Let's get fiscal!

If you hear someone bitching about the current budget deficit, look them straight in the eye and tell them that they don't know what they are talking about!! This fine article by Aman Verjee covers material already presented on this blog. It does more than excuse the deficits, it solidly defends them.

September 21, 2004, 7:49 a.m.Defending the Bush DeficitsIt’s not hard to do if you look at the data. By Aman Verjee

Since President Bush took office in 2000, the economy has gone through at least three major shocks that were not of his making: a major terrorist attack that damped consumer confidence; the depression in business spending that followed the bursting of the stock market bubble; and a series of accounting scandals that afflicted some of the largest and most visible corporations in the United States.

Yet, the U.S. economy has outperformed that of every other G7 country since 2001. Today, the unemployment rate is at 5.4 percent, where it was in 1996 when Bill Clinton was re-elected. Clinton proclaimed in his State of the Union speech that year that the "economy is the healthiest it has been in three decades." In the last three quarters, since the 2003 tax cuts were enacted, the U.S. economy has been growing at a 5.4 percent annualized pace, which is the fastest clip we’ve experienced since 1984.

This remarkable record on the economy owes much to the pro-growth policies of the Bush administration. By reducing the tax code’s inherent penalties on work, saving, investment, and entrepreneurship, the administration has kept us out of a prolonged recession. Yet, critics of President Bush’s fiscal policies have argued that today’s record federal deficit, which will reach $445 billion in 2004, will cause long-term economic growth to flounder by pushing interest rates higher.

Like Chicken Little, who caviled because she mistook a tumbling acorn for a crashing sky, President Bush’s critics are unjustified when they foretell of an impending economic doom. Alarmists who worry about the historical heights to which deficits have climbed need to review the historical data for some context.

At the end of 2001, the federal debt held by the public of the United States stood at 33 percent of U.S. gross domestic product. That was the lowest it had been in 18 years. At the end of 2003, federal debt stood at 36 percent of GDP. It is currently projected by the Congressional Budget Office to reach 40 percent of GDP by 2005 before it begins to decline again.By historical and international standards, these levels of debt are very modest. For instance, the debt burdens of Germany and France are over 60 percent of GDP; in Japan, debt is almost 150 percent of GDP. In the United States, there have been 24 years since 1939 when the federal debt was below 36 percent of GDP. In 41 years, the debt has been higher. The president’s critics might suggest that economic growth should have been better in the low-debt years than in the high-debt years, but in fact, real GDP growth averaged 4.44 percent in the high-debt years and just 3.14 percent in the low-debt years.

To some extent, this divergence in growth rates can be tied to whether or not the country was at war. During war years, debt piled up quickly and economic growth was relatively robust. But the story is the same over a more restricted time horizon.

Indeed, we can look only at the years since 1963, which is when the debt fell to present-day levels for the first time since WWII. Since then, public debt fell to a low of 24 percent in 1974, rose to a high of 50 percent in 1993, and fell back to 33 percent in 2001. Economic growth during this period was higher in the relatively high-debt years, averaging 3.47 percent versus 2.59 percent. Unemployment was also lower in the high-debt years, averaging 5.65 percent as opposed to 6.43 percent in the low-debt years. And consumer price inflation was almost three-times higher in the low-debt years than in the high-debt years — 7.6 percent to 3.0 percent.

Looking back at American history, it is apparent that economic prosperity can continue even if the federal government maintains a debt burden that is much higher than it is today as a percentage of GDP.

Moreover, large budget deficits have never been a cause of — nor have they even been correlated with — the high interest rates or slow economic growth that deficit hawks predict. For instance, in the late 1940s and 1950s, the Truman and Eisenhower administrations practiced fiscal restraint, keeping taxes high (the top rate was over 90 percent) and paying down the federal debt. The result: four recessions between 1948 and 1961. Contrary to the expectations set by President Bush’s critics, real interest rates actually rose slightly during this period of fiscal restraint; the real, inflation-adjusted 10-year government bond yield edged up from 170 basis points in 1953 (when the 10-year was first issued) to 280 basis points in 1961.

In the 1960s, the federal government ran modest deficits while cutting taxes. In the 1980s, the federal government ran much larger deficits, while cutting taxes sharply and increasing spending. In both periods, economic growth was robust. In the 1960s, interest rates fell slightly; throughout the 1980s, they dropped dramatically, which is exactly the opposite of what the deficit Chicken Littles would predict.

