In Bootleggers & Baptists: How Economic Forces and Moral Persuasion Interact to Shape Regulatory Politics, economists Bruce Yandle and Adam Smith explain how money and morality are often combined in politics to produce arbitrary regulations benefiting cronies, while constraining productive economic activities by the general public.
I am debating the need for more government spending to goose the economy and create jobs over at PolicyMic.com. I argue that we’ve had enough government “stimulation” (see here). My opponent argues that the federal government hasn’t spent enough money (see here). Readers will decide the “winner” and can add their own two cents.
Sunday’s dinner of the Society for Development of Austrian Economics featured a keynote from George Mason University economics professor Richard Wagner. The talk brought back a lot of memories for me. Wagner was chair of my dissertation committee and it was in his graduate public finance class (back in 1992?) that I first gave any thought to Fannie Mae and Freddie Mac when I wrote a paper on government sponsored enterprises. Little did I know I’d spend much of the following years working to reform Fannie and Freddie.
During his talk, Wagner invoked a term first used by Jane Jacobs: “monstrous moral hybrids.” I suspect Jacobs used the term to describe how Robert Moses managed to wield unaccountable power over development in New York City (Caro’s account of Moses, Power Broker, still being the single best read on city government). Ms. Jacobs describes two distinct moral syndromes, commercial and guardian. Obviously commercial pertains to the market, while guardian can pertain to government. The monstrous moral hybrids are when we get the worst of both instincts combined in one entity. For instance, I generally view competition as a good thing; however, competition underwritten by government guarantees will almost always lead to disaster. Its competition without the discipline of failure.
I repeatedly watched, while working in Senate, Fannie/Freddie invoke their “private” nature in order to avoid regulation while invoking their “public” nature to gain protection and privilege. The result was little accountability from either the market or the government (our largest banks currently enjoy a smaller version). Of course, one of the primary differences in debates over financial regulation is the degree to which one believes that either the market or government provides accountability. Setting aside those debates, we should all be able to agree that companies should be either private or government. That the mixing of the two, government sponsored enterprises, is a recipe for avoiding accountability and transparency. But then I suspect that might have been the intent all along. Monstrous moral hybrids by design.
Whether or not Obama had led the supercommittee in its effort to trim a pittance from our federal deficits and debt, the effort was doomed from the start for the reasons committee co-chairman Jeb Hensarling stated in this morning’s Wall Street Journal: “Ultimately, the committee did not succeed because we could not bridge the gap between two dramatically competing visions of the role government should play in a free society, the proper purpose and design of the social safety net, and the fundamentals of job creation and economic growth.”
Obama has proven himself clueless about economics from the time he first entered public life, as evidenced by the economic disaster surrounding him and his party. Their vision was soundly rejected by the voters a year ago. If it is rejected again a year from now, we may start the slow climb out of the hole that they, as well as Republicans who share their vision, have put us in. But if the voters give us a mixed result, it’s only a matter of time before our creditors exact the price of our economic irresponsibility. These lessons, the subjects of children’s books and learned lectures, are as old as humanity itself. We have only to heed them.
“Everyone wants to know how we did it,” said political economist Brian Lee Crowley, head of the Ottawa-based think tank Macdonald-Laurier Institute, who has examined the lessons of the 1990s. But to win its budget wars, Canada first had to realize how dire its situation was and then dramatically shrink the size of government rather than just limit the pace of spending growth. It would eventually oversee the biggest reduction in Canadian government spending since demobilization after World War Two. …The turnaround began with Chretien’s arrival as prime minister in November 1993, when his Liberal Party - in some ways Canada’s equivalent of the Democrats in the U.S. - swept to victory with a strong majority. The new government took one look at the dreadful state of the books and decided to act. “I said to myself, I will do it. I might be prime minister for only one term, but I will do it,” said Chretien. …The Liberals thought their first, rushed budget - delivered in February 1994, three months after taking office, was tough. It reformed unemployment insurance entitlements, and cut defense and foreign aid… The upstart Reform Party, then the main national opposition party, had campaigned on “zero-in-three” - balance the budget in three years. “We were always trying to go faster,” said Reform’s leader at the time, Preston Manning. …The Liberals were stung by the criticism and, at first reluctantly but then with gusto, they got out the chain saws. …Cutting government spending programs went against the Liberal grain. Contrary to the Reform Party, the Liberals saw a more important role for government. Paul Martin now has a lasting reputation as the finance minister who slayed Canada’s deficit, but the conversion from spender to cutter was painful. His father, also called Paul, had helped create Medicare, Canada’s publicly funded health care system, and suddenly here was Paul Junior contemplating massive cuts.
