Reply to Brad DeLong: On the Fiscal Gap and Civil DiscourseCommentary by Laurence Kotlikoff
August 05, 2014
I’m writing to respond to your blog post. You, Paul Krugman, your readers and those of Paul Krugman seem rather upset by my factual statement that Paul is calling people names. I just received an email from a Hiram Rosenberg with the subject line, “You Are One Totally Dishonest Hack.” The email copies your blog, which starts out
OH DEAR. LARRY KOTLIKOFF FAILS TO READ…: LET’S MAKE THIS THIS WEEK’S MONDAY SMACKDOWN
No, Larry Kotlikoff, Paul Krugman does not think Paul Ryan is stupid. Paul Krugman does not write that Paul Ryan is stupid–he writes that Ryan “is a con man… his budgets were sold on false pretenses… magic asterisks claiming huge but unspecified savings from discretionary spending and huge but unspecified revenue gains from closing loopholes he refused to name.
Brad, we go back a long ways. I hired you out of grad school and tried very hard to keep you at Boston University. So I held and hold you in very high regard as an economist. But all this animosity can’t be good for the country. Economists need to set a professional tone and leave the insults and diatribes to Fox News and other such outlets.
Now you claim that I can’t read — specifically that I failed to read Paul’s column correctly and that you need to smack me down. This is beneath your dignity, Brad. I read Paul’s column as calling Paul Ryan stupid. No, he did not say so directly, but that seemed to me to be what he was saying. It still seems that way.
In defending Paul you say that the point of Ezra Klein’s quote (repeated in Paul’s column) is that Dick Armey is not an “honest, thoughtful, crackling-with-ideas type conservative… [with high] intellectual energy”, but rather something else, something else that presents a simulacrum of thoughtfulness that is convincing to stupid people.
Gee, Brad, someone who is not thoughtful or crackling with ideas and lacks high intellectual energy and has a semblance of thoughtfulness sounds to me like someone who could be called “stupid” (although I honestly don’t know what smart is if smart people like you and Paul are using the word stupid, which undermines your credibility and civility). So you seem to be reading Klein’s quote and the use of it wrt Paul Ryan in the same way that I did.
If Paul was trying to say that Paul Ryan was very smart, but something else that he didn’t like, he could easily have done just that. Instead, he winked at his readers with this construct. You shouldn’t be defending him on this.
Next you quote Paul’s calling Paul Ryan a “con man” because his budgets were sold on false pretenses … magic asterics claiming huge but unspecified savings from discretionary spending and huge but unspecified revenue gains from closing loopholes he refused to name.
This is truly overboard? Are you going to call Democrats “con men” for their budget forecasts? Budget forecasts that aren’t fully specified and are overly optimistic is the stock and trade of both parties. You know as well as I that the CBO is ordered by Congress to make ten-year budget forecasts that incorporate highly unrealistic assumptions. Indeed, in the past, the CBO, in projecting government spending, used to assume no adjustment whatsoever for inflation or real wage growth. This was and is a case of both parties conning the American public. Are you ready to call all members of Congress “con men?”
Brad, as your friend, let me recommend you get back to what you do best – economics, not politics. Paul can carry his own political water.
Now let me address your economic questions and points. I’m copying your seven questions in italics and answering each in turn.
(1) The CBO writes that the 25-year fiscal gap is “1.2% of GDP… the fiscal gap would be roughly 50 percent larger [i.e., 1.8% of GDP] over a 75-year period.” That is not large enough to be a huge problem: long-run deficit-reducing Reconciliation Bills larger than that have been routinely passed by Democratic Presidents Clinton and Obama and Republican President George H.W Bush (and large long-run holes have been blown in the fiscal gap by Republican Presidents Reagan and George W. Bush). Is there a reason to think a current-law fiscal gap like the one we have now is a huge problem?
Brad, the CBO has, as you should know, two forecasts. One is the Extended Budget Baseline, which makes very strong assumptions, which the CBO feels are highly unrealistic. The other, which the CBO views as realistic, is the Alternative Fiscal Scenario. According to the Alternative Fiscal Forecast, the fiscal gap over the infinite horizon is not 1.2 percent or 1.8 percent, but 10.5 percent of GDP!
I believe the fiscal gap numbers you and Paul are quoting are based on the Extended Budget Baseline. If you download the CBO’s Excel spreadsheet you will find the Alternative Fiscal Scenario in one of the tabs. It’s a simple matter to form the infinite horizon fiscal gap. If you’d like, I’ll send you my spreadsheet.
