The Varying Meanings of "Fair Share"

I had what may be a bit of an epiphany this morning about why I can never understand the arguments that the President and others make for the "rich" paying "their fair share."

When I hear those words, I always think of their fair share of the federal tax burden of the country.  Because I think of it that way, I tend to look at tax distribution tables as a way to think about the question of fairness.  Because of changes in income distribution, I don't look at the distribution directly but rather I look at the change in total effective tax rates over time.

Here are two views of the comparison between 1979 (the first time CBO did the analysis) and 2013 (post the ATRA).

So we can look at this two ways, either in terms of the change in effective tax rate in percentages or percentage points.  In percentage points, effective Federal tax rates have declined by 6.1 points at the bottom of the income distribution and 0.6 points at the top of the income distribution.

In percentage terms, the comparison is directionally the same but an even larger order of magnitude.  Yet, despite these numbers, many maintain that the "rich" aren't really paying their fair share.  So my thought this morning was that maybe those who make this claim are not referring to fair share of the total tax burden but instead to fair share of their income, regardless of how much others are paying.

This seems a rather odd way of discussing fair share but it's the only one that makes any sense in light of the underlying data.  Now if only they would let us in on what the magical fair share of income is....beyond "higher" I mean.

On the meaning of spending "cuts"

Have a look at this framing of future spending from the TaxVox blog at the Tax Policy Center.

Ryan’s promise to balance the budget in a decade with no tax increases implies cuts in federal spending unseen since the U.S. disarmed after World War II. Most lawmakers are horrified that the automatic spending cuts now scheduled for March would cut military spending by 9.4 percent and domestic spending by about 8 percent. (And note this so-called sequester would exempt Social Security and Medicaid as well as Medicare benefits from any cuts).

So I got to wondering about the nature of this "cut."  And I wanted to go back to the earlier post I had done on balancing the budget.  If you recall, I ended that post asserting that we would be running a deficit of about 1.2% of GDP assuming:

1.  We grew spending at the rate of growth of inflation plus relevant population

2.  We asked government (ex-transfer payments) to improve efficiency by 10% over a decade.

3.  We eliminated spending on the wars and brought "automatic stabilizers" back to their non-recession levels of spending.

So I wanted to revisit the draconian cuts argument.  In point of fact, the tax increases passed at the beginning of this year account for an improvement in the picture of about 0.4% of GDP so that would take our 1.2% of GDP deficit down below 1%.  So, if we did nothing more than have government grow "base" spending at the rate of inflation plus population, we'd get the deficit down under 1% of GDP by 2022 and on a trend to balance within a few additional years.

I'd also point out that the statement from the TPC is factually incorrect.  Let's say we reduced spending from current levels (22.8% of GDP in FY2012) down to the 19% that will be collected in taxes under current law by 2022.  That's a reduction of 3.8% as a percent of GDP over a decade.  From 1990 to 2000, spending as a percentage of GDP fell by 3.7%.  From 1991 to 2001, it was pretty much the same.  The comparison to WWII is highly inapt.  From 1944 to 1954, spending fell by more than 20% of GDP.  What the Ryan budget would set us up for is something like the 1990s and nothing like the period 1945 to 1955.  You'd think the folks at TPC would know better.

Is Paul Ryan the Only Keynesian Left?

I found this post at the always good TaxVox blog interesting.  It lays out the positions of the parties on reducing the deficit.  It contrasts the position of Paul Ryan (who wants to balance the budget within 10 years) with Democrats who seem to be focused on a stable debt to GDP ratio.

The Goal Line. But Democrats and Republicans don’t even agree on the goal line in this game. While Ryan wants balance in a decade, Democrats are not thinking about balancing the budget at all. Their aim: Stabilize the debt so it does not grow faster than the economy. This would set the ratio of debt to Gross Domestic Product at about 73 percent.

To return to the question I asked before.  How does Keynesian thinking allow for "stable debt to GDP" to be a target over a 10 year period of time?  Is it A) that economic cycles are now 20+ years long and therefore we are running deficits during the down side of the cycle to be offset by surpluses in the good side of the cycle or B) that liberals have surrendered the ghost of Keynes and the through cycle target is now a deficit to GDP ratio of 4 to 6% (the nominal through cycle GDP growth rate)?

It certainly looks like the latter.  So perhaps Paul Ryan is the only Keynesian left.  Wouldn't that be an interesting turn of events?

