Economix: The Debt and Redistribution

Simon Johnson, the former chief economist at the International Monetary Fund, is the co-author of “13 Bankers.”

In the nation’s latest fiscal mood swing, the mainstream consensus has swung from “we must extend the Bush tax cuts” (in November and December 2010) toward “we must immediately cut the budget deficit.” The prevailing assumption, increasingly heard from both left and right, is that we already have far too much government debt — and any further significant increase is likely to ruin us all.

This way of framing the debate is misleading — and at odds with the fiscal history of the United States. It masks the deeper and important issues here, which are more about distribution, in particular how much relatively wealthy Americans are willing to transfer to relatively poor Americans.

To think about the current size of our debt, start at the beginning of the American republic. (For a very short history of United States government debt, listen to my conversation last weekend with Guy Raz of National Public Radio; we cover more than 200 years in about three minutes. For more detail, look up the annual debt numbers at Treasury Direct).

On the first day of 1791, the recently founded United States Treasury had nearly $75.5 million in outstanding debt. This was roughly around 40 percent of gross domestic product, a large amount of debt relative to the size of the economy — but not out of proportion to what we have become accustomed to in recent decades.

However, relative to federal revenues, the debt was enormous — about 20 times the amount that the government was then capable of taking in. In contrast, the total Treasury debt outstanding since 1950 has fluctuated between 30 and 90 percent of G.D.P., with the debt-revenue ratio never worse than 5 to 1 — and in recent decades between 2 to 1 and 3 to 1.

The debt-revenue ratio matters, as it is relevant to whether the country can readily service the debt. Very few countries default because they can’t afford to pay their debts, either to their own citizens or to foreigners. Defaults occur when the political process in a country determines that, for whatever reason, the government cannot raise sufficient revenue.

At the beginning of the American republic, this was the central fiscal fight – primarily whether Alexander Hamilton would succeed in imposing a tariff on imports as a way for the federal government to raise revenue and thus, among other things, create a way to “fund” the debt (meaning cover the interest and, over time, pay down the principal). The tariff revenue fight was nasty and drawn out, pitting North against South in a way that would generate resentment and friction throughout the 19th century.

After losing repeated votes in the House of Representatives, Hamilton eventually prevailed – part of a larger deal with Thomas Jefferson and James Madison that was very much about who would pay what amount to create and sustain the new federal government. That debate was also focused on the kind of federal role the political elite wanted to achieve.

Once this political deal was done, United States government obligations moved quickly from widely reviled status to being perceived as relatively safe. Fiscal mood swings go both ways.

The main difference between the debate then and now is with regard to spending. In the early 1790s — and again after the Civil War, World War I and World War II — the spending surge had already taken place and the issue was how to move the government into surplus and bring down the debt.

Previous fiscal debates in the United States have therefore very much been about the distribution of the tax burden within a pro-growth system, and this again needs to be atop our political agenda – that was one reason I opposed extending the Bush-era tax cuts. In addition to this traditional issue, we are now confronting more directly than ever the question of redistribution that takes place through government spending.

In “Growing Public: Social Spending and Economic Growth Since the 18th Century” (Cambridge University Press, 2004), Peter Lindert traced changes in attitudes and actions toward redistribution in the United States and other countries. The pendulum of opinion has swung many times, and the United States has followed a somewhat different path than other relatively rich countries.

Now we find ourselves again about to debate the fundamental Hamiltonian questions: At the federal level, who will pay how much, to whom and for what, exactly?

Most of our government spending, now as always, goes to wars and transfers to relatively poor people and to older people. The military spending will come down — if we can end the wars (as we did in the past). The social transfers were constructed in a more open-ended fashion — and our long-term budget forecasts account for this form of future spending in a more transparent and more honest way than we do for the probability of future wars or financial crises.

The real budget debate is not about a few billion here or there – for example, in the context of when the government’s debt ceiling will be raised. And it is not particularly about the last decade’s jump in government debt level. Although this has grabbed the headlines, it is something that we can grow out of (unless the political elite decides to keep cutting taxes).

The real issue is how much relatively rich people are willing to pay, and on what basis, in the form of transfers to relatively poor people — and how rising health-care costs should affect those transfers.

The consensus for Hamilton, Jefferson, Madison and their contemporaries was simple: No significant social spending was administered by the federal government. Professor Lindert estimates that social spending (including on “poor relief” and public education) in the United States even by 1850 was less than five-tenths of 1 percent of G.D.P.

We’ve come a long way since 1792, but the question is how far, exactly. What we should do is figure out the transfers we want to make and then agree on how to pay for them. But are we now willing to debate the real issues: taxes, health care costs and what kind of redistribution we think is fair and sustainable?

Article source: http://feeds.nytimes.com/click.phdo?i=992f5897ea1f31456a489f3c2e6eb1b9