This is a remarkable story. My only real quibble is that the fiscal restraint actually started the year before the Liberal Party took power, as the chart illustrates.
But the key thing to understand is that Canada enjoyed a five-year period when government spending increased by an average of only 1 percent each year.
There are more good passages in the story. Can anybody imagine Obama doing this?
At one 1994 cabinet meeting, Martin announced a spending freeze. A minister put forward a project that needed funding but Chretien cut him off, reminding him of Martin’s freeze. A second minister raised his hand to ask for funding, and a testy Chretien told the cabinet that the next minister to ask for new money would see his whole budget cut by 20 percent. …The ratio of spending cuts to tax hikes was seven-to-one. Asked why, Chretien said simply: “There was more need on one side than the other.” …Cuts ranged from five percent to 65 percent of departmental budgets.
By the way, while there were a few tax hikes implemented, they were trivial. Tax revenue as a share of GDP rose from 44.2 percent of GDP to 44.5 percent a GDP, an increase that probably was going to happen anyhow as Canada’s economy recovered.
So what were the results of Canada’s spending freeze?
The following passage has some numbers, but the second chart shows that the burden of government spending in Canada (right axis) fell from 53 percent of GDP to 44 percent of GDP in just five years. And red ink (left axis) completely disappeared.
The deficit disappeared by 1997 and the debt-to-GDP ratio began a rapid decline - it is now at about 34 percent. …After wrestling the deficit to the ground, Canada enjoyed what Crowley calls the payoff decade, outperforming the rest of the G7 on growth, job creation and inward investment. From 1997 to 2007, it averaged 3.3 percent economic growth. while U.S. growth averaged 2.9 percent.
The most important thing to understand is that Canada’s economy improved because the burden of government spending was reduced. Moreover, because the underlying disease was being treated, this meant two of the symptoms of excessive government - deficits and debt - also became less of a problem.
Last but not least, there are rewards for good policy. Just as Reagan enjoyed a landslide in 1984 after sticking to his guns, Canada’s Liberal Party also reaped the benefits of doing the right thing.
The final lesson is that you can impose painful spending cuts and still win elections. Chretien went on to win two more back-to-back to form majority governments, a rare feat. „,Drummond, who later moved to the private sector and is now an advisor helping the Ontario provincial government slash its deficit, noted that governments on the right and left in Saskatchewan, Alberta and Ontario won more voter support after their own budget cuts in the 1990s.
Here’s a video I narrated that looks at the Canadian experience, as well as similar good reforms in New Zealand, Ireland, and Slovakia.
Last but not least, let’s put all of this in context. As demonstrated here, the U.S. would enjoy a balanced budget in just eight years if politicians could be convinced to limit spending so that it increased by 1 percent each year.
The so-called supercommittee has failed to come to an agreement on a package of spending cuts and/or tax increases that would add up to $1.2 trillion over the next ten years. Some inveterate spenders have portrayed the faux cuts as draconian, painful, and irresponsible, but they would have been quite modest relative to expected spending over the next ten years. Remember, according to Washington’s unique math, spending is “cut” when it increases less than previously projected. Several of my colleagues have weighed in on the tax and domestic spending aspects. I have some thoughts as it pertains to military spending.
