Cross-Posted at My Lwft Wing

Awhile ago, I had lunch with my Dad and a group of his friends.  All of the people there were the classic older Republican types.  I usually hold my tongue, but I just couldn’t resist when someone started talking about the government debt and I mentioned that Clinton was the only person to balance a budget in the last 30 years.  Boy were they pissed.  All I could think was “you guys want a balanced budget, but continue to vote for the party that doesn’t balance the budget, and instead creates the debt you complain about.” These are bright guys, but all I could think was what idiots.
Republicans have implemented supply-side economics for 17 of the last 25 years.  During the times when they have implemented their policies, Republicans have sunk this country into a mammoth amount of debt.  Their arguments used to justify this debt fail when compared to facts.  In addition, their claims that supply-side cuts increased tax revenue and GDP fail when compared to the facts.  In short, all their arguments fail.

 

Two Fundamental Flaw of Supply-Side Economics

Here’s the first problem with Supply-side economics.    It assumes the government will make a proportionate cut in spending — for every tax-dollar lost, the government will cut spending.  Good luck with this one.  Politicians – regardless of their party affiliation – will never proportionately cut spending.  In addition, Republicans love overspending on the military.  Every time a new Republican takes office, they give the pentagon a blank check.  Reagan and Bush II are classic examples of this.  How quickly they forget Eisenhower’s warning about the military industrial complex.

This is why Reagan’s great economic expansion increased the US debt from a little under 930 billion to 2.6 trillion.  Yes, he cut taxes.  He also increased defense spending from 134 billion in 1980 to 290.9 billion in 1988; a compound annual increase of 10% (from the CBO).  “But we won the cold war!”  Yes, we did.   When are we going to pay for it?  The debt Reagan created is still in circulation, accruing interest payments.  This leads nicely to the second problem with supply-side economics.

Tax cuts without a proportionate cut in spending creates a revenue shortfall.  To fund this shortfall, the government borrows money by selling Treasury bonds. According to supply side economics, the revenue shortfall will eventually be eliminated by the increased revenue from an expanding economy created by the upper class spending more of their money.  

The problem with this theory is US GDP has never grown fast enough to start paying-off Republican created debt.

Increasing National Debt Caused by Supply-Side Economics

As a result of fiscal irresponsibility, the Republicans have amassed a record of ever increasing debt.  According to the Treasury department:

Ronald Reagan started his term with total debt outstanding of 930 million and increased total debt outstanding to 2.7 trillion. This is a 13.71% compound annual increase.  He never balanced a budget.

Bush I started his term with outstanding debt of 2.7 trillion and increased total debt to 4 trillion. This is a 10.32% compounded annual increase.  He never balanced a budget.

Clinton started with total debt outstanding debt of 4 trillion and increased total debt outstanding to 5.6 trillion. This is a 4.2% compounded annual increase.  He balanced his last three budgets.

Bush II started with 5.6 total outstanding debt and increased total outstanding debt to 7.7 trillion. This is a 6.5% annual increase.  He has never balanced a budget.  

For 25 years the Republicans have held the presidency for 17 of the last 25 years. They have never balanced a budget and have increased total debt outstanding 11.69% in each year they have held the White House.

The Democrats have held the White House for 8 of the last 25 years. They have balanced the budget 3 times and increased total debt outstanding 4.2%.

Republican Arguments in Support of National Debt

Republicans have two primary arguments supporting this debt.  The first is that by using the capital markets, the US Treasury is either establishing US credit for future use or maintaining the US credit standard.  Essentially, the argument is that to have a credit rating, an entity must use its credit rating.  In literally every other case, this would be a correct argument.  However, the US national government is a unique economic entity. Let’s assume for a moment the US has no debt and the Treasury announces it wants to issue bonds.  How many people out there in finance think the US will get a credit rating other than AAA?  If you raised your hand, please do the financial markets a favor and find another job. There is no way the world’s largest economy and one if its most politically stable countries would have anything less than a AAA rating.  In other words, the US does not have to use it’s credit to obtain its credit.

The second argument used by Republican economists to justify this debt is to use the debt/percentage of GDP ratio.  They argue that a low debt/GDP ratio is good while a higher ratio is bad.  This argument is derived from a similar ratio in corporate credit analysis called the Total Debt/Total Assets ratio.  This ratio makes a great deal of sense in corporate analysis. If the company declares bankruptcy, the company’s entire asset based is put on the auction block and carved up according to rules in the bankruptcy code. However, on the macro economic level this ratio does not make sense because all of the US’ assets are not politically available to pay off the debt.  Assume for a moment the US government declares bankruptcy and Congress is forced to deal with the crisis.  Lobbyists from industry would start paying handsomely for exemption from whatever draconian legislation Congress passes to deal with the crisis.  Representatives would do everything in their power to exempt their favorite local cause and campaign contributors.  In short, the political will does not exist to actually place all US assets under the tax gun.

