America’s Strategic Priorities: Economic Growth Now, Spending Cuts Later – It Makes Sense, But No One Knows How To Do It – Deficits Do Not Stimulate Growth, Serious Spending Reform Plans Not Even On The Table

By Paolo von Schirach

January 5, 2013

WASHINGTON – If we step back from the acrimonious and inconclusive Washington fights over spending, budgets and taxes we realize that the country is in a difficult double bind caused by major systemic problems: too much debt, and not enough economic growth. We desperately need policies that will increase growth, hopefully to the historic average of 3% a year, while “bending the spending curve”, so that progressively our fiscal outlook (and thus our creditworthiness) will be rebalanced.

Economic growth now, spending reductions later

Ideally, we should do all we can to have more economic growth starting now, while initiating reforms of major federal programs so that there will be sustained and meaningful spending reductions down the line. Thew trouble is, doing any of this –and doing it right– is extremely difficult.

Spending cuts now would cripple the economy

It is true that, if we focused on drastic spending reductions –right now– this would be the same as sucking oxygen out of a room. Less liquidity, less spending. Less spending means lower demand, and thus contraction of most economic activities. As Peter Coy argues in Bloomberg Businessweek , (The Tears of a Congress, January 1, January 13, 2013), spending reductions should not be the top priority. Revving up growth should be issue one.

Sure enough, if we got growth back where it should be, (at least around 3%), we would have a larger, more dynamic economy, more people employed, a broader tax base and therefore more revenue to address the outstanding debt. Doing it in reverse order would have a crippling effect. If you cut spending all of a sudden, the economy would contract. In the end, you can be fiscally balanced and poor. All true.

Focus on growth now

So, the plan should be to keep stimulating the economy now, so that it will grow faster and worry about deficits and debt later. In theory this would be a good mix and a good balance. Except that we do not seem to have the right mix of spending, while committing to major reductions “later” may provide an excellent excuse for postponing “later”, so that effectively “later” becomes “never”.

Let’s look at stimulative spending. The Obama administration has been providing around a trillion of extra stimulus to the economy for the past several years. Our unprecedented trillion dollar annual deficits are exactly that: stimulus in the form of borrowed funds. And yet all this extra cash injected into the system has done little to revitalize the economy. We grow at only 2%. Sure enough, luckily we are out of the worst recession since the Great Depression. Unemployment is down, and all that.

Spending stimulated consumption, not investments

But we are not doing so well. In the meantime, the extra “tonic” in the form of more spending is not doing what it was supposed to do. It supports consumers demand. But it failed to stimulate investments, enterprise and new employment. The fact is that most of stimulus is in more public programs/jobs that are not very productive and benefits that support private consumption, rather than investments.

Fiscal reform

Now let’s look at fiscal reform. First of all let’s stop with the nonsense that our problem is all about Congressional earmarks, plus “waste, fraud and abuse”. If it were so, we would be in great shape. Cleaning up the system would be perhaps a little painful but relatively easy. We would just eliminate “bridges to nowhere” and support for “Articholke Day”. The fact is that all this is just pocket change.

Entitlement reform

Our deteriorating fiscal position is driven by extremely large entitlement programs created decades ago –Social Security, Medicare and Medicaid– at a time in which it would have been impossible to predict that current and projected spending levels our unsustainable. Right now they absorb about 60% of all federal spending.

That said, it is almost impossible to even begin a rational conversation that would include reductions in the current levels of benefits, even if this reduction will take place many years down the line.

No serious debate about reforming major programs

For example, when House Budget Committee Chairman Paul Ryan proposed a drastic Medicare overhaul, he was attacked and ridiculed by the Democrats as an insane ideologue, a social Darwinist who could not care less about the plight of the poor and needy in America. And yet Ryan’s plan did not contemplate any benefits reductions for current recipients, while allowing people 55 and older, that is those approching retirement age, to be included in the existing benefits structure. Reforms would have applied only to those younger than 55.

But even this large time cushion allowing younger people to make the necessary adjustments to a new system was rejected as insane, reckless and disruptive. Of course, there were other features in Ryan’s plan that critics found objectionable. They believe that the voucher system he proposed would be inadequate. They fear that most seniors would not get enough cash to pay for their medical costs. They are skeptical about the benefits (in terms of lower prices) deriving from greater competition among providers.

All well and good. Still, this was a Medicare Reform Plan. It was shot down and there is really nothing else on the table.

Can we do this?

So, where are we in this debate about stimulus/growth and fiscal reform? My point is that it is nice and intellectually sound to say that we should focus on growth now, even though this means huge deficits, while committing to have major spending reductions (via entitlement reforms) later. It makes perfect sense. Except that we are poised to get neither. Enormous deficits today do not translate into higher growth, while there is not even a hint of an agreement about serious spending reform “later”, even if it will hit voters decades from now.

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