[A-List] Four Deformations of the Apocalypse

[Bill Totten]

by David Stockman

New York Times (July 31 2010)


IF there were such a thing as Chapter Eleven for politicians, the
Republican push to extend the unaffordable Bush tax cuts would amount
to a bankruptcy filing. The nation's public debt - if honestly reckoned
to include municipal bonds and the $7 trillion of new deficits baked
into the cake through 2015 - will soon reach $18 trillion. That's a
Greece-scale 120 percent of gross domestic product, and fairly screams
out for austerity and sacrifice. It is therefore unseemly for the
Senate minority leader, Mitch McConnell, to insist that the nation's
wealthiest taxpayers be spared even a three-percentage-point rate
increase.

More fundamentally, Mr McConnell's stand puts the lie to the Republican
pretense that its new monetarist and supply-side doctrines are rooted
in its traditional financial philosophy. Republicans used to believe
that prosperity depended upon the regular balancing of accounts - in
government, in international trade, on the ledgers of central banks and
in the financial affairs of private households and businesses, too. But
the new catechism, as practiced by Republican policymakers for decades
now, has amounted to little more than money printing and deficit
finance - vulgar Keynesianism robed in the ideological vestments of the
prosperous classes.

This approach has not simply made a mockery of traditional party
ideals. It has also led to the serial financial bubbles and Wall Street
depredations that have crippled our economy. More specifically, the new
policy doctrines have caused four great deformations of the national
economy, and modern Republicans have turned a blind eye to each one.

The first of these started when the Nixon administration defaulted on
American obligations under the 1944 Bretton Woods agreement to balance
our accounts with the world. Now, since we have lived beyond our means
as a nation for nearly forty years, our cumulative current-account
deficit - the combined shortfall on our trade in goods, services and
income - has reached nearly $8 trillion. That's borrowed prosperity on
an epic scale.

It is also an outcome that Milton Friedman said could never happen
when, in 1971, he persuaded President Nixon to unleash on the world
paper dollars no longer redeemable in gold or other fixed monetary
reserves. Just let the free market set currency exchange rates, he
said, and trade deficits will self-correct.

It may be true that governments, because they intervene in foreign
exchange markets, have never completely allowed their currencies to
float freely. But that does not absolve Friedman's $8 trillion error.
Once relieved of the discipline of defending a fixed value for their
currencies, politicians the world over were free to cheapen their money
and disregard their neighbors.

In fact, since chronic current-account deficits result from a nation
spending more than it earns, stringent domestic belt-tightening is the
only cure. When the dollar was tied to fixed exchange rates,
politicians were willing to administer the needed castor oil, because
the alternative was to make up for the trade shortfall by paying out
reserves, and this would cause immediate economic pain - from high
interest rates, for example. But now there is no discipline, only
global monetary chaos as foreign central banks run their own printing
presses at ever faster speeds to sop up the tidal wave of dollars
coming from the Federal Reserve.

The second unhappy change in the American economy has been the
extraordinary growth of our public debt. In 1970 it was just forty
percent of gross domestic product, or about $425 billion. When it
reaches $18 trillion, it will be forty times greater than in 1970. This
debt explosion has resulted not from big spending by the Democrats, but
instead the Republican Party's embrace, about three decades ago, of the
insidious doctrine that deficits don't matter if they result from tax
cuts.

In 1981, traditional Republicans supported tax cuts, matched by
spending cuts, to offset the way inflation was pushing many taxpayers
into higher brackets and to spur investment. The Reagan
administration's hastily prepared fiscal blueprint, however, was no
match for the primordial forces - the welfare state and the warfare
state - that drive the federal spending machine.

Soon, the neocons were pushing the military budget skyward. And the
Republicans on Capitol Hill who were supposed to cut spending exempted
from the knife most of the domestic budget - entitlements, farm
subsidies, education, water projects. But in the end it was a new cadre
of ideological tax-cutters who killed the Republicans' fiscal religion.

Through the 1984 election, the old guard earnestly tried to control the
deficit, rolling back about forty percent of the original Reagan tax
cuts. But when, in the following years, the Federal Reserve chairman,
Paul Volcker, finally crushed inflation, enabling a solid economic
rebound, the new tax-cutters not only claimed victory for their
supply-side strategy but hooked Republicans for good on the delusion
that the economy will outgrow the deficit if plied with enough tax cuts.

By fiscal year 2009, the tax-cutters had reduced federal revenues to
fifteen percent of gross domestic product, lower than they had been
since the 1940s. Then, after rarely vetoing a budget bill and engaging
in two unfinanced foreign military adventures, George W Bush
surrendered on domestic spending cuts, too - signing into law $420
billion in non-defense appropriations, a 65 percent gain from the $260
billion he had inherited eight years earlier. Republicans thus joined
the Democrats in a shameless embrace of a free-lunch fiscal policy.

The third ominous change in the American economy has been the vast,
unproductive expansion of our financial sector. Here, Republicans have
been oblivious to the grave danger of flooding financial markets with
freely printed money and, at the same time, removing traditional
restrictions on leverage and speculation. As a result, the combined
assets of conventional banks and the so-called shadow banking system
(including investment banks and finance companies) grew from a mere
$500 billion in 1970 to $30 trillion by September 2008.

But the trillion-dollar conglomerates that inhabit this new financial
world are not free enterprises. They are rather wards of the state,
extracting billions from the economy with a lot of pointless
speculation in stocks, bonds, commodities and derivatives. They could
never have survived, much less thrived, if their deposits had not been
government-guaranteed and if they hadn't been able to obtain virtually
free money from the Fed's discount window to cover their bad bets.

The fourth destructive change has been the hollowing out of the larger
American economy. Having lived beyond our means for decades by
borrowing heavily from abroad, we have steadily sent jobs and
production offshore. In the past decade, the number of high-value jobs
in goods production and in service categories like trade,
transportation, information technology and the professions has shrunk
by twelve percent, to 68 million from 77 million. The only reason we
have not experienced a severe reduction in nonfarm payrolls since 2000
is that there has been a gain in low-paying, often part-time positions
in places like bars, hotels and nursing homes.

It is not surprising, then, that during the last bubble (from 2002 to
2006) the top one percent of Americans - paid mainly from the Wall
Street casino - received two-thirds of the gain in national income,
while the bottom ninety percent - mainly dependent on Main Street's
shrinking economy - got only twelve percent. This growing wealth gap is
not the market's fault. It's the decaying fruit of bad economic policy.

The day of national reckoning has arrived. We will not have a
conventional business recovery now, but rather a long hangover of debt
liquidation and downsizing - as suggested by last week's news that the
national economy grew at an anemic annual rate of 2.4 percent in the
second quarter. Under these circumstances, it's a pity that the modern
Republican Party offers the American people an irrelevant platform of
recycled Keynesianism when the old approach - balanced budgets, sound
money and financial discipline - is needed more than ever.

_____

David Stockman, a director of the Office of Management and Budget under
President Ronald Reagan, is working on a book about the financial
crisis.

http://www.nytimes.com/2010/08/01/opinion/01stockman.html


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