Remedial Economics - For those who either don't believe or don't understand

Hoo-boy. Glenn Beck’s got a plan to “save” America. You can read a little about it HERE. It’s the typical Right Wing garbage and for all his praying and crying about it, it won’t in fact save the country. All it will do is DESTROY the economy, while being deficit neutral at best. Perhaps the biggest irony in all of this is that it’s really just another cynical attempt by the Right to let the Rich grab (and keep) a whole lot more money. The IRONY is that, were this implemented, it would be as DISASTROUS for the Rich as it would for the poor. It would, in fact, BRING ABOUT the very economic calamity that Beck is trying to avoid. Although… given that Beck has repeatedly revealed himself as an anarchistic, nihilist LOON, maybe he’s TRYING to being this calamity about! I mean, if the world DOES end, suddenly that guy on the corner wearing the sign doesn’t seem so crazy! But I digress. The reason that all these conservatives keep saying “CUT Taxes, CUT Spending” as a recipe for both fiscal and economic success is that they (1) don’t understand Keynesian Economics and (2) they’re blinded by their ideals (and their greed) and can’t stand the idea that someone (other than them) gets any money that these guys don’t think the recipient “earned.”

Now… last year I promised a primer on Keynesian economics that I never quite got around to. Well... with Glenn Beck in full-on crazy mode, maybe a little education for everyone is in order. And I think I’ve got an example that will make this clear. It’s oversimplified, so it’s NOT intended to convince those who don’t believe it. but rather to explain it to those who don’t understand. So if you think stuff is really complex: THIS BLOG POST IS FOR YOU! I’ll show you how it’s not as hard as you think.

We’ll start off by putting out a couple of “givens.” These are FACTS, not talking points, and there’s no legitimate economist anywhere who will disagree with them. There are FOUR THINGS a government can do, relative to its ECONOMY and its DEFICT:

1. Raise Taxes
2. Cut Spending
3. Cut Taxes
4. Raise Spending

And while economist may quibble of the DEGREE, directionally raising taxes and cutting spending do the same thing and cutting taxes and raising spending do the same things:

• If you (1) Raise Taxes or (2) Cut Spending, you will harm (shrink) the economy and you will help (shrink) the deficit.
• If you (3) Cut Taxes or (4) Raise Spending, you will help (grow) the economy and you will harm (grow) the deficit.

None of these are up for debate! If you don’t believe either of the two preceding statements, you are either too conservative or too liberal for your own good. These are FACTS. Take an economics course if you don’t believe me. And besides, taken together, they are neither liberal nor conservative. They are BALANCED. Where the libs and cons disagree is over which one does MORE, which one helps or harms MORE – taxes or spending. I’m not going to settle THAT debate here, (hint: it's SPENDING) but I will explain what the Keynes model states, and show you how it works.

The important part of the Keynesian model is what happens when you do both in unison. Now, obviously if you did (1) and (2) you could erase the deficit, but you’d destroy the economy doing so. I’m sure lib’s and con’s alike would agree with that. Likewise, if you did (3) and (4) together, you’d have a BOOMING economy… but before long you’d have some pretty crippling debt. I’m sure we can all see why that won’t work either, but I’ll include in my example anyway. Where Keynes get’s controversial (though he’s absolutely right, and I’m going to show you why) is the following:

• If you (1) RAISE taxes by, for example, $1 Billion and you (4) RAISE spending by $1 Billion, you will, in fact, RAISE the collective income of everyone in the economy by $1 Billion, while not changing (or creating) a deficit AT ALL.
• If you (3) CUT taxes by $1 Billion and (2) CUT spending by $1 Billion, you will LOWER the collective income of everyone in the economy by $1 Billion, while not changing (or creating) a deficit AT ALL.

This is known as the “balanced budget multiplier” and it EQUALS 1. This means that if taxes and spending move in the SAME DIRECTION by some amount, INCOME will also move in the same direction by “one times” that amount. Also – as this is the very definition of a ‘balanced budget’ it should be obvious that the deficit is not affected.  (It's the actual defintion of deficit-neutral.)