The lesson is clear: Economic prosperity can continue even if the federal government never balances its budget. The greater threats to prosperity are high levels of taxation and regulatory barriers to growth. President Bush deserves our gratitude for having steered a fiscal course that has kept the economy on track.

— Aman Verjee, CFA, is editor of Thank You, President Bush, a new anthology from World Ahead Publishing. A Muslim raised in Canada, Mr. Verjee has taught economics at Harvard and is the co-founder of American Thunder, a NASCAR magazine.

Time to Dismount Your High Horses

Update: I've thought about this some more and worked with the numbers and have concluded that there are minor errors in my methodology. I don't think those errors will have a substantial effect on the results, but at this point, I'm not sure. I'll post a new entry with an update when I figure it out. The main problem is that I assumed an intercept at (0,0) for Adjusted Federal Expenditures versus GSP per capita which may not be correct. I guess I should get off my high horse too!

Update 2: I definitely need to get off my high horse. The data does show the effects of progressive taxation. Thus the rest of this post below is incorrect and should be ignored.

Andrew Sullivan links to a post on TaxProf Blog titled "Red States Feed at Federal Trough, Blue States Supply the Feed." It shows two tables which follow:

States Receiving Most in Federal Spending Per Dollar of Federal Taxes Paid:

1. D.C. ($6.17)
2. North Dakota ($2.03)
3. New Mexico ($1.89)
4. Mississippi ($1.84)
5. Alaska ($1.82)
6. West Virginia ($1.74)
7. Montana ($1.64)
8. Alabama ($1.61)
9. South Dakota ($1.59)
10. Arkansas ($1.53)

States Receiving Least in Federal Spending Per Dollar of Federal Taxes Paid:

1. New Jersey ($0.62)
2. Connecticut ($0.64)
3. New Hampshire ($0.68)
4. Nevada ($0.73)
5. Illinois ($0.77)
6. Minnesota ($0.77)
7. Colorado ($0.79)
8. Massachusetts ($0.79)
9. California ($0.81)
10. New York ($0.81)

The States in bold letters in the top table tend to vote Republican and the States in bold letters in the bottom table tend to vote for Democrats. The general idea is that the top ten states in terms of federal spending per federal tax dollar are being subsidized by the bottom 10 states.

There are many possible implications, almost all of them negative towards middle America and Republicans. Indeed, Andrew Sullivan writes "A new study reveals just how welfarist much of Middle America is" regarding TaxProf's post. Sullivan's post with this derogatory comment can be found in the entry "Bush's Conservatism".

But before we get carried away about welfare queens in middle America and evil Republicans screwing states that vote Democrat, we should consider if maybe there is a perfectly straightforward explanation for the data. It turns out that there is.

First, let's imagine what a perfectly fair system of federal expenditures and taxation might look like. In such a system, each state would receive identical per capita federal expenditures, including government contracts, entitlements, etc. In other words, if a state had twice as many people as another, it would get twice as much federal spending as the other.

On the tax side, it's a little tricker. In some sense, for perfect "fairness", if a state has twice as many residents, those residents should pay twice as much federal tax. Under this scenario, every man, woman, and child would pay about $5,000 in taxes per year, regardless of income or wealth. However, this would require that the poor (and children) pay a far, far higher percentage of their income and wealth in taxes, in some cases greater than 100%. This is extremely regressive and very few people would consider that to be fair.

A less regressive structure would be a flat tax and/or consumption tax. Then everybody pays the same percent of what they make or consume. In this case, the total federal income tax paid by the residents and businesses within that state would be very close to a constant percentage of the State's total income (or of a closely related measure called Gross State Product). That's still much more regressive than our current tax system. Nonetheless, it seems quite fair for each state to pay an equal percentage of it's Gross State Product.

In the following table, I've shown by State, the Gross State Product Per Capita and Adjusted Federal Expenditures Per Dollar of Taxes. After the table comes my analysis.

