The Congressional Budget Office always re-estimates the President’s budget.  Not that they don’t trust the President’s budget analysts at OMB, but, you know…they’re the official scorekeepers.  When you work in the White House, as I did, you quiver a bit at the specter of an unfavorable CBO score, one that says, e.g., “OMB said the debt would go down under its budget; we say it will go up.”

Well, here’s a case of the opposite result.   As the figure reveals, the CBO scores the President’s budget to reduce the debt ratio even faster than the projections by the President’s own budget analysts at OMB.

Why?  I’m not sure yet but will let you know.  It doesn’t seem to be that CBO has better economic assumptions, as GDP grows about the same amount in both forecasts (though OMB has faster growth up front and slower growth later).  And just to inject a bit of reality into the discussion, it’s awfully hard to see the path by which this or any of the other budgets out there becomes law any time soon.

But the WH can legitimately make the case that through a balanced package of tax increases on those at the top of income scale, spending cuts, and measures to help control the growth of health care costs, they get the debt ratio headed in the right direction.

So sayeth CBO.

Sources: CBO, OMB

Got questions about any of the stuff we talk about here–unemployment, automation, jobs, full employment, income inequality, budgets, trade, taxes, state policies, minimum wages, growth economics, health care, Europe, financial markets, romance, great music?

Submit your questions in the comments section, and I’ll post a video responding to a bunch of them in the next few weeks.  Usual charges apply (i.e., none).

Here’s my comments:

A tale of two debts: Bob’s book is a very rich one, and I’m just pulling out one theme here, though it’s one that’s central to the book: there’s good debt and bad debt.  Economists and policy makers pretty fundamentally misunderstand the difference, which is one reason we’ve fallen prey to a) a massive housing bubble inflated by reckless leverage from which we’re still recovering, and b) austerity regarding public debt which is prolonging the recessionary damage here and in Europe.

Note the policy perversity driven by our inadequte understanding of these different aspects of debt: we allow bad debt to tank the economy, and we refuse to apply good debt to fix it.

“Good debt” serves at least two functions.  Through private debt markets, it provides investment capital to borrowers who will put excess savings to productive use, and through public borrowing, it offsets private slumps through Keynesian measures.

“Bad debt” is harder to identify.  Debt-financed “speculation” can’t be the answer.  That goes on all the time.  Bob’s got a great quote in the book from Edward Chancellor: “”The line separating speculation from investment is so thin that it has been said both that speculation is the name given to a failed investment and that investment is the name given to a successful speculation.”

As I see it, a key to bad debt is what I think of as underpriced debt, or more fundamentally, underpriced risk.  When an economy gets that price wrong, bad things happen.

So a good way to avoid some of the pitfalls Bob documents is to think about what leads to risk being underpriced and how we can prevent it.   Bob spends considerable time thinking about and reflecting on periods in history when financial market regulation worked a lot better than it does today, leading him to an insight that I consider fundamental: the best way to avoid moral hazard is to not get to a point where you have to invoke it to avoid a prolonged recession or worse.

Clearly, the problem with putting debtors in prison is that they can’t pay back even part of their loan once they’re in jail.  But the problem with debt forgiveness is moral hazard: if debtors can costlessly default, then many will do so and debt markets will collapse.  Bob’s book is in no small part an illuminating tour through ways in which economies throughout history have struggled with this dilemma.  And one of his noteworthy, if unsurprising, conclusions is through stringent oversight.

What does that mean in practice?  Here’s a handy list of practices that underprice risk and are thus targets in preventing bad debt build-ups:

–non-transparency: when financial instruments and sub-markets (shadow sectors) are poorly understood, the risks they engender are also misunderstood.  So, when finance CEOs themselves readily admitted that they didn’t really understand the stuff their traders were fooling around with, that was a bad sign.

Now, you might well argue that since humans are generally thought to be risk averse, when they don’t understand something like a synthetic CDO, they won’t screw around with it, right?  Actually, wrong.  Go read your Minsky: as expansions mature, risk aversion flips.  As John Cassidy put it, when it comes to financial markets stability is destabilizing…go figure.

–Securitization: It’s a fine thing in terms of generating liquidity to package and recirculate debt, but only if at least two criteria are met.  First, the credit rating agencies must reliably rate the quality of securitized debt, and two, lenders need to always have some skin in the game.  Absent those criteria—Bob reminds us of IBGYBG loans (broker one to broker two: “by the time this note comes due, I’ll Be Gone, You’ll Be Gone, so why worry?”)—securitization can lead to underpriced risk.