How does this work? I’ll demonstrate:

Let’s say we have a country with just two people living in it: Connie and Libby. Connie is a retailer and real estate developer. She owns all the stores and all the land. Libby is broke and unemployed. She doesn’t have a pot to squat in or a window to dump it out of.

Now, in Fiscal Year One (FY1) Connie makes an income of $100 and Libby made $0. Our starting deficit is $0 and the collective income earned was $100. (100 + 0)

Seeing as how Libby is on the verge of starving to death, naked, sleeping under the stars, the government of this fine country is going to implement a relief program if Fiscal Year Two (FY2.) We are going to RAISE TAXES on anyone making over $50 (Connie) by $10 and give Libby a check for $10 to live on. Now… you may be tempted to say, “Connie now has $90, Libby now has $10, and all you did was rob from the rich and give to the poor and society is no better off.” But you’re wrong. Libby was living in poverty. Now that she has some money to spend, she’s going to buy some food clothing and shelter. IOW – she’s going to SPEND he $10. And since Connie owns the only store and the only apartment complex, she’s going to spend that $10 at Connie’s businesses. So Connie’s income will actually be: $110 (pre-tax), $100 (after-tax.) Despite the tax, her after-tax income didn’t change. Meanwhile Libby enjoyed an income of $10. So our society income is now $110: Connie income ($110 minus $10 in taxes) plus Libby’s income ($10). I managed to raise one person out of poverty without incurring any deficit or debt and without really lowering anyone else’s income! Pretty cool, huh?

Now… if I did that WITHOUT raising taxes? Sure, things would have even better: Connie would have had $110 and Libby $10 and or society would now have an income of $120… but would also now have $10 worth of debt as well. I’ll now demonstrate why that doesn’t work, in the long run.

Let’s say that in FY3, word of our great society begins to spread and another unemployed dead beat, Demi, moves in. Now… I COULD raise Connie’s taxes by $10 again, pay Libby and Demi $10 each and we’d be (collectively) up to $120 in the same manner:

• Connie would make $120 and pay $20 in taxes, for $100.
• Libby would have $10 in income (that she’d spend with Connie)
• Demi would have $10 in income (that she’d also spend with Connie)

But Connie’s a Republican and feels she’s being taxed enough. And since Libby and Demi didn’t make it to the polls, let’s assume we can’t raise taxes. So in FY3:

Demi and Libby will get their $10 checks, and spend them with Connie. Connie will thus get $120 in income, and pay only $10 in taxes. So $10 + $10 + $110 = $130 in collective income, and $10 in debt. ($10 in taxes, $20 in spending = $10 of debt.)

So now we're in FY4. Connie still makes $120 and pays $10 in takes. Libby and Demi still get their $10 checks. (Collective income of $130) BUT I have to pay interest on that $10 I owe. Let’s assume the interest is 10%, and that the bonds aren’t held by Connie, Libby or Demi. So I take in $10 in taxes, but I have to pay $1 in INTEREST. That leaves me $9, to pay out $20 in benefits with. So my deficit (now $11) gets added to my debt ($10) and I now OWE $21.

FY5: Connie makes $120 and pays $10 in Taxes. Libby and Demi get their $10 checks. Out of the $10 in taxes I collect, I now need to pay $2.10 in interest (10% times the $21 I now owe.) That leaves me just $7.90 to pay $20 in benefits with! So my defict is now $12.10, which gets added to my debt of $21. I now owe $33.12.

I’m sure by now, you can see the trouble we’re in. Despite maintaining my country’s income at $130 (instead of the $120 there would be if I had just raised Connie’s taxes) our debt is quickly spiraling out of control. Without cutting spending, or raising taxes, in just a few years, all of my tax revenue will be going to pay the interest on my debt!  So either I have to raise taxes or cut spending, and both will harm my economy.
  
