes:  investing in plant and equipment, hiring workers or paying them more, paying themselves more, or paying dividends to the firm’s owners.  Future retirees lose by bearing some of the risk of the firm going bankrupt and then short-changing the promised pension benefits.

Problem #2 is that the PBGC insurance plan for DB plans is also underfunded. Firms with DB pension plans must pay premiums to PBGC, and those premiums are set by statute. These same firm managers and their lobbyists persuade Congress not to raise the premiums, creating the PBGC underfunding problem.

What happens, then, if in the future a firm with a DB plan goes bankrupt, and PBGC doesn’t have the money to fill in the benefit gaps as it is required to do?  Current law provides no answer, leaving two possibilities:

  1. That firm’s retirees with pensions below the cap ($56K today) will not be paid full benefits;
  2. Or more likely, there will be intense pressure on Congress to bail out PBGC so these retirees’ benefits can be paid by taxpayers.

To their credit, the new highway bill negotiators increased legislated PBGC premiums, but they allowed firms to underfund their plans more. While future retirees bear some of the risk of today’s underfunding, taxpayers bear the rest of it.

Here is how the scam works:

  • Some irresponsible firm managers contribute to their DB pension plan the minimum amount required by law, even when their pension plan is underfunded.
  • When asked about the underfunding, they say “We’re doing what the law requires,” even though the law does not require them to fully fund the promises they have previously made to their employees.
  • Whenever they can, these same firms lobby Congress to increase the investment return they are allowed to assume, making their pension plan look healthier than it actually is and requiring them to contribute less cash.
  • If Congress won’t change the allowed investment assumptions, then these firms lobby for legislated “contribution relief” that allows them to reduce or delay the rate at which they contribute cash to reduce their plan’s underfunding.
  • They also lobby Congress not to raise the premiums they must pay to PBGC, even though PBGC doesn’t have enough cash on hand to cover its contingencies.
  • If (when) one of these firms goes bankrupt, firm managers “dump” the pension plan on PBGC and wash their hands of it.
  • Whatever underfunding exists in the plan falls on retirees above the PBGC cap, who see their promised pension benefits cut.
  • If (when) someday in the future PBGC doesn’t have enough cash on hand to fill in benefits up to the cap, then firm managers and their retirees will demand a taxpayer bailout from Congress.
  • At that point Congress will have to choose between (a) shafting taxpayers and (b) allowing the government to default on its promise to backup the pension promises of these low and moderate-wage retirees (after their former employer has already failed to fulfill their original promise).

Now for the kicker: in many cases the labor leaders who represent the firms’ employees cooperate in this effort. Management and labor leaders team up, both to underfund the DB pension plan and to lobby Congress to allow them to do so. This frees up immediate cash in the firm, which management and labor then wrestle over. When they do this, labor leaders are prioritizing current wages and current benefits over future pension benefits, and at the same time shifting some of the risk associated with paying those future pension benefits to taxpayers.

The firm managers lobby Republicans in Congress and the labor leaders lobby Democrats. “Give us pension funding relief,” they argue. Members of Congress and staff, who are used to management and labor doing battle, are happy to see that at least on this issue they agree. There is then a strong bipartisan push for a legislative “fix” for pension funding “relief” which allows the continued underfunding of both the DB plans and the PBGC to continue.

No one lobbies on behalf of future retirees who face increased risk of having their pension benefits cut when their employer goes bankrupt. No one lobbies on behalf of the taxpayer who faces increased risk of paying for a future PBGC bailout.

The details and justification of the particular proposed legislative change, including the one now in play, are unimportant. This is a world of actuarial assumptions and accounting conventions that is at best complex and at worst obtuse and intentionally obfuscated by those trying to behave irresponsibly.  The big picture is always the same: management and labor team up to change the legislated rules to allow the firm to pay less cash now to an underfunded DB pension plan.  Future retirees and taxpayers bear the increased risk and cost of Congress allowing irresponsible behavior now by firm managers and labor leaders.

