US Elections: The Deficit Hawks Have Already Won

Jeff Madrick

Austerity economics has won in Europe. But there is a mythology traveling around that the U.S., at least, has retained the Keynesian orientation that helped cut short an economy spiraling downward into full-fledged depression. Not so. The deficit hawks have also largely won in the U.S.  The announcement last week that GDP grew at an annual rate of 2 percent only brings the point home: the U.S. needs a serious fiscal injection quickly.  But it is not going to get it.

A year and a half after the recession was supposed to have ended, GDP has still not reached its pre-recession peak of 2007, the longest such stretch in post-World War II history.  Unemployment stands at 9.6 percent and underemployment above 17 percent.  The Congressional Budget Office figures GDP could be six percentage points higher before the economy reaches full capacity—that is, before inflation is any real threat.

A stimulus with the economy performing so much worse than its potential will almost certainly not add to future debt because tax revenues will rise rapidly as incomes rise in response to the government spending.  With such weakness, a substantial fiscal stimulus will likely have a high multiplier if it is designed correctly– aid to the states, unemployment insurance, some serious investment in infrastructure, and federal employment of idle workers.

But the deficit hawks, backed by many millions of dollars from powerful interests, will hear none of this. They are using the sudden $1 trillion rise of the budget deficit to 10 percent of GDP as a way to rally fear.  They cite outrageous deficits to come in the 2020s and 2030s.  The fear-mongering has suppressed serious discourse about the need for stimulus now.

President Obama has himself joined the deficit hawks by endorsing a fiscal commission to find ways to reduce the future deficit. It will report on December 1.  The administration is also endorsing a three-year freeze on discretionary spending.

With no strong sponsors for stimulus in Washington, the likelihood that the American economy will muddle along at high unemployment rates is now great.  Quantitative easing by the Fed won’t do the trick alone. Lower rates are only one side of the equation, demand for loans and investment in a growing economy is the critical other side. Oh, that’s, right, that’s Keynesianism.

No matter by how much the Republicans win the House, the future is now muddied.  American worker frustration will only grow.  They will lose skills and employability over time– and perhaps hope. Business will invest too little in productive areas, as they have been doing for much of the 2000s. The consequence for federal policies will be impossible to determine. But political fanaticism could grow, not recede as it usually has in American history.

The deficit hawks now have their sights on bigger game, however. The main cause of the sudden deficit surge is the recession, and after that, the Bush tax cuts and war spending. But the deficit hawks are targeting Social Security, Medicare and Medicaid, which have had nothing to do with the sudden deficit increase.

Their advocacy is based on a disinformation campaign, one so effective they seem to fool themselves. They talk mostly about how an aging population will place an impossible burden on American children when they reach adulthood.  And then they focus on Social Security, I suppose because it is the biggest social program out there—so far, that is.

As the CBO notes time and again, however, Social Security payments will only rise from 5 percent to 6 percent of GDP in the 2030s or so and then stay there.  Medicare and Medicaid payments will rise from 5 percent of GDP to 10 percent in 2035 and 13 percent in 2050.

Why all the talk about reducing Social Security benefits, then? Simply because there is less to cut to reduce any looming deficit in the system. Medicare and Medicaid are going up much faster, not due to aging but mostly because health care costs in general in the U.S. will rise so rapidly.

When groups like the Peterson-Pew Commission on the deficit talk about America’s debt rising to 200 and 300 percent of GDP in 25 to 35 years, they rarely say it is almost all because of health care spending and interest payments on the accumulated debt. If they did, they’d have to get serious about controlling those programs, for which they only propose modest reforms.

Let’s get Social Security off the table.  Let’s put back on the table serious health care reform and then serious increases in taxes to close the looming fiscal gap.  We can get the long-term budget deficit down to 3 percent of GDP and not cut social programs, which are among America’s greatest achievements.