So let’s do the CONSERVTAIVE thing, and get rid of those benefits. We still owe $33.12, but in FY6 we won’t pay out any benefits. So Libby and Demi will go back to making $0, and since they won’t be spending anything, Connie’s income will also drop to $100. Now… she’ll still have to pay her $10 in taxes, so her income is now $90. And my country’s income went from $130 down to just $90. A FORTY dollar drop, due to a $20 reduction in gov’t spending. Even if we cushioned it with a $6.69 tax break for Connie (so I can still pay the $3.31 in interest I owe) her income only goes up to $96.69. So my contry loses $33.31 in income, when I cut taxes by $6.69 and cut spending by $20.

So let’s go back to FY4 and pretend we raised Connie’s taxes to $20, and maintained our balanced budget. Connie will have [$120-$20] $100 in income, and Libby and Demi each get $10. So my country has an income of $120, and NO DEBT. And we get a new president who want to CUT taxes and CUT spending by $10 Each. So, in FY5 Libby and Demi only get $5 each, and Connie goes back to paying $10 in taxes. Because of thier reduced incomes, Libby and Demi can only spend $5 each. So Connie pre-tax income dropped to $110. She pay $10 in taxes, so she’s back $100. Combine that with Libby’s $5 and Demi’s $5 and my country’s income is now $110.

Did you see that?

It went DOWN by $10 after I cut taxes by $10 and cut spending by $10!

And, if you recall from way back in FY2 (and what I first proposed for FY3,) it went UP by $10 when I RASIED taxes and RAISED spending by $10!

And that’s how (and why) the Keynesian model works! It recognizes that an economy is more than just production. Production is necessary, of course, but without CONSUMPTION all the production in the world won’t make you a penny. You need to MAKE STUFF and you need to SELL IT. If people can’t buy it, it doesn’t matter how much you produce. It also recognizes that people don’t KEEP all, or even most, of their income. They SPEND it, and it then becomes someone else’s income! (And so on, and so on…)

Now… there are two legitimate criticisms of the Keynesian model - one from Professor Arthur Pigou and one from Nobel Laureate Milton Freedman, both of whom are conservatives, economically and fiscally speaking. As I said, they’re legitimate… but IMHO they’re also misguided and thus not applicable outside of academic discussions. If anyone is interested, I can explain them, and explain with they’re wrong. Otherwise, I’d like to hear what y’all think of this, and answer any questions (or criticisms) you have first.

In any case, given the TRUTH and FACT of the Keynesian model, it should be pretty clear that Beck's "plan" would destroy the economy and not really help the deficit.  Nice plan, huh?  I'm serious when I say that he's not really even TRYING to save anything.  He a nihlist.  And his every word demonstrates this.

Macro versus Micro, Personal vs. Public

There's something I've noticed lately, both in media stories and online threads. It seems to me that there's a lot of confusion about the difference between what makes good public policy versus what makes good private practice. And when speaking about economics I do think that the conservatives make this mistake more ofter, but I don't think it's entirely a conservative problem. To start, I'll use an example that (I THINK) will be non-partisan, and use it to illustrate my concern. Then I'll move onto economics. ;) LOL

CIRCUMCISION and AIDS in AFRICA

I recently read an article about two clinical studies being done in Africa, one with 5000 men and one with around 2800. Roughly half of each group volunteered to undergo medical circumcision as part of the study. After two years, the circumcised group was found to be 48% less likely to be infected with HIV. It was such an effective reduction in transmission that the doctors felt it would be unethical to continue the study, opting instead to allow the reminder to get circumcised right away instead. (Just as an aside, the study went on to say that this reduction was only effective in heterosexual intercourse, and was not effective in homosexual sex. But that's peripheral to what I'm addressing here.)

Now, I'll say it right up front: I've always been against circumcision. IMHO, it's just an unnecessary procedure (mutilation, really) driven by societal pressure and motivated by religious nonsense. There is simply no reason to do it. Period. Do I still feel this way? Well, I have to admit that with something on the order of 1 in 4 or 1 in 3 Africans infected with HIV in certain areas, as a matter of PUBLIC HEALTH POLICY, it makes a hell of a lot of sense. And in that context I can't say that I'm justified in opposing it. Clearly, in that circumstance, there is a overding benefit.

