Serious Economics Question: Why aren't we all standing in bread lines?

Great Debates
1

I’m not an economics major, but I do remember back in the 1980s, during the height of Reagan-omics, there was a good deal of hand-wringing by economists, to the effect that this was all a “bad thing” and we were all going to economic hell in a handbasket. “We’re borrowing from Peter to pay Paul”, “our children will be the ones to pay the piper.” I never really understood how leveraged buyouts worked, but nobody really seemed to approve of them, except of course for the people who made tons of money. (Ditto for junk bonds, Michael Milken, the Savings & Loan scandal, etc.)

I just read in Jonathan Raban’s Hunting Mr. Heartbreak: A Discovery of America that J.K. Galbraith actually expected Reagan-omics to bring on another Crash and Great Depression.

[quote]
(he is writing in 1991, of events that occurred in 1988, during the Bush/Dukakis presidential campaign)**
The rise of the LBO under the Reagan administration was the despair of liberal economists. To people like J.K. Galbraith and Benjamin Friedman, the LBO was a symbol of the way in which America was paying for its determination to live in a fantasy world of extravagant richesse by going into overdraft. Under Reagan, the United States had become a debtor nation…Some people saw in this a return to the 1890s and the rise of the robber barons like Jim Fisk and Jay Gould. Galbraith saw the Great Crash coming again. He wrote of the LBOs:

**

Okay, so my question is, what happened? Obviously, we aren’t in a Great Depression–the economy is galloping along like the Kentucky Derby. The Third World, China, Europe, they’re joining the party as fast as they can get their shoes on and get into the car. Was there some unknown factor, like the fall of the Soviet Union, that changed things? Would that have made such a difference? Or is it something to do with oil prices?

And all we heard for years was “deficit deficit deficit” and we even had the Gramm-Rudman act to “force” the U.S. to balance its budget, which didn’t work about 3 times in a row, IIRC. So then, not too long ago Clinton suddenly announces that, far from being trillions of dollars in debt, the U.S. is actually in the black. Howdedodat? Talk about “voodoo economics”.

Or is it just that economics isn’t as much of a “science” as the talking heads would like us to think?

2

The economy is galloping along in the sense that a good deal of very rich people resident in the US are making pots of money. Conversely, the unemployment rate is low because successive governments continue to redefine unemployed to mean something other than “could work but doesn’t have a job”.

The economy is going gangbusters. Ordinary people aren’t necessarily seeing a shred of it, on the other hand.

3

Hmmm, all I know is for the first time in my life, both my parents have good jobs and I’m living in a real house. I think we saw a shred of it.

4

Well, be sure of one thing, there is no budget “surplus;” This is especially sad considering both parties are smacking their collective lips and discussing ways in which to spend something that doesn’t, in reality, even exist.

Social Security revenues were included in the general budget starting in 1968, something that hadn’t been done till that time. This is an accounting sleight of hand trick, and was done precisely to obscure the true state of the economy.

If you remove SS revenues, then the “surplus” rapidly becomes a deficit. You can argue all you want about the relative merits of deficit spending, but don’t anyone try and tell me we are running a “surplus,” it just isn’t so.

5

Re: Reducing the deficit.

The end of the Cold War made it easier to keep spending in check.

There have been no serious external shocks to the economy like the oil shocks of the 70s.

And of course, there have been plenty o’ tax increases, starting with the Reagan-era Social Security tax increase.

All of these factors allowed the US to dodge the debt-crisis bullet, for now.

(BTW, Galbraith isn’t held in very high esteem by most economists, so it’s not safe to assume that economists are full of it just because Galbraith was…)

6

The reason we’re doing okay is because the economy is growing faster than government spending. Here in Canada, we pay 30% of our entire governmnet budget on interest on the money we borrowed in the 70’s and 80’s. It didn’t bust us because the economy has grown so much, making tax revenues high enough to cover the 30% while not derailing our standard of living.

Mind you, if we didn’t have that burden hanging over us, we’d grow much faster. The U.S.'s debt/GDP ratio is much lower than ours, and as a result your economy has outperformed ours.

Some of those European socialist ‘miracle’ countries the left like to point to as successes are burdened even heavier. They may have as good a standard of living as the U.S. right now, but let’s see where they are in 20 years.

7

I’m also not an Economist.

But to imply that the unemployment level is being manipulated is just not true. The number of signs hanging in every fast food restaurant, as well as most other retail locations, begging for workers, is the best gauge of what is going on on the economy. And the fact that many people have been cut off of welfare under the new regulations just supports the facts.

Galbraith, et al, could still be right. They just might be off in their timing. When the US stock market “bear-market rally”, which we are currently undergoing, ends this summer, watch out. Everyone hopes for a soft landing, but there are no sure things in life.

The Federal Reserve and the Governments of the world have so many more tools at their disposal and a better understanding of mistakes made in the past, that any sane person hopes they can contain/prevent/diffuse economic collapse. But don’t spend your stock market profits yet.