The lobbyists play a clever game depending on the financial environment.  When financial markets are performing well they say “Look at what great investment returns we have been getting! Congress should change the law to allow us to assume these great returns continue, meaning our plans are no longer underfunded and we don’t have to contribute any more cash.”

When markets perform poorly, the lobbyists cry poverty. “Our firms are hurting. Yes, our investment returns have been poor, and yes, our pension plan is severely underfunded. But every dollar we put into our underfunded pension plan is a dollar we cannot spend to hire a worker or invest in plant and equipment.  Congress should change the law to allow us to contribute less cash to our pension plans in the short run. Then when the economy has come back we’ll have more cash on hand to fill in the underfunding.”

In the past the preferred tactic was to legislatively change the rules for calculating the amount of underfunding. This is legislated lying — firms were allowed to make unreasonable assumptions and falsely show that their plans are not underfunded. Based on these spurious calculations they then had to contribute less cash. It also allowed them to tell their employees, “Based on the government’s rules for calculating pension plan funding, your plan is healthy.”

In 2006 the Bush Administration worked with a few responsible Members of Congress (most notably Speaker Boehner and Senators Baucus and Grassley) to change the law to bring more honest accounting to DB pension plans.  We were largely but not completely successful.  It is harder to lie about your plan’s underfunding than it used to be.

The pension provision in the Senate version of the highway bill does not change the way pensions are measured. It instead changes the method for calculating the required minimum cash contribution to a pension plan. If this becomes law it will allow those firms with the most underfunded pension plans to contribute even less cash toward closing their funding gaps. Congress will once again be complicit in allowing firm and labor leaders to violate promises made to workers.

Everyone says they hate taxpayer bailouts. The best way to stop taxpayer bailouts is not to block the bailout after the catastrophe has occurred, it’s to avoid creating the catastrophe in the first place.  By stripping this provision (which was Section 40312 of the Senate bill) from the final highway bill, Congress can avoid making it easier for irresponsible firm managers and labor leaders to shaft future retirees. They can also avoid increasing the risk of a future taxpayer bailout of PBGC.

Some day in the future firms with defined benefit pension plans will go bankrupt, their retirees will be shafted, and Congress will be pressured to make taxpayers finance a PBGC bailout. Members of Congress will give angry speeches and everyone will ask how this could have happened. The answer will be in part that Members of Congress voted for and the President signed this highway bill containing this “pension funding stabilization provision.”

Congress, you have been warned.

President Obama's Cleveland economy speech – detailed outline

President Obama's Cleveland economy speech – detailed outline

This is the second of two posts. Here is the first, a much shorter high-level version of the outline contained here.

This is my attempt to build a detailed outline of the economic speech President Obama gave in Cleveland yesterday (watch it).

I used his language in some parts, but in many parts these are his concepts expressed in my words, I hope to provide more clarity.

It won’t surprise regular readers that I disagree with much of this. I have tried not to let that cloud this summary.

Detailed outline of President Obama’s Remarks on the Economy

Cuyahoga Community College
Cleveland, Ohio
Thursday, June 14, 2012

I. Big choice — two paths

A. Choice / two fundamentally different visions.
B. Choice and debate are not about whether we need to grow faster, but instead about how to:

1. Create strong, sustained growth;
2. Pay down our long-term debt;
3. Generate good, middle class jobs so people can have confidence that if they work hard, they can get ahead.

C. Big decisions. Not new challenges. Problems more than a decade in the making.

D. Being held back by a stalemate over two different paths for our country. Election should is about resolving this stalemate.

II. Define & blame Republican theory for bad stuff.

A. Long before 2008 the basic bargain had begun to erode
B. Define Republican theory: cut taxes, no regs, market solves everything
C. Results of Republican theory: worked well for the rich, but prosperity never trickled down to the middle class.