But here is where public policy ends and good private practice begins. It accounted for a 48% reduction. Well, sure, if I'm setting public health policy, a 48% reduction in new cases would be a godsend. But what about ME, the individual? Well, we KNOW there's only ONE WAY to not get HIV via sex: Don't have sex. We also know as a matter of PUBLIC POLICY that this just doesn't work. Condom use is also basically 100% effective. (Or what? 99.9%?) I don't know, but it's a helluva lot higher than 48%. So for ME, I can choose to abstain, or to consistently use condoms, and then there's just no reason for me, the individual, to get circumcised. What's more, if I DID... but did nothing else, does that really help me?

Let's say I sleep around, with a different girl every week. In Africa. And of those ~51 different girls 17 are HIV positive. Now... lets say that there's a 30% chance of me getting HIV from one of them. My chances are about 10% that I'll have HIV within any given year. Now... if you cut my chance in HALF (the ~48% reduction that circumcision gives), then I'm ~5% likely in any given year. Big deal. In the first scenario, I'll be at about a 50% chance after about 7 years. (Buy the time I'm 25, if I become sexually active when I 18.) In the second scenario I'll last about 13-14 years, or until I'm about 31-32. Well, if the average life expectancy (without HIV) is ~72, I'm still losing 40 years or more - over half my life! On the other hand, with a 99% reduction (condoms), I'd have only a 0.3% within any given year, and I would only be about 15% likely to contract it by the time I turned 72! (ANd that assumes I'm still having sex once a week, with a different girl, every week! Not bad for such an old fart, huh?) So clearly condoms are the better PRIVATE PRACTICE, and abstinence the BEST, but we know from experience that neither of these work on a large scale, because none are consistently PRACTICE on a large scale, hence we have a PUBLIC POLICY that, while it would be disastrous as a personal practice, makes far more effective prevention strategy.

See the distinction? (OK, I'll admit that I really have no idea what the transmission rate of HIV is, nor how effective Condoms are. I'm guessing. But the actual numbers aren't really that important. The POINT is that something that can be a very good idea for individual people to do, can be a disaster as a matter of public policy. And YES, I think abstinence-only sex education is the single stupidest idea that our previous president and his merry band of funny-mentalist puppeteers ever came up with. But I wanted to first demonstrate the point with something a little less partisan before I got into...

ECONOMICS

Right off the bat I want to tell you what caused the GREAT DEPRESSION. And believe it or not, it was NOT all (Republican) Herbert Hoover's fault! (How's about that? That surprise anyone?) It WAS the fault of his policies though. After Black Tuesday and the resulting recession he did two things which are TERRIBLE things to do in a recession. He RAISED taxes, AND (and the AND is important here!) he CUT spending. Either one by itself is bad to do in hard times, but the double whammy took us (and the world) over a decade to recover from. You see... GOVERNMENT SPENDING supports people's incomes. Whether you think it SHOULD or not is irrelevant, it DOES. SO CUTTING it cuts people's income, which cuts their consumption, which cuts OTHER people's incomes, etc, etc... Vicious cycle. The same thing goes for raising taxes. In much the same way.

Now, without turning this into a treatise on Keynes (which I promised you awhile back, but still haven't delivered!) You can raise taxes, and raise spending by the same amount and everyone's collective income will go UP by that same amount. (Keynes' models demonstrate this.) Likewise if you cut taxes and cut spending by the same amount everyone's collective income will go DOWN by that same amount. This is because the effect, both positive and negative, of spending is slightly greater than the effect of taxes, AND: the BALANCED BUDGET multiplier is "1." That's an economic fact in every school, even Friedman's. But, as you can imagine, raising taxes and cutting spending would have a DOUBLY NEGATIVE effect. And Hoover did this at the worst possible time! So why is it not his fault? And why did he do this in the first place?

First things last...

