Sunday, November 06, 2011

The Debt Crises, Or How to Cut Government Services by Sleigh of Hand

The New York Times has a front page article today on the debt crisis in the U.S. and Europe and what it means for our collective future (NYT Article). Essentially the article argues that people have yet to come to terms with the cuts to come and particularly the way it will affect our aging populations. Here is an emblematic quote from the article:

"But the frailty of politicians is not the full story. The fact is that most of the industrialized world — Europe, the United States, Japan, too — is in a difficult economic bind. There are no simple solutions that would quickly win the approval of citizens if only politicians were willing to try them. Most voters in these places have yet to come to grips with the notion that they have promised themselves benefits that, at current tax rates, they cannot afford. Their economies have been growing too slowly, for too long, to pay for the coming bulge of retirees."

Actually, I would argue the "frailty of politicians" is the bulk of the story, as they continue to refuse the most obvious solutions to the problem: 1. Raise taxes on corporations who are, in some cases, earning record profits. In the U.S., the answer is actually just to collect taxes at even a margin of the actual rate. 2. Raise taxes on the top decile. This is the obvious solution that no one seems willing to enact. When Bloomberg did so on a temporary basis a few years ago in New York City, it solved the short term problems rather effectively. 3. Cut spending on the military (in the U.S.). Military spending does create jobs, but certainly not nearly as many as it used to. It is time to seriously consider cutting spending there and providing those funds to more growth-oriented industries (including education). 4. In the U.S.: implement policies to ensure more reasonable allocation of resources and benefits of economic activity including regulation, support for unions and tax reform (particularly to hedge funds). Conventional wisdom is that raising taxes cuts growth and will thus exacerbate the problem. Yet even as profit rates have increased and income in the top decile has grown even more dramatically (except in the bubble of 2008), this has not led to job growth. Why?

It appears that the fundamental truth of the new economy is that profits can be increased without increasing employment. Globalization has, of course, complicated this relationship as most manufacturing has moved out of the core nations and increased employment can occur outside the profit centers themselves. And this has been coupled with the shift to a service based economy, where there is little union power and thus a larger gap between executive, middle and worker salaries. Finally, some economists are starting to argue that fears about technology costing us jobs that accelerated in the 80s is finally coming to pass, increasing productivity without increasing payroll. But do these trends fully explain the problem? I believe not, as one has to acknowledge the way income and wealth have accumulated at the very top of our income ladder. If we simply distribute this income more equitably, we could arguably help the economy grow more rapidly and meet the needs of our citizens (to repeat a point I have repeatedly made in this blog -- 70% of the U.S. economy is consumption, thus every additional person working actually increases growth more than their salary, through the multiplier effect). In fact, a similar problem emerged in the run up to the Great Depression -- with dramatic income inequality,  too much corporate power and weak governments all leading toward a fundamental crisis of capitalism. A similar gilded age has emerged again, with not only the growing income gap but increased corporate concentration and power that undermines not only democracy but markets themselves.

A second point to be made about the quote above is that, in the U.S., the public does support at least solutions #1 and 2 (and seemingly #4 as well). It is the power of corporations and rich individuals to lobby and influence Congress and the President that have undermined the will of the people (the sane majority at least) and this again becomes a problem of greed, power and democracy. 

The reality today is that the U.S. and Europe continue to create wealth at unparalleled historic levels. The question is how that wealth will be distributed to the public at large (see this interesting series of charts on income inequality in the OECD countries: The Economist). I believe the current trends are unsustainable and that if we don't do something about them, people will continue to revolt -- probably in more violent ways as poverty and unemployment increase. In the not so distant future, we might also face another problem from the Great Depression -- an elderly population that is predominantly poor, thus inverting one element of modernity as one assumes they will have to move back in with their families. It appears clear that politicians have no viable solutions to the problem and will just continue pointing to gridlock and "economic realities" as they continue to cut services, debt continues to rise and little is done to address the fundamental underlying problems. It is only the people, working collectively, that can force the sort of change necessary to ensure our collective future.

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