Feeling 1932 (updated, Aug. 1)

I’ve written already that the best deal on the debt ceiling would simply be to raise it (or better still, abolish it), without attaching it to a bill that punishes the economy further by slashing spending and/or raising taxes. The last thing this ailing economy needs is a Grand Bargain to reduce the current deficit. It was disastrous policy during the Great Depression — first by Congress and President Hoover in 1932, then by Congress and President Roosevelt in 1937. I would have thought those historic blunders would not be repeated, but I guess it’s always a mistake to assume that politicians know economics or history. But I’ve said all that before.

What I want to point out here is that we’re due for some ill-timed spending cuts (and maybe tax increases), regardless of what Congress does in the next week. Remember that $787 billion stimulus package that Congress passed in early 2009? It was spread out over two years, so roughly $400 billion a year, about $250 billion of which was spending and $150 billion tax cuts, almost all in 2009-2011. So that stimulus is just about “spent.” The main tax cuts, like extending the patch for the alternative minimum tax, will probably be maintained because they’re politically popular, but the spending almost surely will not. So that’s an abrupt drop of about $250 billion in government spending, or about 2% of GDP, over the next year. This chart from James Fallows’ blog for The Atlantic shows the projected big drop in fiscal stimulus from “Relief measures.” That’s the trouble with stimulus — it’s finite. Congress passes these things reluctantly, and if the economy still needs stimulating when it’s over, people are more likely to conclude that it failed rather than that it was too small (which it was) or that it spared us even worse devastation (which it did).

Now it is possible, perhaps even probable, that Congress will fail to pass any deficit-reduction deal and will end up raising the debt ceiling anyway — after all, that’s what’s happened virtually every previous time that a debt-ceiling vote has come up. But even if Congress ends up not inflicting any new wounds on the economy, we’re looking at big-time deficit reduction that will do plenty of damage on its own.

UPDATE, 1 Aug. 2011: Actually, it looks like it’s already happened. In the dismal GDP figures released last week, the government’s contribution to real GDP growth was negative 1.2 percentage points in the first quarter of 2011, with about two-thirds of the decline coming from the federal government. Government purchases account for about 20% of GDP, so cuts in government purchases reduce GDP. “Fiscal drag,” the economists call it. Federal government purchases fell 9.4% in the first quarter (the unwinding of the stimulus surely had much to do with this), and state and local government purchases fell 3.4%. (In the second quarter federal purchases rose 2.2% and state and local purchases again fell 3.4%.)

P.S. The title’s musical inspiration is forty years off and I’ve used it before, but hey, it’s a good song.

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4 Responses to “Feeling 1932 (updated, Aug. 1)”

  1. georgesblog360 Says:

    We get our heads spun around by media presentations of the Chicken and the Egg story. The endless spending/taxation paradigms just confuse the issue. Men try to create something out of nothing with fiat paper currencies. At some point, they are backed into a corner and make promises that they can’t keep. The lie that is the original debt becomes the monster that devours it’s creator. G. Edward Griffin’s excellent book, “The Creature From Jekyll Island” details the birth of the biggest threat to civil society ever created. This Frankenmoney is strangling the life out of economies around the world, not just in the United States. There are a lot of ways to describe the history. I put a lot of it into:

    http://georgesblogforum.wordpress.com/2011/06/26/land-wealth-vs-debt-promises-the-end-game/

  2. decidetodecideetc Says:

    Reading about a possible depression is too depressing to do. Maybe that’s why congressmen don’t do it? There are some of us who had parents who lived through the Depression, but in 30 years most of us will be gone, as our parents are, and then…?

  3. ‘The market is rational and the government is dumb’ « Blogging Through the Wreckage Says:

    […] supposedly compel further slashing. I think those things are time-tested recipes (the times being 1932 and 1937) for worsening a depression. What do the markets […]

  4. Sequester: We have been here before | Blogging Through the Wreckage Says:

    […] about $300 to $400 billion). It wasn’t much better — -0.34 points — in 2012. A problem with fiscal stimulus is that it’s temporary — if the patient doesn’t respond immediately, Dr. Congress […]

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