How the Mighty Have Fallen

Well, it's official.  Keysianism has jumped the shark.  I think it's worth reviewing the bidding here.

If we go back to the original theory of Keynes, yes there was deficit spending but it was supposed to be largely offset by running surpluses during good times.  Thus, through the entirety of an economic cycle, the debt was supposed to remain roughly flat.  In other words, under the original theory, while there would be deficits in any given year, there wouldn't be much debt accumulated over time.  In other words, the target deficit on average through an economic cycle was zero.

Several years ago, the terrain began to shift and budget theorists and politicians began to talk about the notion of "primary balance."  This notion is simple, namely that the budget is in balance with the exception of debt service.  What this means is that the budget deficit is equal to or lower than interest on the debt.  Since interest payments currently run about 1.5% of GDP, the notion of primary balance would imply running deficits under this level.  Note, this notion abandons a balance through cycle and proposed continued perpetual deficits, but small ones.

More recently, we've abandoned that notion as too restrictive and now begun to argue that deficits are fine as long as they don't grow the debt to GDP ratio.  Now this is even a higher standard of how much deficit is good since GDP generally grows faster than the 1.5% that current debt service accounts for.  This latter standard is the standard that is commonly in use among more liberal economists today such as Paul Krugman or the CBPP.

But until recently, I thought primary balance was a through cycle view just like the original Keynesian view.  But, based on this piece by Dr. Krugman today, I'm beginning to understand my error.  Krugman writes

Recently the nonpartisan Center on Budget and Policy Priorities took Congressional Budget Office projections for the next decade and updated them to take account of two major deficit-reduction actions: the spending cuts agreed to in 2011, amounting to almost $1.5 trillion over the next decade; and the roughly $600 billion in tax increases on the affluent agreed to at the beginning of this year. What the center finds is a budget outlook that, as I said, isn’t great but isn’t terrible: It projects that the ratio of debt to G.D.P., the standard measure of America’s debt position, will be only modestly higher in 2022 than it is now.
The center calls for another $1.4 trillion in deficit reduction, which would completely stabilize the debt ratio; President Obama has called for roughly the same amount. Even without such actions, however, the budget outlook for the next 10 years doesn’t look at all alarming.

So in the view of Paul Krugman and the CBPP, it's OK to do nearly nothing because the debt to GDP ratio (proclaimed the standard measure of the US debt position) will not increase very much between now and 2022.

But let's take a look at what the CBO expects from the economy over the 10 year period...in short rapid growth, full employment and low inflation for about 8 of the 10 years.  So the new standard is that slowly growing the debt to GDP ratio in an era of full employment is OK.

We've gone from saying we should run a surplus (Keynes) in good economic times to saying that it's OK to run a deficit of 3 or 4% of GDP, a rate that has rarely been seen outside of wars (Krugman).  My how the mighty Keynes has fallen.  One almost wonders whether he'd recognize himself in his newest incarnation.

Almost but Not Quite

Well, House Republicans are getting closer.  They've figured out that they need to pass a debt ceiling increase but they haven't figured out how to do it yet.

When you compare their approach to what I've suggested, you'll see two key deficiencies in their proposal.

1.  There's no principal behind the budget increase.  Validating the principal of raising the debt ceiling to cover committed funds is important and something that is clearly missed in the three month extension.

2.  Pushing the Senate to pass a budget resolution is a good idea but the enforcement mechanism (withholding pay) does nothing to ensure future debt ceiling increases proceed apace.  Rather tying future increases to the deficits in the budget resolution ensures a long-term solution to the problem as well as a short term one.

Congress is losing the opportunity to reform the way we design and execute the debt ceiling.  This is an opportunity that should not be lost.

A Potential Solution to the Debt Ceiling

I'd like to take one argument that I have heard a lot of folks, particularly on the left make, and use that to make an argument about how we might manage the debt ceiling.  First the argument and what I think is wrong with it.  You can find a simple version of it here.  Trying to ignore some of the invective, the crux of the argument is:

Obama has said he will not negotiate over the debt ceiling increase.  Good…I hope he sticks to that, because the debt ceiling shouldn’t be something that ever needs to be negotiated.  It shouldn’t even need authorization by Congress, it should simply be required that the U.S. Treasury have the capability to always pay the bills that Congress has already authorized.  The “trillion-dollar platinum coin” issue has been making the rounds as an option for Obama to bypass Congress if the GOP continues to play with economic disaster by making the debt-ceiling a political football. 