State	2001 Gross State Product ($ millions)	2000 Population	Gross State Product Per Capita ($)	Adjusted Federal Expenditures Per Dollar of Taxes by State
Alabama	121490	4447100	27319	1.61
Alaska	28581	626932	45589	1.82
Arizona	160687	5130632	31319	1.20
Arkansas	67913	2673400	25403	1.53
California	1359265	33871648	40130	0.81
Colorado	173772	4301261	40400	0.79
Connecticut	166165	3405565	48792	0.64
Delaware	40509	783600	51696	0.85
Florida	491488	15982378	30752	1.00
Georgia	299874	8186453	36631	1.01
Hawaii	43710	1211537	36078	1.52
Idaho	36905	1293953	28521	1.34
Illinois	475541	12419293	38291	0.77
Indiana	189919	6080485	31234	0.99
Iowa	90942	2926324	31077	1.22
Kansas	87196	2688418	32434	1.14
Kentucky	120266	4041769	29756	1.46
Louisiana	148697	4468976	33273	1.44
Maine	37449	1274923	29374	1.31
Maryland	195007	5296486	36818	1.20
Massachusetts	287802	6349097	45330	0.79
Michigan	320470	9938444	32245	0.90
Minnesota	188050	4919479	38226	0.77
Mississippi	67125	2844658	23597	1.84
Missouri	181493	5595211	32437	1.32
Montana	22635	902195	25089	1.64
Nebraska	56967	1711263	33289	1.19
Nevada	79220	1998257	39645	0.73
New Hampshire	47183	1235786	38181	0.68
New Jersey	365388	8414350	43424	0.62
New Mexico	55426	1819046	30470	1.89
New York	826488	18976457	43553	0.81
North Carolina	275615	8049313	34241	1.07
North Dakota	19005	642200	29594	2.03
Ohio	373708	11353140	32917	1.02
Oklahoma	93855	3450654	27199	1.47
Oregon	120055	3421399	35089	1.00
Pennsylvania	408373	12281054	33252	1.08
Rhode Island	36939	1048319	35236	1.06
South Carolina	115204	4012012	28715	1.32
South Dakota	24251	754844	32127	1.59
Tennessee	182515	5689283	32080	1.24
Texas	763874	20851820	36633	0.92
Utah	70409	2233169	31529	1.14
Vermont	19149	608827	31452	1.12
Virginia	273070	7078515	38577	1.47
Washington	222950	5894121	37826	0.91
West Virginia	42368	1808344	23429	1.74
Wisconsin	177354	5363675	33066	0.87
Wyoming	20418	493782	41350	1.05

Assuming you agree that fairness would require each State get the same per capita federal expenditure and each State should pay an equal portion of it's Gross State Product in federal taxes, then we might expect some sort of relationship in the data between Gross State Product per Capita and Adjusted Federal Expenditures. In particular, we might expect poor States with low GDP to pay a lower per capita amount in taxes (even though taxed at the same flat rate), yet receive the same federal expenditures per Capita. This would cause the Adjusted Federal Expenditures measure higher for such states. Indeed, this is exactly what happens. The following table shows the correlation between the two last columns in the previous table:

Correlation Between Gross State Product per Capita and Adjusted Federal Expenditures

	Correlation Coefficient	Correlation Coefficient Squared
All States	-0.62	0.38
Excluding Outliers (Alaska, Maryland, Virginia)	-0.76	0.58

The square of the correlation coefficient corresponds to the fraction of the variation of one column that is explained by (or correlates with) the other column. The sign of the correlation coefficient (not squared) tells us if it us a positive or negative relationship.

Sure enough, excluding outliers, 58% of the differences of Adjusted Federal Expenditures can be explained by the differences in per capita income between the States. I've excluded Virginia and Maryland because they border D.C., and do get more federal expenditures than would be expected using the Gross State Product model. I've excluded Alaska because it is an extreme outlier and it has low population and Gross State Product. To leave it in would allow it to substantially skew the results even though it represents a minscule amount of federal expentitures and taxation. That same argument could be made to exclude other small population states such as North Dakota and Hawaii, which would also, it turns out, increase the correlation. But I left the rest of the small States in.

Gross State Product (column 2) comes from the Bureau of Economic Analysis, State Population comes from the census bureau, and Adjusted Federal Expenditures comes from The Tax Foundation (this is what TaxProf linked to). Unfortunately, the data for the various columns are for slightly different years. However, all of this data varies slowly so it is unlikely to have materially changed the result.

