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Deficit Math 101

August 8, 2010

I am not well-versed enough in Paul Ryan’s “Roadmap” to defend Krugman’s latest column (which admittedly hit below the belt). This, however — excerpted from Ryan’s rebuttal — seems at odds with common sense:

What critics such as Krugman fail to understand is that our looming debt crisis is driven by the explosive growth of government spending – not from a lack of tax revenue.

If I make $1,500 per month, but spend $3,500, a debt crisis is surely looming. On the other hand, supposing I take a new job that pays $3,500 per month and spend that amount, no deficit ensues. The same would presumably hold true for the federal government — only on a massive scale, and with taxes, rather than income, acting as a source of revenue.

You could, I suppose, make the argument that higher taxes cripple growth, resulting in decreased government revenue — and, at a certain point, that’s surely the case. Yet, to hearken back to the Chait-Manzi debate of a few months ago, it seems clear that even the heavily taxed economies of European social democracies have grown at about the same rate as the US economy since around 1980.

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4 Comments leave one →
  1. August 15, 2010 3:00 am

    Higher taxes lead to a decrease in investment. Investment is what drives growth, if you don’t believe me ask Robert Solow (He’s even a Keynesian!)

    The big problem with the Chait-Manzi is that that Europe gets a free ride on US military spending. I’m all for decreasing the size of the military, starting with pulling out of Europe. Unfortunately, that would severely damage European economies since the US spending in those economies is rather large. So you have to subtract US spending from the EU growth statistics, which I haven’t seen a paper to do that yet.

    Aside from all that purchasing power and standard of living are better measures. Not only that you have to look at the size of the economy as well. To put EU GDP in perspective, France would only edge out WV and Mississippi in GDP if it were a US state.

    As for your argument that you can just get another job or that the government can just get more tax revenue….HA! Tell that to Greece.

    Ryan’s comment isn’t at odds with common sense, it is common sense. You can’t spend more than you take in. Simple wishing that you take in more is not a good answer. I think the problem is that you probably don’t think of spending as a problem but as the solution. I’m guessing that the only economics you’ve taken was Keynesian macro, in fact considering your admiration of Krugman and Klein I’m sure of it. I hope that your more willing to listen to opposing views than Krugman is.

    The idea of deficit spending rest on two postulates; the paradox of thrift and the liquidity trap. I’ll start with the latter. The LT has never been shown empirically. Even Keynes said in General Theory that he had never seen any evidence of a LT. Just because PK says there is a LT doesn’t make it so, that’s the appeal to authority fallacy.

    In fact the money demand in this recession has a reason besides a LT, the Fed is paying interest on it’s reserves. Consider that regime uncertainty is a a reason why companies are not loaning and investing. They don’t know what law will be passed next that might hurt their positions. Would you rather take a modest (I think it’s .5%) from the Fed or risk losing everything when Congress passes a new law that might make your loan illegal after the fact?

    As for the Paradox of Thrift, I’ll refer you to this article by Robert Murphy.
    http://www.econlib.org/library/Columns/y2009/Murphythrift.html

    Without those two premises, deficit spending is just plain crazy. Without the idea that deficit spending is needed, PK attack on Ryan is without merit. And really, is this the first time you notices PK “hitting below the belt?” He does it all the damn time…did you read my post on PK getting out smarted by his readers?

    • innocentsmithjournal permalink*
      August 15, 2010 9:57 am

      Zombiehero, I most certainly am willing to listen to opposing views. My first loves were literature, philosophy, and religion, not economics — so most of what I know of econ, I’ve learned from left-wing policy wonks such as Krugman, Klein, Simon Johnson, and Joseph Stiglitz. Thanks for sharing your perspective. I definitely benefit from getting outside the liberal bubble once in a while!

      Although I enter econ debates with considerable caution, I will say that measuring economic growth clearly involves more than just number crunching and the analysis of charts and graphs. Economics cannot be properly understood apart from philosophy, politics, and other disciplines, but is intimately bound up with them. That is why the disagreement between Manzi and Chait is essentially unresolvable. (See my post “Values, Statistics, and Authority” for more on this.)

      Finally, as much as I admire Krugman, I share your distaste for his constant vilification of the opposition.

  2. August 15, 2010 7:30 pm

    “I’ve learned from left-wing policy wonks such as Krugman, Klein, Simon Johnson, and Joseph Stiglitz. Thanks for sharing your perspective. I definitely benefit from getting outside the liberal bubble once in a while!”

    Ha ha, well there’s most of your problem to begin with. I know you respect him, but even by your own accounts (“Hit below the belt”) Krugman’s column is more political than economic. I haven’t read much of Johnson. Between the two I think Klein has a better grasp on economics than Stiglitz. Not that Stiglitz hasn’t done some good work, but like PK, he puts politics before economics. Yes, get outside that liberal bubble every now and then.

    I totally agree that economics can’t be “properly understood apart from philosophy, politics, and other disciplines, but is intimately bound up with them.” Economics is at its core about human action and interaction. In fact there is a pretty good economist that starts his magnum opus with that very premise, “Human Action” by Mises. http://mises.org/resources/1209/Human-Action-The-Scholars-Edition (I recommend skipping the first few chapters though, kinda dry.)

    And I’ll read your post on the Chait thing.

  3. innocentsmithjournal permalink*
    August 15, 2010 8:07 pm

    Thanks for the book recommendation. I still haven’t gotten around to your other recommendations (Hayek and Sowell), but I’ll put it on my list.

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