The reason why this particular method for reining in out-of-control spending failed was both predictable and predicted. The Sword of Damocles known as sequestration – supposedly automatic spending cuts divided between the Pentagon and the rest of the discretionary budget – proved a particularly dull weapon. It was intended to force Democrats and Republicans to compromise, but few people believed that the cuts would actually occur, and Republicans, in particular, were working to exempt the Pentagon before the ink from August’s debt ceiling deal had dried. As former McCain adviser Kori Schake observed last month, it is difficult to see “how either the math or the politics work to bring federal spending into line with receipts if conservatives rule defense out of bounds.”
The politics might actually be tougher than the budgetary arithmetic. Not all conservatives believe that the Pentagon’s budget is sacrosanct, but those who wish to stick with the status quo, or dramatically increase military spending (as Mitt Romney wishes to do), have a story for the upcoming election that they believe will play well with voters. They will accuse the Democrats of wanting to “gut defense,” cut off funds for troops in harm’s way, and otherwise undermine American security. They will expect the public to ignore that much of what we spend on military is completely irrelevant to keeping us all safe – it is intended, instead, to make other countries feel safe, and therefore disinclined to spend more on their own defense.
Americans are ignorant of such things because the political class likes it that way. As SAIS Professor Michael Mandelbaum, one of the leading advocates for our current foreign policy, explained several years ago, Americans were opposed to playing the role of the world’s policeman, while other countries free ride on our largesse. And this shouldn’t surprise. “To make sacrifices largely for the benefit of others counts as charity,” Mandelbaum explained, ”and for Americans, as for other people, charity begins at home.” The solution for sustaining this state of affairs is simple: keep the people in the dark: ”The American role in the world,” Mandelbaum concluded, “may depend in part on Americans not scrutinizing it too closely.” Observes Christopher Fettweis in a recent book, “Democracy at home can apparently be a handicap to those who would promote it most fiercely abroad.”
President Obama and the Democrats are poorly positioned to capitalize on this disconnect between the public and the elites because they share the blame for a system in which Americans spend far more money on our military than do people in other countries. Indeed, Republicans and Democrats alike have presided over a considerable expansion of U.S. global commitments since the end of the Cold War. And that pattern has actually accelerated as the U.S. fiscal crisis has grown more dire. The president has just returned from a trip to Asia in which he implied that U.S. security commitments to wealthy, stable allies in the region would expand in coming years.
Ted Forstmann passed away yesterday at the age of 71. Forstmann was most famous for his pioneering work in the business world, and he was for a time a board member of the Cato Institute, but many others knew him as one of the most generous and thoughtful education philanthropists of our time. I first met him in the late 1990’s, when he was planning the launch of the Children’s Scholarship Fund (CSF) with his friend John Walton. CSF is a non-profit K-12 scholarship organization that provides tuition assistance to low-income families wishing to send their children to private schools. Understanding that direct financial responsibility encourages parents to be more involved in their children’s education, Forstmann ensured that CSF grants required parents to make a co-payment out of their own pockets, based on what they could afford.
Critics argued that poor parents would be unwilling or unable to come up with even a small fraction of the cost of private school tuition to make these co-payments. But when CSF was launched in 1998, there were 1.25 million requests for the 40,000 scholarships initially available. The myth that poor, inner-city parents don’t care about their kids’ education was shattered. Since its inception, the program has raised nearly half a billion dollars and served 123,000 children.
Ted Forstmann wanted all families to have access to a free and dynamic education marketplace. He didn’t live to see it, but he greatly advanced that cause. The fact that it is now within reach is in no small part due to his efforts. Scholarship programs like CSF are now operating around the country, many of them bolstered by education tax credit programs that allow donations to them to be written off, dollar for dollar, from state taxes. Such programs exist in Florida, Pennsylvania, Arizona and four other states, with a new program passed this year in Oklahoma and another under consideration in Ohio. By scaling-up these programs it would be possible to achieve the goal of universal access to the marketplace that Forstmann and many others have long pursued.
We’ll keep working toward that goal. And we’ll miss you, Ted.