So if 58% of the differences in Adjusted Federal Expenditures is explained by Gross State Product per Capita, what about the other 42%? Well, The Tax Foundation lists other possibilities and I'll comment on each.

One factor affecting rankings is that federal spending on defense and other procurement dollars are often funneled to the states of powerful members of congress. Also, state governments can grab more federal grant money by manipulating their spending to comply with federal regulations.

Well, maybe so, but they don't happen to mention which states those might be so I have no way of checking. Funny that the list these first when clearly they are a minor effect at best.

Another factor is demography. States with more residents on Social Security, Medicare and other federal entitlements tend to rank high.

Once again, maybe, but if you look at the data, states you might think likely candidates for this effect such as Florida and Arizona, don't seem to be out of line.

Similarly, high spending levels in Virginia, Maryland and the District of Columbia are explained by the predominance of federal employees.

This one is clear and that is why I eliminated Maryland and Virginia from the mix.

Finally, states with higher incomes per capita%G—%@such as Connecticut%G—%@pay higher federal taxes per capita thanks to the income tax's progressive structure, which increases federal taxes per dollar of federal spending received in return.

But as I've shown, even if the taxes were flat instead of progressive, most of the differences are explained anyway. It's not clear to me that the "progressive" portion of the taxation makes much difference at all.

The Tax Foundation doesn't mention randomness. Sheer chance is going to introduce some differences in Adjusted Federal Expenditures. In other words, the chance that every state has identical Federal Income per capita is zero. In fact, chance could possibly explain all of the rest of the differences.

Anyway, for those on their high horses who see vast republican conspiracies to bleed the blue states for the benefit of the welfarist red states, I think it's time to dismount.

Never Mind

I've given up trying to convince people to vote for Kerry. His campaign has, in my opinion, been poorly run, and I'm not interested in investing energy in something that's not reasonably well done. In addition, the Bush hating left has made it even worse as David Frum explains:

In politics as in retailing, you never argue with the customer. If the polls are accurate, the American people perceive George W. Bush as a upright and honorable man. On the other hand, they don't much like his economic policies, and they worry that he may be too much of a risk-taker in foreign affairs.

A smart political operation would work on those pre-existing weaknesses. It wouldn't waste time trying to convince an incredulous public that the genial likeable man they see on television is in reality the reincarnation of Adolph Hitler.

This is exactly the problem. I've heard so many people on the left exclaim how stupid everyone is who doesn't realize that Bush is worse than Hitler. Maybe, but it's at least as stupid not to focus your efforts on exploiting Bush's existing weaknesses instead of berating swing voters for not hating him. The Bush hating left has now set the stage to make it very, very difficult for Kerry to come back.

Fact Checking the Denver Post

In an article titled "Taking stock of GOP's revolution" the author writes:

The party of business has presided over less-than-stellar growth, even with Republican Alan Greenspan chairing the Federal Reserve Board. Thanks mainly to the recession of 2001, the growth in gross domestic product since 1994 (an average of 5.16 percent) has not matched that of the preceding 10 years (6.9 percent) or the 10 years before that (10.2 percent).

Looking at the growth rates, they looked like nominal, not real, GDP growth rates. So I emailed the author:

Dear Sir:

I have some questions regarding your article "Taking stock of GOP's revolution" from the September 26, 2004 issue of The Denver Post. In it you write:

"the growth in gross domestic product since 1994 (an average of 5.16 percent) has not matched that of the preceding 10 years (6.9 percent) or the 10 years before that (10.2 percent)."

If I'm interpreting this correctly, the following table is equivalent:

Period GDP Growth
------ ----------
1974-1983 10.20%
1984-1993 6.90%
1994-2004 5.16%

Yet when I look at the Bureau of Economic Analysis' (www.bea.gov) "Historical Gross Domestic Product estimates." (http://www.bea.gov/bea/dn/gdpchg.xls) the numbers in the above table seem to correspond to NOMINAL growth, not REAL growth. The REAL growth averages for the periods would be:

Period GDP Growth
------ ----------
1974-1983 2.26%
1984-1993 3.33%
1994-2003 3.27%

Were you using nominal growth and, if so, don't you think that using that measure instead of real growth significantly distorts the picture because nominal growth is boosted tremendously by inflation which was very high in the 1970s and has been much lower the past ten years?