III. Be patient.

A. Not your normal recession.
B. It has typically taken countries up to 10 years to recover from financial crises of this magnitude.
C. We’re in better shape than Europe.

IV. Take credit for the good stuff

A. We acted fast. My policies are working.
B. We’re recovering from:

1. Financial crisis of 2008;
2. A decade of middle class falling behind;
3. Erosion of basic bargain over decade[s?]

V. Romney wants to repeat the failed experiment of the last decade.

A. We implemented Republican theory last decade:

1. Best way to grow the economy is from the top down;
2. Eliminate most regulations;
3. Cut taxes by trillions of dollars;
4. Strip down government to national security and a few other basic functions.

B. This failed theory created the fiscal problems we face now and the financial crisis that caused this weak economy.

C. Romney wants to return to and repeat this failed theory.

VI. Romney’s plan is bad for the middle class.

A. Keep Bush tax cuts in place and add another $5T in tax cuts on top of that.

1. 70% of those will go to >$200K/year, and >$1M/year will get an average tax cut of about 25%

B. Cut valuable government programs: student loans, Head Start, health research and scientific grants.
C. Eliminate health insurance for 33m (repeal ACA) + 19m more (Medicaid cuts).
D. Scale back or eliminate tax breaks that help middle class families: health care, college, retirement, homeownership.
E. Repeat of failed top-down growth theory.

VII. My plan is an economy built from a growing middle class. Race to the top.

A. Education;
B. Energy;
C. Innovation;
D. Investment;
E. Tax code based on American job creation and balanced deficit reduction.

VIII. I’m a centrist, look at my record.

A. I have cut taxes.
B. Fewer regulations than Bush in first three years.
C. Signed into law $2T of spending cuts.
D. Deficit reduction plan to slow health cost growth, not shift costs to seniors.
E. Domestic discretionary spending lowest share of GDP in nearly 60 years.

IX. I’m for keeping the American tradition of bipartisan government involvement in the economy.

A. Government is not the answer to all our problems, and I’m not proposing government run everything.
B. Romney and Republicans want to return us to no rules and unregulated market free-for-all.
C. America has succeeded not by telling everyone to fend for themselves, but by all of us pitching in, all of us pulling our own weight. That’s what I’m for.

I hope you find this useful.

(photo credit: Obama campaign)

President Obama's Cleveland economy speech – high-level outline

President Obama's Cleveland economy speech – high-level outline

This is the first of two posts.

Here is my attempt to outline the meaty 53 minute economic speech President Obama gave yesterday in Cleveland. I built this outline to help myself analyze the speech, then realized that others might find it useful. While it is true that little of the substance was new, this is nevertheless a serious policy speech that makes what the President and his advisors think is the economic part of their best case for reelection. I will take it seriously and recommend you do so as well — this isn’t just another blow-off stump speech. This is the theory of the economic case the way the President wants you to see it.

If you’re a student of economic policy I recommend you watch or read the whole speech. No summary or analysis can substitute for the candidate’s own words and presentation.

Here is my plan of attack: summarize first; then explain; then respond. Today is just the first step, the summary.

In some cases i use the President’s words, but I’m often using my own more colloquial language to express his arguments more clearly if I can. So in some cases these are his thoughts (I think) in my words. I have done my level best to capture his arguments in their most effective and convincing form, especially when I disagree with them. I will express my disagreements another time.

This post contains just the highest level outline. The next post contains a much more detailed outline. I recommend you skim this one, then read that one.

High level outline of President Obama’s Remarks on the Economy

Cuyahoga Community College
Cleveland, Ohio
Thursday, June 14, 2012

I. Big and fundamental choice — two paths.

II. Define & blame Republican theory for bad stuff.

III. Be patient.

IV. Take credit for progress / the good stuff.

V. Romney wants to repeat the failed experiment of the last decade.

VI. Romney’s plan is bad for the middle class.

VII. My plan is an economy built from a growing middle class. Race to the top.

VIII. I’m a centrist, look at my record.

IX. I am for keeping the American tradition of bipartisan government involvement in the economy.

That’s the short, high-level outline. Here is the detailed version.