Now, the part of this statement is true is that Congress has already authorized spending that will push us above the debt ceiling but, in point of fact, it hasn't authorized very much, probably less than $300 billion.

1.  The Senate has not proposed and Congress has not passed a budget in more than 3 years.  Thus, there is no agreed upon spending blueprint for FY2013.

2.  The government is currently being run via a series of continuing resolutions.  The latest CR expires in March of 2013

3.  Assuming Secretary Geitner was correct that we hit the current ceiling on 12/31/12, this means that Congress has agreed to run the government for about 3 months post the passing of the ceiling.  Leaving aside timing effects, this means that the government would have about 1/4 of the annual deficit of say $1.1 trillion or about $275 billion to cover.

So yes, the government has agreed to spend $275 billion above the debt ceiling but not more than that.  Thus, the argument made by so many only justifies raising the debt ceiling by $275 billion.

However, there's the germ of a solution in the overall point.  I'd propose that Congress do the following.

1.  Immediately raise the debt ceiling by $275 billion dollars in what is called a "clean increase" of the debt ceiling.

2.  Attach an increase in the debt ceiling of whatever amount is required to the CR that much be passed prior to March 27.  In my view, I would increase the debt ceiling by 110% of the projected deficit created.

3.  Require that a debt ceiling increase be attached to each house's budget and that budget resolutions were the only way to raise the debt ceiling.  Thus, when each house passed its budget it would also be passing an increase to the debt ceiling and budget bills would be required to be passed, else the debt ceiling could not be increased.

4.  Finally, require a "true up" process at the end of every year.  That is, the ceiling could be adjusted for variance from projected costs and revenues but "only" for technical projections.  This could be done during the following year's budget process.

The consequence?  Well, the House, Senate and White House would have to agree on a budget (in order to increase the debt ceiling) and that increase would already be baked into law.  We might have to do some true ups when the economy tanks or thrives but, over time, those should cancel each other out.

Of course Congress would hate this because they'd have to pass a budget and they'd have to raise the debt ceiling showing how much debt they were adding every year.  But wouldn't this be much better approach to it than the current mess?

The (Not Quite) Worst Deal Imaginable

Well, I can say this for the current fiscal cliff deal.  It is not quite the worst deal imaginable but it does come close.  Here are some immediate and top of mind reactions.  I reserve the right to change some of these as more of the details come out but for now I think I can stick with...

1. It's mostly a "small" tax increase bill.  The net tax increase is being reported at about $600 billion  over 10 years.  That averages $60 billion a year against deficits that look like they are going to be in the $1 trillion plus range for the foreseeable future off of this baseline.  So we should prepare for our fifth straight year of deficit spending greater than a trillion dollars and 7% of GDP.
2. It gives away some of the benefit of "tax reform" before we've even gotten to tax reform.  It's hard to find exact estimates but the PEP and Pease changes probably raise about $100 billion or so in the 10 year window.  That's $100 billion of the $800 billion or so that has been discussed in "tax reform" discussions.
3. It makes a future "grand bargain" much, much harder.  The notion of a "grand bargain," that is tax increases for spending cuts was always a decent idea in the context of Washington but it would appear that idea is all but dead.  There's just not much one can do on tax increases now without increasing taxes on the middle class and thus the math of a grand bargain is simply not going to work.
4. It smells like a spending increase relative to the baseline.  The only report I've seen says "net" spending reductions are $15 billion.  But Congress includes reduction in debt service as a spending reduction and likely is using current policy as the baseline.  Thus, the debt service change (probably $60 to $90 billion of the $600 total) is probably counted as a spending cut meaning that spending, ex-debt service, most likely increased.

So is there anything good about the bill?  I can only come up with two things.  First, the reported permanent indexing of the AMT to inflation is a really good thing.  Assuming that stays in, it's a positive change from our perpetual patching process.  Second, the continuation of UI benefits is, from my perspective, also a good thing.  We can debate the merits of the UI system but putting some money in the pockets of people who have been employed is a good thing until we figure out a better unemployment system.  Sure it costs $30 billion but we could easily make that up somewhere else if we really wanted to.

And that's pretty much all she wrote.  Can kicking continues and looks like it's going to continue on pace for the foreseeable future.  There will be a lot of griping on both sides but in my view, Washington is simply incapable of dealing with the debt problem we have.  This latest event simply sheds more light on their (and our) dysfunction.