Thanks,
Bret

The author did respond with what I consider to be a rather lame response:

A very good point Bret. Thanks for writing. jack

Clearly not much interest in fixing the article. At least he admitted the error. Not that the admission of error will do anyone any good who has read the article. They'll remain mislead by this incorrect factoid.

It's getting to the point where I won't even read the main stream media (MSM) anymore. Too many errors, most of which go uncorrected.

Afghanistan Revisited

Here's a report from a NY Times reporter (Peter Bergen):

Based on what Americans have been seeing in the news media about Afghanistan lately, there may not be many who believed President Bush on Tuesday when he told the United Nations that the "Afghan people are on the path to democracy and freedom." But then again, not many Americans know what Afghanistan was like before the American-led invasion. Let me offer some perspective.

This summer I visited Kandahar, the former Taliban stronghold in southern Afghanistan, for the first time since the winter of 1999. Five years ago, the Taliban and its Al Qaeda allies were at the height of their power. They had turned Afghanistan into a terrorist state, with more than a dozen training camps churning out thousands of jihadist graduates every year.

The scene was very different this time around. The Kandahar airport, where I had once seen Taliban soldiers showing off their antiaircraft missiles, is now a vast American base with thousands of soldiers, as well as a 24-hour coffee shop, a North Face clothing store, a day spa and a PX the size of a Wal-Mart. Next door, what was once a base for Osama bin Laden is now an American shooting range. In downtown Kandahar, the gaudy compound of the Taliban leader, Mullah Muhammad Omar, now houses United States Special Forces units.

As I toured other parts of the country, the image that I was prepared for - that of a nation wracked by competing warlords and in danger of degenerating into a Colombia-style narcostate - never materialized. ...

The last paragraph is most interesting to me and introduces the rest of the article. I think things are going better there than the main stream media has generally led us to believe. And I think that time is the single element that allows such countries to move toward modernity. Every day that Afghanistan doesn't collapse into chaos is a day of tiny incremental progress.

I think the same is true of Iraq as well. We may need to be involved in helping them with secuity and other issues for years or even decades. But every day they avoid civil war is a day closer to stability and prosperity.

Why Kerry?

The primary reason I'm voting for Kerry is that it looks to me like the country is in a solid trend towards becoming more conservative. There are more republican congressmen, senators, and governors than 20 years ago. I'm not sure why. I (and others) have hypothesized that it's due to lower birthrates among liberals, but it could very well be for a totally different reason. No matter what the reason, I'd like to slow that trend down. That's primarily why I'm voting for Kerry.

He could still easily win it as of this writing. Those who put real money on the line (tradesports or the presidential futures markets) show Kerry with about a one in three chance of winning. That's still a pretty close contest. If he stays on message and does reasonably well in the debates, he could win, perhaps even solidly.

Right now Kerry is hammering on the Iraq war issue. I think that's an excellent move. That's the one issue that I've found has the most potential to sway swing voters. Clearly, a vote for Bush is a vote for more invasions and more war. Relentlessly pointing that out is Kerry's best tactic. It's also honest and forthright - after all Bush proudly states that he will continue taking the war to the terrorists. Conveniently for Kerry, not everybody thinks that's such a great idea.

Other than staying on message, I think one other thing the Kerry campaign ought to do is muzzle Ms. Heinz-Kerry. I've heard many people say that they think she's awful. Keeping her out of the media can only help.

Bad Keyboard

The damn double-u key is sticking on my keyboard. That means I'll have to vote for Kerry because I 'on't be able to refer to the other guy! Unfortunately, that's one of the best reasons I've come up 'ith so far to vote for him. But it'll do.

I'll post some better reasons tomorro'.

Democrats Are Dying Off

The United States is becoming more conservative. This trend has perhaps started decades ago and it seems to me that it has accelerated in the last four years. We're near a threshold where the Democrats may never again hold a majority in Congress and may rarely, if ever, hold the presidency.