8

In a limited sense, Galbraith was right. The U.S. government deficit got larger until about 1992 and since then has decreased to the point that now (in the usual accounting) there’s no longer an annual deficit. If things stay pretty good for another 15 to 25 years, we will pay off the national debt. Given that it took us a little more than 20 years to accumulate the national debt, that seems pretty reasonable.

If what Galbraith was saying was that the budgets of the '80’s would permanently cripple the U.S. economy, clearly that was wrong. If what he was saying was that the economy wouldn’t get better till the tax rates were raised and the amount of money spent was lowered, he was right. In the early '90’s, the tax rates were slightly raised and the budgets slightly lowered, and since then the economy has been pretty good.

9

The increase in tax rates was actually counterproductive. The main reason that government revenues have increased so much is because of the sustained economic expansion that has occurred since 1990.

And government spending wasn’t cut, either. It just hasn’t increased as much as the economy has grown, making the percentage of GDP spent on government lower.

10

Another problem occurs when long-term, full-time jobs are destroyed and replaced with temporary, unstable, part-time, and/or ill-paying jobs. A job counts as a job to economists, whether or not it pays enough to live on.

11

Due to the minimum wage, we can be pretty much guaranteed that people working full-time aren’t starving to death because their jobs don’t pay enough. Obviously, the poor people are not raking in the dough. We can deduce that simply from the definition of poor. Most of the statistics I’ve read about seem to indicate that the economy is doing pretty well for people in general.

I don’t see as many homeless people around the city as I did a few years ago. Everywhere I look there are help wanted signs. So people who previously didn’t have jobs get stuck with minimum wage jobs. Isn’t that better than no jobs? An increase in low-paying jobs doesn’t mean that people are leaving better-paying jobs. Just because the rich are making out incredibly well doesn’t mean that the poor are being looted to pay for it.

I’ll grant that there will be some anecdotal evidence of people not being able to earn a living. It would be nice if the economy was working to everyone’s benefit (that’s as compassionate as I’m allowed to get, or they’ll kick me out of the Libertarian Party), but that’s never going to happen. All the evidence I’ve seen is that it’s working to the benefit of more people than it ever has in recent memory.

12

**
lol. Don’t worry, if you get to compassionate you can always join the socialists. :slight_smile:

**

uhhhhh. Actually judging unemployment by the number of signs hanging up in windows is a pretty bad way to measure. That’s why economists don’t use it. What people being cut off welfare has to do with unemployment I have no idea. If you are cut off welfare, it doesn’t mean you have a job. Some people who are cut off get jobs, some don’t.
And if you think the unemployment level isn’t being manipulated, you are unaware of the facts. The government has changed the definition of unemployment several times in the last couple of decades. The us has always used diferent ways to judge unemployment than other countries, though. That’s why our unemployment level is always lower. I’m not sure where I read it, but if the US used the same gauge as Europe, our unemploymeny level would be much higher.

13

There are two separate issues to do with debt here:

  1. Private sector debt
  2. Public sector deficits and accumulating public debt (which I’ll leave aside).

Galbraith’s worries refer to the former of these (and even if Galbraith is not much admired by professional economists, Ben Friedman certainly is). Orthodox financial economics (Modigliani/Miller) says that how much of an investment is funded by debt and how much by equity doesn’t matter under certain informational assumptions. However when gearing ratios are very high, a small change in circumstances can send a lot of people broke. This would be a way for the busting of a financial boom to have significant knock-on real effects.

Think of the collapse of Asian markets a couple of years ago for what they were envisaging happenning. An excessive financial boom can have pretty bad results when it breaks. In reference to why this doesn’t seem to be a problem in the US:

was Galbraith’s view of memebers of the US government at the time. Think about what Greenspan has been doing over the last five years: a rather different approach to “leaving it strictly alone”.

picmr

14

dhanson writes:

> The increase in tax rates was actually counterproductive.

How do you know that the increase was counterproductive? Do you mean anything other than your theory says that tax increases should be counterproductive, and therefore in any case where there was a tax increase followed by an improvement in the economy it must be something else that caused the improvement?

I’m not sure I want to get into this argument. I’m not an economist and neither, I suspect, are you, so all we can do is quote other people’s economic analyses.

15

Okay, so then why did the Asian markets collapse and not the American?

My OP question is, what prevented the predicted economic catastrophe from taking place? According to “liberal economists”, by this time we should all be selling pencils on the street corner. But we aren’t. Is there any one identifiable reason why not?

I would also like to know if anybody can put into 25 words or less exactly what it is that Alan Greenspan is “doing” that is making the difference. You’re implying that he’s been “fiddling around with it”, as opposed to “leaving it strictly alone”?

Are we to credit Alan Greenspan for singlehandedly preventing the collapse of the American economy, as predicted by J.K.? Is he the reason I’m not standing on a street corner selling apples?

