All Terrain Thinking

A Compendium of things I think are Important

Economics: It's not just whats' in your wallet

1990s

The Setting

"The first half of the 1990s was a difficult time for the United States. The country was plagued not only by a sluggish economy but by violent crime (much of it drug-related), poverty, welfare dependency, problematic race relations, and spiraling health costs." _{Enclcopedia Britannica, History of United States}

"The failure of the Reagan administration to inaugurate a radical right revolution in economic policy and the obvious inadequacy of the liberal approaches in either their Johnson-Humphrey standard version or in the new high-tech version reveal the vacuum which exists in economic policy.  The old postwar consensus had been carried too far - into too much expansion of demand, too much spending and taxing and too much regulation - by the time of President Carter.  But Reaganism was more a shriek of horror than a program for solving real problems." _{Herbert Stein, Presidential Economics p323}

Questions of the day

 

1. How do you feel about the Balanced Budget Amendment? Briefly describe the pros and cons of a balanced budget amendment similar to that proposed in the mid 1990s.

2. How does the government run a deficit? When will it be most likely to be inflationary?

3. You are the president's chief economic advisor. He comes to you, deeply disturbed about the size of the deficit being forecast for the upcoming fiscal year. His instincts are that such a large deficit, adding at least $150 billion to the national debt, has to wreak considerable damage on the economy. His political advisors, however, say "not to worry, the deficit hurts no one." Suppose the president asks you to carefully explain the economic consequences of a large budget deficit. What would you say?

4. Describe the historical patterns of the budget deficit and the national debt?

5. The FED has decided to raise interest rates and your job is to describe what you expect to be the impact of this on the deficit.

6. What is the difference between a regressive and progressive tax and what would happen to the relationship between taxes and income if payroll taxes became a more important source of tax revenue than income taxes?

7. What are the major sources of tax revenue in RI?

The outline

• Alternative views on government's impact
• Government outlays - by level of government
• Government revenues
• Budget imbalances (surplus and deficit) and debt
  • burden of debt
  • solutions to deficits
  • measurement issues
• Taxation
  • Tax base choice
  • Criteria for taxes
  • Relationship of tax rates to income

An outline

• State & Local government finances

  • Revenues

• Outlays (Spending)

Federal government finances

• Outlays

• Revenues

• Comparative size

General Government Outlays: Percent of GDP

	1970	1999
Canada	34.1	41.5
Germany	38.3	46.8
Japan	19	39.8
Mexico	…	15.4
Sweden	44.2	58.5
US	31	32.2

Government imbalances

Differences between you and government.

1. The government has no life expectancy:
2. The government can print money:
3. The government owes much of the debt to itself:

Diagram 1

Diagram 2

Diagram 3

General Government Deficits and Debt: Percentage of GDP

Deficits and Debt: How much of a problem is it?

• How big is it?  A few of the issues that would fall under  "measurement" are:
  • There is no capital account in the federal budget
  • The official budget figures "hide" a number of significant government obligations. 
  • The actual and the full-employment budget deficits.
  • The federal deficit is only part of the picture.
  • Inflation needs to be acknowledged in the accounting.  

  Real vs. Nominal Deficit

  		2% Inflation rate	3% Inflation rate	3% Inflation rate
  Nominal debt	$4,000
  Nominal interest rate		0.05	0.05	.06
  Interest on debt		$200	$200	$240
  Non interest deficit		$100	$100	$100
  Nominal deficit		$300	$300	$340
  Reduced value of debt		-$80	-$120	-$120
  Real deficit		$220	-$180	$220

• What is the burden of the debt? 

   

• How do we eliminate deficits?

  1986 -Gramm-Rudman-Hollings Bill

  1990 -  Budget Enforcement Act

  1993 - Omnibus Budget Reconciliation Act

  1995 - Balanced Budget Ammendment (not passed)

What about the future?

Taxation

What should we tax?

• Income
• Consumption
• Wealth

How shoulkd we tax it?

• Benefits principle
• Ability-to-pay principle
  • Progressive
  • Proporpional
  • Regressive

Alternative Tax and Ability-to-Pay Relationships

Federal Income Tax

Consumption and Payroll Tax

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