I hope you find this useful.

(photo credit: Obama campaign)

Why delay austerity decisions?

Why delay austerity decisions?

Lefty and Righty are debating stimulus and austerity over a cup of coffee.

Lefty: Growth of the U.S. economy is slowing due to insufficient domestic demand and headwinds, especially from Europe. We need to make sure we don’t make the same mistakes as those Europeans who are weakening their economies through austerity. I’m for growth now. We need to increase highway spending, hire more teachers and policeman, and prevent tax increases, except for on the rich.

Righty: I’m not sure I agree with your diagnosis but want to focus on your “growth now” point. Why does it have to be either-or? Why can’t we pursue growth policies and austerity policies simultaneously? You and I disagree both on what policies best lead to increased economic growth and on the best way to address our underlying fiscal problems, but I don’t see why we have to choose between the two goals.

Lefty: Because austerity hurts economic growth and because our need for growth policies is urgent. We need to prioritize growth now because the economy is weak now.

Righty: I’m not being clear. I agree that the short-term outlook is for weak growth at best, and I don’t want to do anything to hurt that.

Lefty: Except you want to slash government spending. That will have a countercyclical effect. Not only will teachers and policemen be laid off, they won’t have income to spend and so shop clerks and plumbers will lose business.

Righty: You and I disagree about the magnitude of that effect. You think it’s big, I think it’s small, and some of my associates think it’s zero. But let’s assume for the moment that you’re right. My principal focus is not on cutting today’s spending. My top austerity priority is to reduce future deficits by reforming and slowing the spending growth of the the big 3 entitlements: Social Security, Medicare, and Medicaid.

Lefty: Your House Republican friends left Social Security reform out of their budget.

Righty: Yes they did, and I wish they hadn’t. But my point stands — I want to fix our government’s unsustainable borrowing path by making big changes to medium and long-term government spending, especially in the big 3 entitlements. In any conceivable reform those changes don’t even begin for a few years, and once they do, the spending “cuts,” as you call them, phase in gradually over time. I propose policy changes that have no effect for the next few years, then a small effect for a few years. It then grows gradually over time to have huge long-term effects.

Lefty: You want to destroy Social Security, Medicare, and Medicaid.

Righty: That’s a cheap shot and you know it. For the moment let’s set aside the specific changes I want to make. My argument holds even for a very different type of austerity package.

I think that in the long run you want to make only minor tweaks to those entitlement spending programs and instead rely heavily on tax increases to reduce future deficits. I’m just guessing, though, because the only thing you ever say is …

Lefty: I want a balance of spending cuts and tax increases to address our long-term deficit problems.

Righty: Right on cue, thank you. You’re always a bit light on the specifics of your long-term tax increases. But let’s suppose you had specifics. Like mine, your austerity package would have little fiscal effect immediately, and, like mine, your package would phase in gradually over time. This is true if you only raise taxes or if you combine incremental entitlement spending reforms with tax increases. The fiscal effects start small and build up slowly.

To achieve its principal goal, the austerity, also known as deficit reduction, package does not have to have any immediate fiscal effects. I’ll tell you what: you pick a delayed start of up to five years, however much time you think we need for the economy to fully recover and for us to return to full employment. I’ll commit right now that whatever deficit reduction we negotiate will not begin until we are past your initial delay as long as we actually solve the long-term problem. That way, in your Keynesian view of the world, our austerity / deficit reduction package won’t hurt our prospects for short-term growth.

Lefty: So growth now, austerity later? I’m good with that. Always have been. In fact, that’s what I have been saying, if only you had listened more closely.

Righty: Right. I think we both know what each of us wants for short-term economic growth. As I said, I’ll start the deficit reduction discussion with the House-passed Ryan plan + Social Security reform, with a delayed start date of your choosing of up to five years. What is your opening for deficit reduction?