He did this because he was committing the very error that I've described above. He assumed that good private practice would make good pubic policy. After all... When a FAMILY hits hard times, they try to do odd jobs to take in more money when the can, and they tighten their budget, so they don't go broke and lose everything. That's common sense. And what's surprising - and a little bit depressing, because it shows how good a job Fox News has done mis-educating people about economics - is that so many Conservatives still think this way! If you listen to them talk about Obama's huge deficits (only about 30% bigger than Bush's really, because Bush never budgeted for the two WARS, so his deficit figures were consistently understated... damned liberal media... Obama IS putting the Wars into his regular budget, and that makes his deficit look so much bigger.) ANYWAY, when you hear them complain about Obama's budget, they all say something to the effect of, "What do YOU do when you get laid off? SPEND MORE?!" No. Of course not. But that's just it: Good private practice does not necessarily make make for good public policy! If the gov't did what individual families do in hard times, tens of millions more would be out of work, consumption (which means, INCOME for the rest of us!) would be even less, etc, etc... Vicious cycle.... Great Depression II. Even the most hard-core supply siders understand this... Why do you think Reagan and Bush never cut overall spending even ONE SINGLE TIME in the sixteen years of their presidencies?!

Now... Contrary to what the Conservative may believe I, and many liberals, ARE concerned about the NATIONAL DEBT. But Deficit reduction is something that's better left when the economy is on better footing. For now? President Obama is doing EVERYTHING RIGHT economically. And the markets have borne that out.

I'll give you another example. Personal Savings. Now, I save. I hope you save. We ALL need to save as much as we can. Max out the 401-K's and IRA's; have six months worth of expenses stashed away in relatively liquid form... We all should do this... And THANK GOD we DON'T! Because if everyone starts pinching every pennies, WE'LL NEVER GET OUT OF THIS ECONOMIC MESS! The fact is, that for ANY of us to get PAID, someone else needs to consume! If everyone cuts consumption, because their worried about their jobs, then companies will loose money, and get what happens next? YOU LOSE YOUR JOB!!! This is why I HATE HATE HATE it when the media report on "consumer confidence."

Most people don't even know what tha term really means. But they hear it's LOW, and suddenly they worry about their job.. so they cut back... and so does everyone else... and POW! Now we have a recession. So companies shed workers. Less income, less 'confidence' about the remaining jobs, less consumption... BOOM! Another bad quarter! It's a wonder we ever get out of these things!

And THAT's where stimulus comes in. People say, "yeah but stimulus money's just temporary." It doesn't matter. Get some income out there, stop the bleeding... companies meet some of their numbers and targets, and stop cutting jobs... people feel a little better about their own job, so THEY spend a little more money... more companies start having higher revenues coming in again... they hire a few more people to help meet the new damand... POW... more income, more consumption, more revenue, more jobs, repeat, repeat, repeat...

Good private practice can often make disastrous public policy and good public policy can be disastrous private practice. We need to get beyond the idea that what's good for US is necessarily good for EVERYONE.

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Oh yeah... and WHY wasn't it all Hoover's fault? Well much as I'd like to lay it all on him, the fact is that he got some bad advice... from FRANKLIN ROOSEVELT! That's right! You see, after Black Tuesday, Hoover was kicking around some of the ideas that Keynes had proposed. He basically had a 'new deal' proposal of his own. ROOSEVELT actually talked him out of it! And later, when Roosevelt became president himself, he saw how badly the conventional wisdom had failed (IOW - he learned the very lesson I'm talking about here!) and he reversed his position and put into place many of the very programs he talked Hoover out of! (The New Deal.) (Yeah - it was HOOVER'S idea!)

Now Roosevelt came around, and the New Deal made life better for millions, put many to work, and there were really only two things he did wrong: 1) He tried to balance the budget too soon. We weren't out of it yet, and I've already explained why raising taxes and/or cutting spending is BAD when doen in bad times. 2) He didn't go nearly far enough. That's obvious when you consider that it really took WWII to end the great depression. Why? REALLY MASSIVE GOVERNMENT SPENDING! Totally dwarfed the New Deal. And yet it was still paid for within a decade and a half of the war ending, recostruction and all. (Because when times are going good, you can have a 95% top marginal tax bracket and still grow! But we'll save taxation, spending and Keynes for another time. I'm still trying to make a decent, accurate, simple explanation of Keynes. It's not THAT hard, but I've been lazy about it. I'll work on it! I promise!) ;)