The Agenda

Economics 21 on Jackie Calmes Economic Policy Memo

My Economics 21 colleagues have published a reply to Jackie Calmes of the New York Times, who recently made the case for a new round of fiscal stimulus:

Over the weekend, Jackie Calmes penned an “economic memo” in the New York Times that was critical of conservatives’ opposition to tax increases. The piece relied on selective quotes from conservative economists, sell-side forecasters, and some academics to undermine the basic conservative approach to fiscal policy. The piece suffers from two main flaws: (1) it suggests a consensus where none exists on the potential benefits of near-term stimulus; and (2) it treats all forms of revenue increases the same, despite the dramatic differences in economic consequences and the potential revenue gains from the economic growth unleashed by broad-based tax reform.

Calmes makes a number of reasonable observations, and she represents the views of Martin Feldstein fairly, though of course without useful context, e.g., Feldstein offered a very different vision for fiscal stimulus in early 2009 that was very much in tension with the final design of the 2009 fiscal stimulus law. 


Mr. Feldstein, who was chairman of President Reagan’s Council of Economic Advisers, was among the first in 2008 to call for stimulus spending and recently has advocated raising revenue. He would do so by limiting “tax expenditures,” the costly tax breaks for corporations and individuals that include the mortgage-interest deduction — an idea recommended in December by a majority of Mr. Obama’s fiscal commission and lately by the president.

“I think Republicans should recognize that is a way of raising revenue without hurting incentives by higher marginal tax rates,” Mr. Feldstein said.

It is also worth noting that as CEA chair, Feldstein had a reputation as an independent voice who made pronouncements that were at times in conflict with the White House political agenda.

To no one’s surprise, Calmes’s analysis has been embraced by a number of left-of-center observers, who see it as the kind of truth-telling reporting that we need, i.e., the kind of reporting that eschews a false he-said-she-said balance and instead makes an effort to adjudicate claims advanced by various experts critically. Consider the passage immediately preceding Feldstein’s remarks:

Of course, Republicans can point to support among some conservative economists. John B. Taylor, a professor at Stanford and an adviser to Republican presidents and presidential candidates, said in an interview that temporary stimulus measures were counterproductive, and for long-term debt reduction, “I would try very hard to make it work without revenues.”

But Mr. Feldstein …

This suggests that the views of Taylor and Feldstein are very much in tension, which is of course true in at least some regards, e.g., I suspect that the two men have sharply different views on monetary policy. But if were to carefully parse the work of Taylor and Feldstein, we might yield somewhat different conclusions. Consider that Feldstein, who really did advocate a big fiscal stimulus, backed a strong focus on defense expenditures. I addressed this subject in June, when I quoted Feldstein’s 2009 criticisms of ARRA:


As for the “stimulus” package, both its size and structure were inadequate to offset the enormous decline in aggregate demand. The fall in household wealth by the end of 2008 reduced the annual level of consumer spending by more than $500 billion. The drop in home building subtracted another $200 billion from GDP. The total GDP shortfall was therefore more than $700 billion. The Obama stimulus package that started at less than $300 billion in 2009 and reached a maximum of $400 billion in 2010 wouldn’t have been big enough to fill the $700 billion annual GDP gap even if every dollar of the stimulus raised GDP by a dollar.

In fact, each dollar of extra deficit added much less than a dollar to GDP. Experience shows that the most cost-effective form of temporary fiscal stimulus is direct government spending. The most obvious way to achieve that in 2009 was to repair and replace the military equipment used in Iraq and Afghanistan that would otherwise have to be done in the future. But the Obama stimulus had nothing for the Defense Department. Instead, President Obama allowed the Democratic leadership in Congress to design a hodgepodge package of transfers to state and local governments, increased transfers to individuals, temporary tax cuts for lower-income taxpayers, etc. So we got a bigger deficit without economic growth. [Emphasis added]

How might Taylor have reacted to a large-scale defense modernization program, premised on the understanding that an increase in spending on military equipment now would be balanced against a decrease in spending on military equipment over the next decade? One could argue that this policy position is at an angle to the debate over fiscal stimulus as such, as the kind of fiscal stimulus Feldstein criticizes doesn’t necessarily imply lower spending on social welfare, etc., over a longer period. The premise behind fiscal stimulus is that it will jumpstart the economy, increase employment levels, and reduce the need for social transfers in the medium- to long-term. Another possibility, often raised by conservatives, is that at least some social transfers, including unconditional grants to state and local governments, might instead float unsustainable social spending. 