–Too much easy money printed by the Federal Reserve: I tend to support Fed monetary stimulus and have worried much more about the central bank choking off growth based on the phantom menace of inflationary spirals.  But I put this in here because it’s probably the most common view as to why risk has been underpriced.  Many observers incorrectly believe that the Fed is stoking the shampoo cycle (“bubble, bust, repeat”).   How can I brazenly say “incorrect?”  Read the book.

–Income inequality and wage stagnation: When inequality creates a wedge between the economy’s growth and the paychecks of lower- and middle-income people, the only way for them to get ahead is by borrowing.  When that demand collides with the supply of credit flows suffering from the flaws just noted, risk is underpriced and bubbles inflate.

So, fix all of those, and the likelihood a bad debt accumulation is much diminished.

Finally, reading Bob’s anti-austerity message at a time when budget deficits are contracting sharply led me to wonder: do those of us who inveigh daily about the damage of austerity measures right now believe that deficits matter at all?  Is there no time when we should worry about fiscal imbalances?

I’d be very interested in Bob’s thoughts on this [listen to them at the end of the video] but I’ll offer two right here:

–First, a higher debt level means we’re more exposed to interest rate spikes.  That’s not a reason to avoid higher debt in downturns, especially given the lower interest rates that accompany periods like this one.  But it is a motivating factor for lowering your stock of publicly held debt in recovery.

–Second, you don’t want your debt/GDP ratio to be perceived by policy makers as “too high” at the end of an economic expansion, because when the next recession hits, it will need to go higher.  So you want to get to a lower perch, as it were, in the recovery so you’re well positioned for the debt ratio to go up, as it must in a downturn.

Falling energy costs drove the slide over the last few months–core inflation, which exlcudes volitile food and energy, has been declerating more slowly.  Also, gas prices have reversed course over the last week or so.

But the message here is that the underlying economy remains considerably weaker than you’d know about if you just tracked the stock market and corporate profits.  Low inflation at a time like this also slows down the deleverging process regarding household debt, since higher prices erode nominal debt burdens.  At any rate, I’m sure the Fed is watching and I suspect and hope that if this continues, they’ll push out their plans for unwinding their monetary stimulus.

Source: BLS

–While the pugilistic Joe Kernen was disappointed to hear it, I stand second to no one in condemnation of the IRS’s alleged targeting the applications of particular groups.  The President’s obvious anger on this point in his statement yesterday was completely appropriate.

–But woe betide us if we stop there.  IE, if we make this scandal only about rogue actors in the agency and whether it reached the administration, we will miss the glaring impossibility of what we’re asking the IRS to do in these cases, which is to implement completely incoherent tax law.

On this point, all you need to know is that organizations with this status (501(c)(4)’s) that spend 50.1% of their time on political activities vs. “educational” ones are in violation of the law; those that spend 49.9% are not.  We’re asking the IRS to use a razor blade to slice a completely fuzzy line.

In that sense, the agency was and remains wholly justified in carefully scrutinizing these applicants.  But they must do so without a fat thumb on the ideological scale, and that’s where they appear to have gone badly wrong.

–Note the question I posed to the panel: can anyone here justify tax exempt status for any of these political organizations?  How does that tax break, which includes suppression of donor’s names, make America a better place?  Not only did no one have an answer, but Michelle Caruso-Cabrera agreed with me, and that’s rare!

Update: The NYT ed page very effectively elaborates points I made above.

WaPo: The obvious economic story is that AI reduces the need for human labor, so the demand for it falls and wages fall in turn. Do you buy that?

…People are being put out of work because of automation and we don’t notice it, so we argue about other stuff. We argue that education levels are too low, or that we’re coddling people on unemployment and we just need to cut them loose. These are all old issues that aren’t ultimately about what’s really happening. This is all going to happen slowly enough that we’ll keep arguing until we realize that something new is going on.

…the best explanation [for declining employ employment rates since 2000], I think, is that automation is starting to put people out of work, and make the economy more capital and less labor-intensive than it used to be.

The challenge for Drum and others, including myself, is that there’s not really much in the way of evidence.  Most of the weak employment outcomes with which we’re currently stuck are cyclical.  The structural problem of robots and software replacing workers is largely at the level of anecdote.  True, the plural of anecdote is data, but we’re not there yet.

What about productivity growth and its split with employment growth, as featured here?  Yep, I think that’s important and has led me to believe that this question of automation and employment bears close watching.  But as Dean Baker likes to point out, productivity growth has slowed in recent years (though not as much as employment).

The figure plots annual productivity growth with a HP filtered trend in there to smooth out bips and bops.  The post 1995 acceleration is clear, but so is the recent deceleration.  This would seem to challenge at least simple linkages between accelerating labor-saving technology (I also looked at total factor productivity, which nets out not just labor inputs but capital inputs as well, so what’s left over represents technological advances in production—it’s jumpy but, if anything, has also slowed of late—see John Fernald’s work on this).  Neither is there evidence of much capital deepening in terms of firms’ investments over the period when productivity and employment diverged.