Now why am I focusing on the infinite horizon fiscal gap? The reason is economics’ labeling problem, which I’ve been writing about for years – most recently in this paper with Jerry Green, who you know is Harvard’s senior economic theorist. This paper shows that in any neoclassical model with rational agents official debt is not a well-defined economic concept. Instead, what we report to be the size of official debt depends on purely linguistic choices of what receipts to label as taxes and what receipts to label as borrowing. Since the cash flows of a country are not pinned down by economics, the fiscal gap over any finite horizon is also not pinned down, i.e., it’s a measure of our language, not our policy. The fiscal gap over the infinite horizon is, in contrast, language/label free and well defined. I.e., it will be the same number no matter the fiscal labeling being used provided the labeling is internally consistent.
The infinite horizon fiscal gap is easy to calculate if you simply use a fixed discount rate. Finding more appropriate risk-adjusted discount rate is a significant challenge. It’s one I’m actively researching. But the fact that the fiscal gap’s measurement is challenging doesn’t give us leeway to measure the wrong thing. If we lost our keys in the dark, searching for them under the street lamp isn’t going to help.
(2) The worrisome 25-year and 75-year fiscal gaps of 3.4% of GDP and 7.4% of GDP are found in the CBO’s alternative fiscal scenario–which assumes that future congresses will pass and future presidents sign laws that massively raise spending without covering the increased spending by raising taxes. But anything congress and the president do now cannot bind future congresses and presidents: all spending cuts now will do is increase the number of goodies in terms of spending increases and tax cuts that future politicians can decide to do when they decide to be irresponsible. Why then do you think we should pass spending cuts now?
Brad, I think you misstate the Alternative Fiscal Scenario. Here’s the CBO’s description:
“The extended alternative fiscal scenario, which incorporates the assumptions that certain policies that have been in place for a number of years will be continued and that some provisions of law that might be difficult to sustain for a long period will be modified, thus maintaining what some analysts might consider “current policies,” as opposed to current laws.
The CBO is saying the Alternative Fiscal Scenario (AFS) is, in fact, their best description of what will happen if current policies are maintained. Have you actually looked at their AFS projections? They don’t entail any significant increase in discretionary spending relative to GDP. What they assume is that revenues will rise a bit relative to GDP and that Social Security, Medicare, Medicaid, and Obamacare costs will rise due to aging and an historically quite small excess healthcare cost growth rate.
Why do I think we should cut spending now? I’m not advocating immediate spending cuts. I’m advocating radical structural reforms that I call The Purple Plans. These reforms would dramatically reduce the growth in spending and raise revenues as a share of GDP. If we don’t make adjustments now, the burden on children will be that much higher. Generational policy, as you know, is zero sum. Letting the current and near-term elderly consume more means subsequent generations will be forced to consume less.
(3) Since 1933 there has not been a single year in which the interest rate the U.S. government has had to pay on its debt has been higher than the growth rate of GDP. Since 1789–since the establishment of the Constitution–the interest rate the U.S. government has had to pay on its debt has averaged comfortably less than the growth rate of GDP. The right way to conceptualize the U.S. government debt, it seems, is not that issuing debt burdens future generations that must levy taxes to repay it. The right way, it seems, is that issuing debt attracts wealthholders who want to keep their money safe–that it is more a profit center for than a burden on the government. Why then–until the interest rate on the debt at least comes close to the trend growth rate of GDP–should we worry about the size of the national debt?
First the debt is not well defined as I discussed above. Second, as your co-author, Larry Summers and others have shown, the ability of a government to run a successful Ponzi scheme is not measured by a comparison of the growth rate and the safe rate of return. You are claiming our government can consume more or arrange older generations to consume more and that no one coming in the future will be worse off. I.e., you are assuming the feasibility of a successful Ponzi scheme. I know of no economist who has worked on this subject that thinks the conditions for such a scheme to work (which, again, aren’t those you reference) are satisfied.
(4) The imbalance in the federal government’s long-run accounts is more than 100% due to the fact that our health-care sector spends much, much more than the health-care sectors of other industrial countries. Isn’t there good reason to think that we will eventually–through some means–get our health-care sector back into line? And shouldn’t the policy focus therefore be on fixing the health-care system so it approaches the level of efficiency found in other countries, rather than on cutting other “entitlements?”