Lefty: Well, I have already proposed $4 trillion of deficit reduction over the next 12 years…

Righty: … which would still leave more than $6 trillion of increased debt over the next decade. And that includes only the beginning of the steep part of the entitlement spending curve.  Your proposal would still leaving a massive medium-term increase in debt. My plan would solve the long-term fiscal problem. You don’t like its effect on Social Security and the health entitlements.  Fine.  What is your solution to the long-term fiscal problem, rather than your first step toward a solution?

Lefty: I’ll tell you later.

Righty: What?

Lefty: I’ll tell you later, when we negotiate austerity, maybe in 2013 or 2014, whenever we’re past this short-term economic weakness. Or maybe we’ll just negotiate this first austerity step after the economy has recovered, and then tackle the rest sometime after that.  You said it:  growth now, austerity later. I’ll tell you my complete solution later.

Righty: No, no, no. We need to negotiate both now.

Lefty: But you said growth now and austerity later!

Righty: I was talking about implementation dates. We need to agree to both sets of policies now, or at least soon. I am committing that the implementation of whatever austerity we agree to won’t begin until after your delay. We negotiate growth now and austerity now. The growth policies are enacted now and start taking effect now. The austerity policies are enacted into law now but don’t begin to take effect for a few years.

Lefty: Why not wait to negotiate austerity? Growth is more urgent, and we both know how hard it will be to reach agreement on solving our long-term fiscal problem.

Righty: My biggest reason is that I lack confidence in anyone’s promises that they will make hard decisions and cast hard votes at some unspecified future date. But let me invert your question: why wait to negotiate on austerity?

Lefty: Because I don’t want to slow growth.

Righty: But enacting legislation soon to reduce future spending, on a time delay, isn’t going to slow short-term growth, especially in your Keynesian view of the world.

Lefty: If it doesn’t start to take effect for 3-5 years then we have 3-5 years to negotiate.

Righty: No we don’t, because markets are forward-looking and so are people. There is an immediate and significant market benefit in committing the U.S. to a fiscally sustainable path as soon as possible. And people need time to plan for big future changes in old age retirement and health promises.

Lefty: Well we’re not going to be able to negotiate either growth or austerity before the election. It’s too risky.

Righty: You’re probably right, and I’m not locked into any particular timing. The sooner the better. If sooner means right after Election Day, then I’m good. If it means early in 2013, immediately after concluding a short-term negotiation or a new President Romney takes office, I can live with that, too. I don’t need short-term growth and long-term austerity to be negotiated simultaneously or enacted as part of the same legislation.

But it’s crazy to argue that we must wait for the short-term economy to recover before we enact long-term changes that reduce future deficits. The constraints on proposing, negotiating, and enacting long-term deficit reduction are political and legislative, not economic. A weak short-term economy is not a valid excuse for delaying the legislative enactment of policy changes that would solve our deficit and debt problem. It is an excuse only for beginning the immediate implementation of those policy changes, and we can delay that implementation to address short-term growth concerns. Long-term austerity can be proposed, negotiated, and enacted while the short-term economy is weak and even if it is getting weaker.

Lefty: Umm…

Righty: Will you therefore put on the table now a delayed-start austerity plan to compare to mine? If this coming election is to be a choice about two different visions of America, will you present your long-term fiscal vision now so voters can compare our plans? If not, will you commit now to proposing a specific long-term austerity plan no later than January 2013 with a goal of concluding negotiations within a few months? There is no good policy reason to wait longer than that, even if the U.S. economy is in the tank.

Lefty: <Lefty looks at his watch.> Oh my! Look at the time. I am so sorry to rush out on you but I am late for another meeting. I’ll catch you next time. <Lefty shakes Righty’s hand and hurries out.>

Righty: <sigh>

(photo credit: mementosis)

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