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Wednesday, April 13, 2011

Why we run federal deficits

An acute observation of our current political culture, also described aptly as "our cowardly Congress" by Nicholas Kristof.

In the 1980s and early 1990s, Washington antagonists executed a series of deals that included tax increases and spending reductions. But these days, due to a combination of utter Republican intransigence and Democratic wishy-washiness, no such deals are possible. The legislative and executive branches have no problem working together to massively increase deficits — think about 2009's uni-partisan stimulus package or the more recent bipartisan lame-duck to extend Bush tax cuts and enact a new payroll tax cut. But our government has an extremely difficult time making even symbolic spending cuts. Slashing about $40 billion in spending, an amount equal to 2.5 percent of this year's projected budget deficit, spurred the news networks to create shut-down clocks. And revenue enhancements? The phrase doesn't seem to be in official Washington's vocabulary. President Obama campaigned on letting the tax cuts for high earners expire at the end of 2010, swore up and down that he wanted them to expire throughout 2009 and 2010, and then meekly surrendered.

Second, even if Washington were somehow to get serious, I don't think the public is anywhere near prepared for the truth about our fiscal affairs. That's largely because nobody has bothered to tell the Americans that, as much as they feel overtaxed, the federal government, largely by design, has done an extremely poor job of collecting revenues in the past few years. That failure, as much as spending, lies at the heart of our massive structural deficits. Don't take it from me. Go to the OMB's website and check out Table 1.2, [see chart below]

Yes, the U.S. has a spending problem. But the federal government also has a serious taxing problem. As currently designed, the system does a poor job of collecting revenues. Receipts are unacceptably volatile. And all the political momentum is in the direction of reducing taxes. Now the size of the U.S. economy in 2010 was $14.66 trillion, which means one percent of GDP is equal to $146 billion. And so if federal taxes were anywhere near the normal rate of recent history — say at the 18.2 percent of GDP as they were as recently as 2006 — the deficit would be about $482 billion smaller than it is today.

Note how revenues and spending started to sharply diverge in 2000, around the time the Republican "no new taxes" mantra and Bush's massive tax cuts started punching a huge hole in the federal budget.

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