16

Greenspan has been doing two things a bit differently.

The first was this. The role of central bankers is “to take the punch bowl away just when the party is getting going” (sorry I’m at home and can’t source the quote).

The standard approach in the last 30 years has been to suppose that the economy has a “speed limit”. Growing faster than 4% (adjusted for inflation) or growing at 3-4% for extended periods was widely felt (by central bankers) to be unsustainable. That is incipient inflationary pressures due to factor market bottlenecks meant that after a while the boom would end in inflation, which is very painful to get rid of (i.e you have to have a sustained recession).

In these cirumstances, central bankers tend to tighten monetary policy (read “push interest rates” for simplicity) to stop the economy “overheating”. Greenspan did not do this: he said when I see signs of overheating, I’ll tighten policy. As a result the US boom has been very long indeed. What this has shown is that the notion of a hard speed limit is misleading: growth has been underpinned by strong total factor productivity growth and has not been inflationary. So the first thing that Greenspan did differently is hang off taking the punch bowl away.

In the last couple of years Greenspan has seen signs of inflationary pressure coming from financial markets getting a little over-excited. What he has done is explicitly linked interest rate increases with signs of overheating in financial and consumer markets. What he is trying to do is take the heat out of the boom without causing a recession. To put it mildly, this is some balancing act - since monetary policy is a very blunt weapon - and it is working so far partly because the finance markets believe Greenspan is a guru (which is part of the reason he speaks in knowing riddles). >>25 words, sorry.

I’ll get your other two questions D D G (Asian crisis and why didn’t you have an economic catastrophe) in a tick.

picmr

17

Okay, first why wasn’t there a catastrophe?

Well, in a way there was: wasn’t there a severe recession in the US which was just ending at the close of the Bush administration? This would have been associated with the Volker disinflation.

Why was it not as severe as the Asian crisis? One reason is exchange rates. Most of the Asian countries that experienced great trauma had fixed exchange rates which tend to mean that a problem can’t start to be addressed until there’s a crisis. In the US, the Reagan financial boom (caused partly by the increased budget deficit) ended with the Oct 87 stock crash and the Volker disinflation. Trouble, but not diaster. In many Asian countries, there was no adjustment from the (largely) speculative boom of the mid 90s until foreign investor confidence vanished and there was great pressure on the currencies.

As to DDG’s comment that the prediction of “liberal economists” was for doom and gloom, I would suggest that this is a major oversimplification.

What those mentioned in the OP were suggesting is that the Reagan budget overstimulated the economy. As neo-Keynesians, they were suggesting that this activist policy would lead to an ultimately destabilising boom.

The supply-siders of the day claimed that this policy of defict would stimulate the economy at the micro level and that the tax cuts would cause an increase in government revenue (the Laffer curve).

In hindsight (and indeed at the time), the majority of economists would agree that the fiscal stance of this time was counterproductive and that the trade-offs suggested by Laffer et al never existed. The period was one of short-term growth, longer term problems (which came to a head during Bush’s tenure).

Since then the neutral fiscal stance of the Clinton government and the “loose, but if I see inflation I’ll act” stance of Greenspan has seen remarkably consistent growth in the US economy. Part of this is sensible policy, part of it is luck.

picmr

18

One answer to this is that the debt was never that big to begin with. It was huge if you looked at it by itself, but as a percentage of the economy it was very small. As was mentioned earlier most of the other developed countries had debt to GDP ratios that were much bigger.
Many people forget that Reagan was trained in classical economics when in college and it turned out that the economic theories he learned as a student and applied as president were more correct than the theories of the liberal economists you mentioned.

19

If he’d like, I could post one viewpoint on Fed policy that matt_mcl sent to me over email. Not a viewpoint I agree with, but well written and about as clear and concise as you can make Fed policy.

Oldscratch, I’d call you a pinko, but I somehow doubt that you’d be all that insulted. It seems you are a one person Red Menace of the SDMB :slight_smile:

20

lemartel raise a point about debt which I had alluded to earlier but didn’t mention (although I did suggest - with my economists’ hat on - that suggesting there is a “liberal position” is an oversimpification: for the record, I don’t agree with Galbraith about… well anything, really)

As I mentioned above, it is important to distinguish between government debt and private debt. Questions about the sustainablity of financial boom relate to private debt (leverage ratios).

Government debt is another matter. And the field is even more open than lemartel suggests. There are economists (Nobel prize winner Bob Lucas for example) who suggest that government debt (and therefore deficits) have no effect whatsover.

Crudely speaking, the reason is this: government deficit finance is by the issue of bonds. Bonds have to paid. Governments can only pay them by future taxes. Economic agents see deficits as a rescheduling of payments, which has no effect o current wealth and therefore no effect on current behaviour. This policy ineffectiveness proposition stems from rational expectations (agents do not make systematic errors) and Ricardian Equivalence (government bonds are not net wealth).

picmr