American Socialism (A Long and Detailed Post)

American Socialism (A Long and Detailed Post) June 9, 2009

I was talking with some Republican-leaning Catholics recently. They nearly always tell you that they are Republicans because of abortion, and yet when you drill down, you find that they have accidentally ingested plenty of other Republican talking points too. The latest hobbyhorse is Obama’s socialism. The Church condemns socialism, I was told earnestly. Indeed it does (and it condemns full-throttled capitalism too for that matter), but what struck me is that these people really do not understand what socialism is. I will discuss three different issues — government ownership of assets, taxes, and deficits.

Ownership of assets

At a basic level, socialism is underpinned by state ownership of the means of production. And, in the United States, the government owns a whopping 0.2 percent of corporate and business assets. That’s it! Of course, everybody in their right mind understands that this is not socialism. Unfortunately, it is another example of the creeping Republican tendency to resort to a “total war” style rhetoric against that it opposes. Add “socialism” to that list.

Of course, there are many who disagree with the temporary nationalization of an institution facing insolvency, be it a bank or a car company. In each case, the tactic is chosen on a practical basis to avert further economic fallout that could lead to spiralling unemployment. It might satisfy some sense of justice to let those who made bad decisions pay the price, but the “collateral damage” might be too great.  To borrow a phrase, it might throw up disproportionate evils far greater than the one it is supposed to address. Many who object to these tactics — and please note again how minuscule this is in the larger scheme of things — usually do so on the basis of ideology, and adherence to free market principles at all costs. Pope John Paul, in Centesimus Annus, warned against the “idolatry” of the market, noting that there are some areas where the free market can work well, and others where it cannot. In the same encyclical, he specifically noted that governments may want to intervene directly in the business economy for “urgent reasons touching on the common good”. I would hold that the greatest recession in half a century qualifies as such an urgent reason, and that 0.2 percent of assets is nothing to worry about.

Taxes

As I look at the rhetoric of the right, I see two other complaints — taxes are too high, and the deficit is too high (of course, these are contradictory statements, but let’s gloss over that for now). Let me dispose of the tax argument first. The best way to measure this is to look at the ratio of total general government receipts to GDP — a quick look at OECD data tells us that the US stands at a whopping 33 percent of GDP (actually down from 34.5 percent a few years, because tax elasticies fall during recessions– a technical point). Anyway, in the euro area, it is 44.7 percent. In the UK, it is 42 percent. In Germany, it is 43 percent. Indeed, the US is at the bottom, sitting there with Ireland, Japan, and the Slovak Republic.

And taxes will not rise by much. Remember that Obama is basically promising to restore the top marginal rates that existed under Clinton, a rise of a few percentage points. I suppose the movement people will cry disincentive effects, but this is hardly credible given the boom of the Clinton years. More to the point, in Catholic social teaching, what matters is not so much the total wealth of the economy, but the equitable division and distribution of this wealth (Pope John XXIII, Mater Et Magistra). In other words, there is a strong case to be made for a decent progressive tax system, especially giving the steadily rising inequality and income erosion over the past few decades. Again, the US lags the OECD here, and is nowhere close to countries at the other end of the scale, such as in Scandinavia. So yet again, any talk of socialism is utterly ridiculous.

Deficits

Let me now address deficits. One of the greatest talking points about Obama is that he is overseeing a huge increase in the deficit, and it is true. The question is — is it dangerous? I would argue that it is highly risky, but also highly necessary. We need to cut through the ideological rhetoric here, and clarify a few things.

First of all, the oft-forgotten insight of Keynes is that governments should store up the wealth in good times, and borrow in bad times. Let me introduce a few concepts. Budget deficits change for two main reasons (it’s more complicated than that, but let me keep it simple) — the economy, and policy. If the government does nothing, fiscal accounts will improve in booms and get worse in recessions. This is referred to as automatic stabilizers. Everything else is discretionary change — deliberately increasing or decreasing taxes or spending. The overall deficit is the sum of the cyclically-adjusted deficit (measuring discretionary changes) and automatic stabilizers.

With that background, let’s look at the record. The general government deficit (again, the best measure) increased from 0.4 percent in 1998 ( a modest surplus) to -4.8 percent in 2003. This was almost all discretionary, as automatic stabilizers pretty much cancelled out over this period (a couple of modest good years, a couple of modest bad years). It got better after that, but after four years of faster-than-trend growth, the deficit was still almost 3 percent of GDP by 2007. And then came the recession. The deficit in 2009 is expected to hit -6.75 percent, very large in the historical context. That’s a 1.5 percent of GDP worsening in a year. But look at the breakdown — automatic stabilizers account for three quarters of the worsening, and only a third is coming from policy actions. In other words, the deficit is largely a function of the starting point and the recession. Keep that in mind.

For sure, the policy part will increase over time, as the stimulus money gets spent over the next few years. But it’s false to focus on the stimulus component, and ignore the larger deterioration due to the economy. And there is another issue. The stimulus bill is about $787 billion, divided between spending increases and tax cuts. Among the “movement”, this stimulus is derided. And yet, Nobel prize-winner Joseph Stiglitz thinks that the cost of the Iraq war will exceed $3 trillion. Already, more than the stimulus money has been spent. Where were the fiscal hawks then? More generally, I fail to understand how those who favor small government can engage in the kind of cognitive dissonance that allows them to seek more military spending, while cutting overall spending. Again, a look at the numbers is instructive. From the White House spreadsheets, defense is expected to cost $675 billion in 2009. That is almost a quarter of the entire federal budget! I propose some common ground — let’s agree to cut the size of government, if it all comes from the military and spares health and education.

I want to make a final point on the stimulus, for many also argue that it will be totally useless. I do not believe this. Even doomsayers like Nouriel Roubini are now seeing signs of hope in the world economy, and this is largely due to the fiscal stimulus enacted by so many countries all over the world (it’s important to note that most countries played their part, even those — like the Germans — who complained about it). Most of the problems with pumping up deficits is that it will cause crowding out — interest rates will increase and this will choke growth. This is exactly what is not happening now. As financial markets remain highly jittery, there is still a big demand for government paper. Liquidity is being hoarded and nobody wants to lend – it was one of the great insights of Keynes that in such circumstances, fiscal policy was the ideal tool to get the economy moving again (precisely because there would be no crowding out).

Of course, we could see inflation down the road, but we also don’t see any signs of it yet — while the risk of deflation has passed, people expect inflation to be no more than 2 percent or thereabouts, which explains why long-term government bond yields remain historically low.  And trust, modest inflation is preferable to deflation, which would be disastrous.

Of course, this could all change. I said it was risky. And when the economy recovers, there will need to be an effort to cut the deficit (you know my favorite target for cuts!), or we could get inflation, or a currency collapse. But those who cry wolf right now tend not to really understand the economics of government deficits. It’s not about the size of the deficit, but about sustainability, which is more determined by future real interest rates and real growth rates. OK, this post is long enough, I’ll stop here.


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