This is a subtlety that seems worthy of note, and that might complicate Calmes’s portrait of an economics profession largely united around the case for additional fiscal stimulus: if effective fiscal stimulus means something markedly different to Feldstein than it does to his counterparts on the center-left, that might make the intra-conservative divide less pronounced.

And it’s not obvious to me that Taylor would object to the idea that if revenue increases are indeed necessary, they should be pursued through the curbing of tax expenditures. The real divide, per Taylor’s “I would try very hard line,” seems to be a political divide. In essence, Taylor and Feldstein seem to be disagreeing about what should be the conservative negotiating position going into 2012, when the president will have the discretion to allow $2.8 trillion in revenue increases by simply allowing the 2001 and 2003 tax cuts to expire. One stance is that conservatives should concede that revenue increases are necessary, and negotiate over the scope of revenue increases. This view might reflect the belief that if we don’t embrace revenue increases now, with some degree of conservative buy-in, we might get sharper revenue increases at some point in the future, if the relative political strength of conservatives somehow deteriorates. 

Another view is that conservatives should seek to negotiate from a position of greater strength. That is, a long-term fiscal consolidation might indeed require some concession on revenues at some point in the future, but that conservatives should only agree to said concession in exchange for meaningful concessions on entitlements, e.g., bipartisan embrace of a premium support Medicare system with a public option. We are fairly far from that political settlement now, and conservatives might reasonably conclude that now is not the time to make a preemptive concession, particularly when the concessions from the other side are measures like cutting provider payments and raising the Medicare eligibility age, provisions that actually might make the Medicare system work less well in the near-term, potentially undermining the political case for deeper reform. 

Though I had been more inclined towards the former view in the past, I am increasingly persuaded that the latter view is more sound. The gap between my take and that of most conservative politicians is that I’d be inclined to preserve some wiggle room on this issue. But it is easy to see why conservative politicians take strong stances on tax increases: explicit opposition to tax increases is a powerful heuristic for primary voters, while the case for wiggle room is, frankly, a compound case that depends on some level of mutual trust that can only be built over time. 

Economics 21 places heavy emphasis on the potential stimulative impact of a well-designed tax reform:

As Glenn Hubbard explains in a recent op-ed in the Wall Street Journal, tax reform is the best step government could take now to promote economic growth. Hubbard cites recent public finance research that finds broadening the tax base and sharply lowering marginal tax rates can raise gross-domestic-product growth by a half to a full percentage point per year over a decade. Each year, OMB includes in its Analytical Perspectives a chart (p. 23) measuring the sensitivity of the deficit projections to changes in economic growth. A sustained 1 percentage point increase in GDP for ten years is likely to reduce the deficit by $3.2 trillion over ten years, with $2.8 trillion in higher revenues and $350 billion in lower spending due to higher levels of employment and less social welfare spending. This faster growth comes from less distortions to economic decision-making, lower marginal rates on income to reduce the government’s share of additional work, savings, investment, and the confidence generated by greater certainty with respect to the future of fiscal policy.

This is an important point for conservatives to keep in mind. 

Naturally, I’d like to see congressional conservatives unite around a tax reform plan. Realistically, it is easy to see why they’d be reluctant to do so, as any well-designed plan would effectively punish some constituencies while rewarding others. This is part of why congressional Democrats have been so reluctant to advance substantive proposals of their own, choosing instead to directly attack, and to attack via proxies in the news media and various activist organizations, various Republican proposals. 


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