Please look at www.thepurplehealthplan.org. Its adoption would eliminate about half of the fiscal gap. So, no, saying that more than 100 percent of the fiscal gap is due to excessive growth in health care is incorrect. It’s a big deal, but not the whole story.
In my view, Larry doesn’t have terribly good answers to any of these four questions. They all are major weaknesses in and pose major problems for his shtick.
Brad, I think I’ve provided very good answers to what aren’t particularly good questions. They aren’t good questions because their answers have been well known for years and years. Your failure to absorb the answers doesn’t make them good questions.
But does he acknowledge any of these weaknesses and problems? No, he dodges them.
I didn’t dodge anything. This is being made up out of thin air. I’ve have been researching and continue to do research on the proper measurement of the fiscal gap. This paper with Steve Ross and Alex Blocker is an example. As you know, Steve is one of the top finance economists in the world. And this paper shows that we can now simulate large scale life cycle models that can be used to properly value government promises when markets are incomplete.
Does he explain what different views other economists have of the situation, and why they think these four questions raise issues that seriously undermine Kotlikoff’s point of view? No:
Brad, if you go to www.theinformact.org, you’ll see that 1,200 economists including 17 Nobel Laureates have publicly endorsed our government’s doing infinite horizon fiscal gap accounting. Please sign on as well and get Paul to do likewise. I think this website makes clear the views of mainstream economists. They realize that the labeling problem means we can’t take official debt numbers seriously. They also realize that infinite horizon fiscal gap accounting puts everything on the books and avoids the labeling problem. I wish I could understand your view of fiscal sustainability and its measurement. But I find your view at odds with basic economic theory. Indeed, it seems like a religious belief.
Larry Kotlikoff: The Government Should Report Its ‘Fiscal Gap,’ Not Just Official Debts: “HOUSEHOLDS can’t spend, on a continuing basis…
…more than they earn. Countries can’t either, at least not over the long run…. Dig deep into the appendix of the most recent Social Security Trustees Report, released on Monday, and you’ll find that the program’s unfunded obligation is $24.9 trillion ‘through the infinite horizon’… nearly twice the $12.6 trillion in public debt held by the United States government… True, Social Security benefits could be cut by Congress and the president. But so can official debt, as Argentina’s likely default reminds us…. Two weeks ago, the Congressional Budget Office… raised what’s called the alternative fiscal scenario, the most realistic projection…. I calculate that the ‘fiscal gap’… was $210 trillion last year, up from $205 trillion the previous year. Thus $5 trillion was the true deficit…. What we confront is not just an economics problem. It’s a moral issue. Will we continue to hide most of the bills we are bequeathing our children? Or will we, at long last, systematically measure all the bills and set about reducing them?
And this column of Kotlikoff’s raises three additional questions:
(5) The CBO’s Long-Run Budget Outlook already reports CBO estimates of fiscal gaps. In what sense do we need to start reporting it? Isn’t the CBO part of the government?
Brad, the CBO is not presenting an infinite horizon fiscal gap based on the Alternative Fiscal Scenario. Neither is OMB or GAO. The Inform Act requires they do so in order to make the public aware of the true magnitude of our fiscal insolvency.
(6) Is the “$210 trillion” you mention the same as the 7.4% of GDP fiscal gap reported by the CBO? If it isn’t the same, why and where do you disagree with the CBO’s analysis, and why do you attempt to invoke its authority? If it is the same, why not say so–and why not put it in perspective? After all, nobody can make anything of “$210 trillion” other than as a really big number, while “7.4% of GDP” tells the reader that the AFS has the government taxing 22.6% of GDP and spending 30% of GDP, right?
The $210 trillion figure is an infinite horizon fiscal gap, which is 10.5 percent, not 7.4 percent of GDP on an ongoing basis. The CBO is making 75-year fiscal gap calculations, which, due to the labeling problem, are, economically speaking, content-free.
(7) For the president and congress to, say, raise the Social Security retirement age or cut Medicare Advantage reimbursement payments to insurance companies does not bring on a financial crisis and a recession–which a government debt default does. Why say that the two are the same?
Were you and Paul properly educating the public about economics’ labeling problem as well as the fiscal gap, the growth in the fiscal gap — $5 trillion over the last year — could well cause a financial crisis. And, just to be clear, the economics labeling problem does not imply that all obligations are identical or that they should be valued in the present in the same manner. It does imply that any fiscal program can be labeled in a zillion ways. This paper, called Generational Policy, provides a lot of examples.