Monday, April 12, 2010

The Politics of Deficit-Reduction

Does our political system have the institutional capacity to deal with the federal deficit? It doesn’t take a rocket scientist to sketch out the alternatives: (1) keep the per-capita revenues constant and impose draconian spending cuts; (2) maintain, or at least retard the growth of, per-capita spending levels and raise marginal tax rates enough (or introduce a new tax like a VAT) to make up the difference on the revenue side; (3) some combination of more moderate spending cuts and more moderate tax increases. In a multi-party parliamentary system, we’d expect eventually to see a government, either of a single centrist party or a coalition of less-centrist parties, form on the middle ground of alternative (3).

Our political system doesn’t push us as reliably in that direction. As Josh Barro suggests, the last two administrations haven’t offered a fiscally serious response to the deficit for the lack of a political incentive to get serious:

“Public realism hasn’t been helped by the last two administrations’ fiscal policies. The public is basically expressing the Bush Administration’s view of budgeting: i.e., that low taxes and high spending can coexist. Meanwhile, Obama has staked out the position that policy changes are fine so long as they don’t make the (already massive) fiscal gap larger. Most leaders are not yet demanding that Washington tighten its belt—so why should the public have come to terms with needing to give anything up? . .

[T]he path of least political resistance involves not touching spending and raising taxes on “somebody else,” whether that’s wealthy people, smokers, or some other disfavored group. Not coincidentally, that’s the path the Obama Administration has been following to date. But you can’t actually raise enough new revenue to close the budget gap by following this route, which is why the Admin is floating VAT trial balloons.”
Granted, we managed to deal with budgetary problems of substantially the same form in the 1990s by means of divided government. The Gingrich-Congress restrained the Democratic Party’s zeal to spend public money and the Clinton administration raised taxes and resisted draconian spending cuts to Medicare and other core programs. If you believe the polls, we may be heading toward divided government again. But a concatenation of special circumstances made it possible to solve our budgetary problems in the 90s of which three were especially important:

(a) The sudden end of the Cold War generated a “peace dividend” that hadn’t already been incorporated into the expectations of Republican and Democratic constituencies. That made the necessary spending cuts and tax increases less painful, and politically costly, than they otherwise would have been;

(b) The tech bubble in the late 90s generated another unexpected spike in public revenues that erased the deficit when the political contestants were concentrating on other things, like the impeachment of Bill Clinton;

(c) Ross Perot launched a third party presidential campaign in 1992 that arguably took enough votes away from the Republicans to get Clinton elected and generated enough popular support for budget-balancing to shift the course of the Clinton administration's first term away from a middle class tax cut and a program of Robert-Reich-style human capital investments to Robert-Rubin-style deficit reduction and to make balancing the budget into a central plank of Gingrich’s Contract With America after the "deficits don't matter" approach of the Reagan years.

Not only is the magnitude of our budgetary problems much bigger than the budgetary problems of the 90s, but there are no obvious analogues to the peace dividend and the tech bubble to cushion their political impact. Instead, we're facing a tepid recovery that would make it hard to satisfy entrenched voter expectations even if we weren’t facing a budget crisis. Moreover, the closest thing to the Perot phenomenon, the Tea Party movement, seems to have inherited Reagan Republicans' aversion to tax increases and big government.  Thus far, at least, it doesn’t look like it will open up the political space for a budgetary compromise.

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