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December 5, 2010
David Warsh, Proprietor


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End of an Era?

Call me credulous, but after a week of listening intently to the talk from Washington, I am prepared to believe the US has indeed reached the end of an era. That long strange journey began in the mid-1960s, with a binge of Keynesian guns-and-butter spending unaccompanied by tax increases. It took a new twist in the mid-1970s, when a handful of policy entrepreneurs began to argue that large deficits were a reasonable strategy for governing the country.  And now, nearly fifty years after it began, the era has finally ended.

The original policy of cavalier deficit spending evolved two versions in the last thirty years, depending on the context:  the “Two Santa” theory and “Starve the Beast.” As the late Jude Wanniski explained it in a memo in 1999:

We of course should be indebted to Art Laffer for all time for his Curve….  But as the primary political theoretician of the supply-side camp, I began arguing the “Two Santa Claus Theory.” If the Democrats are going to play Santa Claus by promoting more spending, the Republicans can never beat them by promoting less spending.  They have to promise tax cuts in order to grow the economy — not “starve the government of revenue,” which is Milton Friedman’s rationale. (Columnist Bruce Bartlett reproduced the entire essay here.)

One rationale or the other served Republican policy-makers from the presidency of Ronald Reagan to that of George W. Bush – sometimes both at once, as when Bush cut taxes, went to war in two countries and added pharmaceutical benefits to Medicare at the same time. Since 2006, however, both doctrines have worn increasingly thin.

Former Vice President Dick Cheney was probably the last senior political figure to seriously argue (in 2003, as the president prepared to fire Treasury Secretary Paul O’Neill, a fiscal conservative) that “Reagan proved that deficits don’t matter.”

No sensible person thinks that any longer.  A combination of common sense, writ in part by the successes of third party movements led by H. Ross Perot, in 1992, and the Tea Party, in 2008; and in part by the demonstrative effect of fiscal crisis at home and sovereign debt crises abroad, has put deficit reduction at the center of the agenda, for conservatives as well as liberals. A roughly balanced budget in the intermediate future has become a matter of necessity (though questions of timing remain a matter of considerable debate).

If an age in which relative fiscal discipline is required really is at hand, what are we going to argue about now?  The next decades-long long political argument is probably going to be about how to pay for health care. It was not for nothing that President Obama’s bipartisan Commission on Fiscal Responsibility and Reform left it out of their report altogether.

Instead the panel quietly laid the groundwork for far-reaching tax reform. To get away from the squalid arguing about the Bush tax cuts enacted in 2002, expect President Obama to go back, perhaps to the Tax Simplification Act, of 1986 and start again, proposing to overhaul the tax system in order to eventually restore fiscal balance. The 1986 statute originated in Congress as a fundamental compromise of the philosophical issues raised by the Reagan presidency.  It established just two brackets, 15 percent and 28 percent (although a third, “bubble,” rate of 33 percent covered the transition to the upper bracket) and paid for the simplification by eliminating a host of loopholes.

It was, after all, once George H. W. Bush agreed to bump the top rate up to 31 percent (and established pay-as-you go procedures for increases in spending) that his presidency was wrecked by populist Republican dissidents. And it was the top bracket of 39.5 percent that President Bill Clinton muscled through Congress that the Bush tax cuts of 2002 aimed to reverse.

Hatfields and McCoys?  After two wars, two health care bills and a devastating recession, it may be possible to return to the kind of compromise that animated the 1986 surprise – especially if President Obama were able to somehow make the issue his own. Hints and whispers are everywhere about the possibilities of increasing revenues by closing loopholes.

What The Wall Street Journal editorial page confided last week about the deficit reduction commission is probably true. When it was appointed in the early days of the Obama presidency, the hope may have been that it would recommend a value-added tax as a means of paying for the extension of medical benefits to the uninsured.  If so, it clearly didn’t pan out. The subject didn’t come up.

As it happens, though, a gentle but forceful reminder of the logic of government-organized insurance systems was offered last week by Victor Fuchs, of Stanford University, dean of the nation’s health care economists.  Writing in The New England Journal of Medicine, Fuchs noted that nearly every high-income country in the world financed its health care system through government except the United States.

Even in the US, Fuchs noted, the share of government-provided funds for personal care was rapidly approaching fifty percent. Other nations rely on government bargaining power to keep cost down; eight European countries spend half as much as the 17 percent of GDP that goes for medical care in the US – with greater life expectancy at birth in every case.  Not so here – at least not yet.

Some US critics believe that the Europeans have been making a big mistake. But Fuchs quotes Samuel Johnson, writing in 1775: “uniformity of practice seldom continues long without good reason.” For good measure, he observes, the late George Stigler, a Nobel laureate, said much the same two centuries later: “If an economic policy has been adopted by many communities or it is persistently pursued by society over a long span of time, it is fruitful to assume that the real effects were known, and desired.”

Perhaps it all depends on what is meant by “long.”  Some Americans have been resisting national health insurance for seventy years, with varying degrees of success. They include physicians, hospitals, as well as manufacturers of drugs, medical devices and equipment. As Washington Post columnist Matt Miller noted last week, “every dollar of health care ‘waste’ is somone’s dollar of income.”

True, as Fuchs notes that the tradition of individualism is stronger in the United States than perhaps anywhere else in the world. But ten percent or more of GDP is a lot to pay for a nearly completely unregulated market.  That is why, with the era of deficit denial finally ended, deep, serious politics is going to shift to the organization of health care. That’s where the money is.

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A reminder: the Nobel lectures accompanying the award of the prize in economics may be seen here Wednesday via streaming video.

Dale Mortensen, of Northwestern University, is scheduled to begin at 2 P.M. CET, or 8 A.M. EST, followed by Peter Disamond, of the Massachusetts Institute of Technology and Christohe Pissarides, of the London School of Economics.

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3 Comments

  1. Publius 10 wrote:

    My proprietary indicators predict another downturn and uptick in unemployment. Consequently, I predict Obama is going to lose the presidency.

    I’d be interested in hearing why you think the economy is going to improve.

    Sunday, December 5, 2010 at 11:48 pm | Permalink

  2. lark wrote:

    I will call you credulous. Obviously the spew from Republicans in Washington that the deficit is an important consideration is in utter bad faith, because they are insisting on tax cuts for the highest levels of society be continued. The deficit resulting from this absurd exercise in political corruption is more than enough to finance the total social security shortfall. But never mind. Being Republican means never having to say your sorry.

    Monday, December 6, 2010 at 3:46 am | Permalink

  3. jcb wrote:

    I am an admirer of your blog, but I find this post’s title peculiarly off the point. Bill Clinton created a budget surplus as recently as 2000, and George Bush re-created a deficit. So why should we think that there is any new post-partisan agreement that deficits are bad? If there is any new found agreement (and I hope not) it is that budget deficits must never be addressed by tax increases, but mainly by benefit reductions and minor efficiencies in the tax code that will be returned to high income earners in the form of lower tax brackets. Are we supposed to celebrate this?

    P.S. Please explain what you mean by “cavalier deficit spending”? For what? Social security and medical insurance that doesn’t meet European standards? Before you can ‘organize” health care you need to provide it.

    Monday, December 6, 2010 at 7:54 pm | Permalink

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