As I like to stress, history is littered with Luddite predictions of labor-saving technology displacing workers.  Instead, it has typically come to pass that the new technology, while often deeply disruptive, brought its own new labor demands along with it.  As Drum stresses, and I agree, there’s reason to believe that this time might be different, but at this point the evidence is largely anecdotal.

Source: BLS, my calculations (HP trend, lamda=100)

In fact, they did look into this before:

On balance, CBO and JCT estimated, repealing the ACA would affect direct spending and revenues in ways resulting in a net increase in budget deficits of $109 billion over the 2013–2022 period.

Your tax dollars at work, America.

I’m linking here to the uncensored version which has a few mild curse words.  EG, in splitting with her boyfriend, she says (I think) that she put his sh__ in a bag and threw it down the stairs.  In the clean version on the radio, she says she put his socks in a bag, etc.  Which doesn’t have quite the same punch.

For full effect, play it loud!

And yes, that’s also the bad news.  The damn thing is coming down too fast given the still weak economy.  Moreover, both deficits and debt start to grow again later (see figure below).  So the deficit is falling quickly when it shouldn’t be and rising later when it shouldn’t be.

Certainly, if facts drove the day, this update would be a fire hose for the hair-on-fire austerity crowd re the near-term deficit.  The patient is checking out of the hospital while Drs Cantor, Ryan, and McConnell are still preparing for major surgery.

What’s driving these trends?  Near term, it’s revenues up, outlays down…which is what you’d expect as the recession recedes in the rearview mirror (an infusion in payments from Fannie and Freddie also helped).  Also, and this is important: relative to their February projection, the budget office has shaved $85 billion off of Medicare’s expected growth, 2014-23, of which only $10bn is sequester, and $77bn off of Medicaid.  And, of course, there’s been about $2.7 trillion in deficit savings legislated so far, mostly (70%) through spending cuts.

Longer term, even with the recent improvement in the pace of health care costs, we still face pressure from the intersection of our aging demographics and health care spending.  To bend those curves at the end of the figure, we’ll need to keep up the pressure on health costs as well as boost our revenues.  Cuts alone won’t do it.

It would be nice if policy makers looked at the figure below and recognized that we need less austerity now and more health savings/revs later.  But that would mean spraying water on their flaming heads, and that can be kind of uncomfortable.

Source: CBO

The problem wasn’t that the agency scrutinized these so-called “social welfare” organizations—as I’ll emphasize in a moment, tax law in this area is an accident going out to happen.  It’s that they violated neutrality, investigating conservative groups by searching on “tea party” and “patriot.”

Republicans will of course try to pin this on the President, despite the fact that since Nixon used the IRS to target his enemies, the president’s been barred from even discussing this kind of thing with the agency.

No, the problem here isn’t the president.  It’s the Supreme Court’s Citizen United decision and subsequent tax law written by Congress that gives these groups tax exempt status (under rule 501(c)(4)) as long as most of their activities are primarily on educating the public about policy issues, not direct campaigning.

Of course, the ambiguities therein are insurmountable.  Many of these groups, especially the big ones, spend millions on campaign ads mildly disguised as “issue ads,” and under current law they can do so limitlessly and with impunity.

According to today’s NYT:

The tax code states that 501(c)(4)’s must operate “exclusively” to promote social welfare, a category that excludes political spending. Some court decisions have interpreted that language to mean that a minimal amount of political spending would be permissible. But the I.R.S. has for years maintained that groups meet that rule as long as they are not “primarily engaged” in election work, a substantially different threshold.

Nowhere do the rules specify what “primarily engaged” means…

Again, I see no way that a government agency could fairly interpret and enforce these instructions.  What is “primarily engaged”–at which point does an issue ad cross the threshold into campaign ad—what kind of “education” is GPS Crossroads providing and how is it promoting “social welfare?”

Weirdly, the IRS hasn’t seemed particularly interested in going after the big fish here, like Rove’s Crossroads GPS on the right or Priorities USA on the left.  Instead, they appear to have systematically targeted small fry on the far right.  If so, not only is that clearly biased and unacceptable—it’s also ridiculous given the magnitude of the violations of tax exempt status by these small groups relative to the big ones.

At the end of the day, we should really ask ourselves what societal purpose is being served here by carving out special tax status for any of these groups.  If anyone can show me any evidence that the revenue forgone is well spent, that these groups are making our political system and our country better off, please do so.  If not, then no one’s saying shut them down—they’ve got a right to speak their minds.  But not tax free.