According to some current economic thinkers, you have to wonder why we have any taxes at all.
Let’s say that in 2019, the U.S. Treasury Department had just issued $4.45 trillion in bonds.
That was the approximate size of the federal budget that fiscal year. Those bonds could have been purchased by banks. Thus, federal spending for the year would have been covered. Then the Federal Reserve Board could, in turn, have purchased those bonds from the banks and have given the banks a credit. The banks could then have made loans based on these credits. Thus, debt would be turned into credit.
Any resulting interest payments to the Fed could have been returned to the treasury.
This is called monetizing debt.
If this sounds like a crazy perpetual motion machine, that is precisely what it is.
But readers should take this thought experiment seriously for three reasons. First, because the Fed actually did engage in a similar process to inject liquidity into the financial system during the recovery from the 2008 recession. Then, it was called quantitative easing.
Second, there is now an increasingly influential school of economics that argues that a government issuing its own money—in our case, the dollar—need not be constrained in creating deficits because it can simply create more money to pay its debts. This movement is called Modern Monetary Theory. It favors such actions as monetizing debt.
Finally, with a deficit that has been estimated at $4.3 trillion this year, primarily because of temporary coronavirus spending and declines in federal tax revenue, something along the line of this thought experiment is about to actually happen.
Economists of all persuasions applaud the current increased level of federal spending as absolutely necessary to support the economy during the virus shutdown. But the hope of many of them is that when the crisis has passed, spending and taxes will be brought into alignment so that the federal budget can come closer to balanced over time.
As Maya MacGuineas, president of the nonpartisan Committee for a Responsible Budget, put it, “just as World War II was followed by years of fiscal responsibility to restore debt to historic levels, it will be important after the crisis and recovery to ensure that debt and deficits return to more sustainable levels.”
That is not going to happen.
The current irresponsibility with regard to the federal deficit really took off with the 2017 federal tax cut. As recently as the end of the Clinton years, the federal budget had been balanced. President George W. Bush unbalanced it with tax cuts and increased spending, in part domestic and in part on military operations in Afghanistan and Iraq.
Former President Barack Obama then added massively to the overall federal debt to support the economy during the 2008 recession and subsequent slow recovery. Nevertheless, the annual budget deficit actually fell during his administration. When Obama entered office, the recession had reduced federal revenue and the deficit reached $1.4 trillion. By the time Obama left office, the annual deficit had decreased to around $500 billion.
The decline in the deficit might have continued under the Trump administration, except for the 2017 tax cut.
That action was actually a double whammy for the deficit because the tax cut not only reduced federal revenue, but undermined and ultimately ended spending restraints that had been adopted after the 2008 recession. The result was ballooning deficits that reached $1 trillion even though the economy was booming.
The 2017 tax cut was defended by Republicans as paying for itself. That has always been the claim of supply side economics. But that old lie seems finally to have been discredited. I personally rented a billboard outside Erie that announced: “tax cuts threaten social security.” As the deficit grew, talk turned to “entitlement reform,” just as predicted. Instead of credit for the tax cut and the economy, Republicans suffered congressional losses in the 2018 election.
But the real threat to America’s future economic health is that the Democratic Party, chafing over years of Republican tax cuts, but fearing the political fallout from reversing them, has begun to embrace Modern Monetary Theory.
Stephanie Kelton, a senior economic adviser to Bernie Sanders is the public face of Modern Monetary Theory. That thinking is very likely to find its way into the 2020 Democratic Party Platform.
Even the Democratic Party establishment is poised to intentionally increase the deficit. Paul Krugman, a mainstream Democratic Party economist and New York Times columnist, tweeted on May 22, “Repeat after me: debt is money we owe to ourselves. It doesn’t make the nation as a whole poorer.”
Obviously, thinking like this is unsustainable. We don’t just owe the national debt to ourselves. We owe that debt to other countries and other people. In addition, those interest payments amount to almost 10% of the federal budget now. Just wait until the deficits grow. This already is beginning to impinge on federal spending.
Proponents of deficits act like interest rates will never go up and inflation will never return. When these things inevitably happen, it will be too late to suddenly change course. At that point, the bill from years of fiscal imprudence will come due.
But the real irresponsibility is the failure of proponents of larger deficits to set a number when deficits will get too high. If there really is no limit, then why have taxes at all?
Like the discredited theory of supply side economics, Modern Monetary Theory is, in its political manifestation, just more magical thinking.
American public life has become increasingly allergic to realism, from denying climate change to insisting, without evidence, on Russia collusion. We prefer scripts to reason. Thousands of Americans have now paid with their lives in this pandemic for our failure to carefully plan.
We are on the verge of having to deal with a new, and even more virulent threat to American prosperity that will dwarf the impact of the virus. And, unlike the virus, it will be a threat that we have created ourselves, in our own laboratory.
Opinion contributor Bruce Ledewitz teaches constitutional law at Duquesne University Law School in Pittsburgh. His work appears biweekly on the Capital-Star’s Commentary Page. Listen to his podcast, “Bends Toward Justice” here.