 

A better analysis is mostly derived from high-yield debt analysis called the EBITA ratio. It stands for earnings before interest, taxes and amortization of goodwill.  For those of you familiar with a standard income statement, this is roughly equivalent to operating income.  The purpose of this ratio is to determine the amount of money available to pay interest on the company’s debt.  At the national level, interest is non-discretionary national expense; if the government does not pay interest on its debt, it will go into default which would cause financial ruin for the country.  The Treasury will not let this happen.  As a result, the interest will get paid regardless of other spending programs.  According to the CBO, Interest is grouped with other non-discretionary expenditures, which in total comprise 53% of Federal Spending.  Regardless of its classification as discretionary or non-discretionary, interest payments total 17% of total 2004 revenues.  That’s a large amount of money from any standpoint.

Decreasing Tax Rates Increases Revenues

The theory of cutting taxes on the rich is this: by cutting taxes, people will feel wealthier.  This will make them spend more money and invest their new found wealth, increasing the total amount available for taxes.  As a result, taxes should actually increase.  Stirling Newberry performed a simple calculation to refute this contention.  He calculated Average Real increase in Payroll tax revenues per year, using GDP deflator, by term.  Here are these calculations: Reagan I 3.51%, Reagan II 4.94%, Bush Sr. 0.98%, Clinton I 3.75%, Clinton II 4.86% Bush I 1.68% (including his good year).  Clinton I increased taxes, yet his tax revenue increased almost as much as Reagan I.  Bush II cut taxes, and his tax revenue barely increased.  These numbers indicate that to increase tax revenue, the president should work to increase GDP, not increase the tax burden on the middle class.

Tax Cuts spur GDP growth

As mentioned above, the underlying theory of supply-side economics is tax cuts make people feel richer, spurring them to spend and invest their newfound wealth.  This spending, goes the theory, will increase GDP.  What supply siders fail to remember is an old Wall Street adage: never fight the fed:  When the Federal Reserve is lowering the discount rate, buy stocks because the economy will grow and when the Federal Reserve is increasing rates sell stocks because the economy will slow.  In other words, the cost of money directly affects the economy.   In addition, general economic reasoning states that an interest rate cut will start to affect the economy between 6-9 months after implementation.  

Here’s as example of the above ideas.  In 1980, the Federal Reserve dropped the discount rate from 12.94% in May to 10.17% in September.  The common economic wisdom states the earliest decreases would start to affect the economy 6-9 months after May, coming to fruition in November 1980- January 1981.  According to the Bureau of economic analysis, 4th quarter 1980 GDP growth was 7.6% and first quarter GDP growth in 1981 was 8.4%.  In other words, GDP growth grew when the economic wisdom dictated it would.

Reagan’s economy really took off in the first quarter of 1983, when first quarter GDP increased 5%.  Supply-siders will argue their tax cuts were responsible for this growth.  What they fail to mention is that starting in June 1981, the Federal Reserve started lowering the discount rate from 12% to 8.3% by year-end.  In other, once again the economy started growing about 6-9 months after the Federal Reserve started cutting interest rates.

The relationship between interest rates and economic growth is a solid direct relationship that existed before supply-side economics.  What the above data shows is at worst, interest rate cuts are just as logical an explanation for GDP growth.  At best, the interest rates are solely responsible for the growth.  Whatever the actual percentage, the old Wall Street adage still holds:interest rate policy is the prime determinant of GDP growth.

Conclusion

In short, every basic tenant of Republican economic thinking does not stand up to the facts.  In addition, alternate economic theories with a strong factual and theoretical basis provide answers just as viable as Republican theories.  Finally, these alternate theories have existed for far longer and proven themselves in fact far more often than the canard of Republican theories.

Republican economic thought is based on the oldest scam in the world: you can get something for nothing.  Republicans want all the advantages of citizenship – a judiciary to peacefully settle disputes, fire and police services, a transportation system to ship goods, an education system to provide an educated workforce and a military to defend the US – but they don’t want to pay their fair share.  These services which benefit us all cost money.  It is time to stop complaining and pay in a way that is fair to all.

Democrats do not want to tax people into oblivion.  But, we want those who have benefited from the services offered by the country as a whole to share the burden of paying for those services.

Discount Rate History

CBO Budget Data

Interest on National Debt

Stirling’s Calculations

GDP Table from BEA

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