I believe the country is becoming more conservative primarily because of changes in populations and because of the ideologies that lead to those changes in populations. The bottom line is that Democrats don't have as many children as Republicans. Also, the concept that teenagers rebel and do the opposite of their parents is a mostly a myth. Thus, every year, more Republicans are born than Democrats. For example, consider the following:

I think a lot of the answer can be found in birth-rate differentials -- demography is destiny. To put it bluntly, in the name of "empowerment," the Left has birth-controlled, aborted, and maybe also gay-libbed itself into a smaller role in American society. Yes, it was their personal-is-political choice, but others will benefit politically. We might consider, as just one example, what's happened to New York City. In 1973, the Big Apple had a population of about eight million; the population of the United States overall was 211 million. In 2004, the Apple was still at around eight million, but the country's population, in the meantime, had increased by nearly two-fifths. It's not automatically a bad thing for a population to stay stagnant -- unless, of course, the goal is to wield power through the ballot box.

What's shrinking New York and other yuppoid places is the paradoxical impact of prosperity upon fertility. Nationwide, some 44 percent of women aged 15-44 are childless; but those childlessness numbers skew above average in high-income states such as Massachusetts, Vermont, and Colorado. By contrast, the lowest percentages of childless women are in downscale states such as Alaska, Mississippi, and Wyoming. In other words, those who have the most capital -- financial, but also, often, intellectual and educational -- are the least likely to have children.

This phenomenon -- yuppie singles and couples walking down what is literally a demographic dead end -- is witnessed across the Western world. [...]

One who saw all this coming was Charles Galton Darwin; his 1952 book, The Next Million Years, argued that human history is first and foremost the story of populations. As he wrote, "The fundamental quality pertaining to man is not that he should be good or bad, wise or stupid, but merely that he should be alive and not dead." That is, underneath all the concern about the pursuit of happiness and the promotion of the general welfare is one unyielding bottom line: either the population reproduces itself, or it doesn't. [...]

And so the more recent Darwin offered a grim prediction: the future of the world belongs to illiberal religions. Or, if you prefer, conservative religions, including not only Christianity, but also Islam and Hinduism. How come? Because those faiths that emphasize traditionalism, including traditional sex roles, are more likely to be procreative. In modern countries, feminists are free to be feminists, but if they don't have feminist children -- which is to say, boys and girls who sustain the "free to be . . . you and me" philosophy -- then the politics of the future will be shaped by those hands that do, in fact, rock the cradle -- after putting a baby inside.

And that's what's been happening. The right-to-life movement, and the social conservative movement overall, is more than holding its ground. As The Wall Street Journal observed in an August 30 news story, states that might have once been thought to be solidly Democratic for John Kerry are, instead, "in play." And why is that? Because the population-blossoming parts of the state are Republican. As the Journal explained, "Minnesota's Scott County outside the Twin Cities; St. Croix County outside Eau Claire, Wis.; and Deschutes County around Bend, Ore." are the places where the vote-ducks are to be found.

The idea that the Gopher, Badger, and Beaver states, and their 25 electoral votes, might be in play for a Texas Republican fighting a foreign war would seem absurd to the anti-war liberals and hippies who once dominated state politics. But maybe those lefty folks aren't around any more. Nearly four decades after the sit-ins of the 60s, ex-radicals are more likely to be staging die-offs -- their own. And oh yes, they forgot to have children. The future belongs to the fecund.

A Second article gives further supporting statistics:

In states where Bush won a popular majority in 2000, the average woman bears 2.11 children in her lifetime -- which is enough to replace the population. In states where Gore won a majority of votes in 2000, the average woman bears 1.89 children, which is not enough to avoid population decline. Indeed, if the Gore states seceded from the Bush states and formed a new nation, it would have the same fertility rate, and the same rapidly aging population, as France -- that bastion of "old Europe."

If Gore's America (and presumably John Kerry's) is reproducing at a slower pace than Bush's America, what does this imply for the future? Well, as the comedian Dick Cavett remarked, "If your parents never had children, chances are you won't either." When secular-minded Americans decide to have few if any children, they unwittingly give a strong evolutionary advantage to the other side of the culture divide. Sure, some children who grow up in fundamentalist families will become secularists, and vice versa. But most people, particularly if they have children, wind up with pretty much the same religious and political orientations as their parents. If "Metros" don't start having more children, America's future is "Retro."

Unless these trends change, the United States will become very conservative over the next decades. The rest of the world will follow as more conservative strains of Islam and other religions maintain high birth rates. My primary reason for supporting Kerry is to slow the rapidity of becoming conservative. I think that it's all but inevitable that the trend continues. I guess I should have had more children...