Bleeding Out the Excess Humors: Government Spending and the Financial Crisis

In the first presidential debate last Friday, the moderator’s first question was addressed to John McCain: “[A]re there fundamental differences between your approach and Senator Obama’s approach to what you would do as president to lead this country out of the financial crisis?” McCain’s reply began as follows: “Well, the first thing we have to do is get spending under control in Washington. It’s completely out of control.” He soon added: “I’m going to veto every single spending bill that comes across my desk.”

Different viewers surely had different moments during the debate when their jaws dropped. Sen. McCain’s assertion that Pakistan was “a failed state” caused at least one knowledgeable commentator to drop a stitch. (Sorry for the mixed metaphor.) For me, though, it was that first answer about cutting government spending that left me staring in wonder. McCain’s comments indicated a complete disconnect from even the most basic understanding of macroeconomics and a mindless commitment to an orthodoxy that would make matters much worse. Perhaps worse still,

Sen. Obama did not — and arguably could not — say as much. While his comments were true as far as they went, Obama accepted McCain’s premise that we need to cut spending right now.

In two recent blog posts, Michael Dorf has pointed out that, even on its own terms, McCain’s proposed spending freeze would not actually cut spending and that government spending fails to explain either the origins of the housing crisis or how McCain could support the now-defeated rescue bill if he believes his own explanation. All true. The problem, though, is much more fundamental (to use one of Sen. McCain’s favorite words): cutting spending right now would be the worst thing to do.

Let’s put aside for now whether government spending is the culprit in getting us into this mess. (I don’t think that it is, but that’s irrelevant for now.) Let’s also put aside whether there are long-term fiscal imbalances that need to be addressed. (I strongly suspect that those problems are overstated, but I readily acknowledge that reasonable people can disagree.) The question that McCain and Obama addressed was what to do when one of them becomes president in less than four months. They said that we should cut government spending. This is utter foolishness.

One cannot, of course, do justice to the macroeconomics of deficit spending in one short blog post. Perhaps the most direct way to put the point is this: Cutting spending when the economy is already weak and getting weaker is like bleeding a dying patient. Consumers are scared, many are losing their jobs, and access to credit to buy things is drying up. We can thus expect consumption spending to weaken considerably. Businesses have lost access to credit and, more importantly, have lost any plausible reason to invest in expanding their businesses in the face of a potentially disastrous recession or even depression; so we can similarly expect business spending to continue to weaken. The rest of the world has caught our financial contagion, and most of our trading partners have seen their economies weaken significantly in recent months. Notwithstanding the tanking of the U.S. dollar, therefore, exports will not bail us out. State and local governments are already in the process of slashing budgets as their tax receipts shrink. The only pillars remaining to bear all the weight of propping up the economy are thus federal spending and tax cuts. (Tax cuts, as welcome as they would be for strapped consumers, are also less likely to be spent by people who are understandably scared about their immediate futures and who thus need to put as much aside as they can.) Yet the candidates say that the first thing they would do is cut federal spending. Let’s open another vein and see if the patient gets better!

The most generous thing one can say about this lunacy is that one or both senators is really against “wasteful spending,” not all federal spending. If so, neither even came close to saying so. Still, it is counter-intuitive but true that even wasteful spending is better than no spending at all when the economy is down. The scientist who receives a grant for studying the DNA of bears in Montana, after all, buys groceries and pays rent. I would be the first to say that we should always try to spend government money on non-wasteful projects (though I see no reason why the infamous bear DNA study is thought to be presumptively wasteful); but neither candidate is talking about keeping up the same level of spending by shifting funds from dumb stuff to smart stuff.

We will need a stimulus package, and we will need it soon. Yet neither party’s nominee (nor any of the other leaders in Washington) will say as much. Given that Sen. Obama leads the party that has traditionally been more open to the idea that at least temporary government stimulus is necessary, why did he at least not say something about the foolishness of cutting spending right now? Just as some people still like to blame Bill Clinton for the country’s problems, I blame him for this.

The essence of Clinton’s triangulation strategy was to accept his opponents’ critique of “old Democrats” and claim that there is a Third Way that accepts the wisdom of both sides and rejects their excesses. Sounds nice. In the case of government spending and deficits, Clinton’s strategy involved accepting the idea that government is bad and refusing to defend the important roles that government must play. While I suspect that Clinton understood that cutting spending in a situation like the one we currently face would be the height of folly, the reality is that his rhetorical stance undercut the ability of anyone in national politics to stand up for real fiscal sanity. If Sen. Obama had said: “You know what? Cutting government spending right now is the exact opposite of what we should do,” everyone would have been shocked. Republicans would have had a field day, and Democrats would have distanced themselves from his comments. (A congratulatory blog post from me probably could not save his campaign.)

In short, strategic capitulation on matters of principle comes with a price. Right now, the best we can hope for is that the next president will ignore the conventional wisdom (and his own words) and realize that an economy on its deathbed needs all the life blood it can get.

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1 Response

  1. Mike Zimmer says:

    Agreed, the talk of cutting government spending now is crazy, if meant to be taken seriously. It is part of the kant that takes the place of serious thought these days.

    We need many things. Behind the mortgage crisis is the fundamentally deeper credit crisis to most of Americans. With the average family credit card debt north of $9,000, most people, whether or not they participated in the subprime crisis, need higher incomes to maintain their present life styles. With most two adult families now including two wage earners and with credit capacity maxed out, change has to come by building the economy for the typical American. The size of the overall pie is important but just as important, and critical now, is the issue of the distribution of that pie.

    The far right wing has been very successful in getting Chicago School economics established as the prevailing wisdom. Thus, politicians say, in response to any problem, cut government spending, shrink the government, cut taxes (especially on the top of the economic pyramid). We need to renounce Chicago School economics and go back to Keynsian economics, as it has theoretically been advanced while in exile.

    Then, the idea of an active government role in the economy to do good for the American people, rather than the top 1%, can be reestablished and acted upon.

    I am agnostic about what to do about the present credit crunch and Wall Street collapse, other than to be certain that any plan advanced by the present administration is presumed to be worthless. But, in the longer run, the question of economic policy cannot be about cutting spending, lowering taxes, etc. It has to be about undertaking sensible government programs that will expand the incomes of most Americans in ways that move us positively toward a stronger future.

    The present ideology has about bankrupted us. It is time for a fundamental change. And that starts with rejecting every aspect of the Chicago School ideology.