Deficits OK if they get economy running

USA Today, February 17, 2003

President Bush has sent Congress a budget with a record $307 billion deficit for 2004, on top of a $304 billion deficit this fiscal year. Even Federal Reserve Chairman Alan Greenspan is worried about what he last week called "sobering" deficit projections - estimates that don't even include the cost of a possible war with Iraq.

Asked about the ballooning budget deficits, Glenn Hubbard, chairman of the president's Council of Economic Advisers, said deficits are neither good nor bad. "What matters is what you're doing with the money," he said.

Hubbard is right. The issue isn't the size of the deficit but what the deficit is used for. And that's precisely the problem with the president's budget: The Bush administration is doing the wrong thing with the money. It's cutting taxes on wealthy people so they'll have more money to invest. It should be cutting taxes on middle- and lower-income people so they'll have more money to spend.

The American economy faces two very different problems, one short term and the other long term. The short-term problem is that there's not enough demand for all of the goods and services America can produce right now. A lot of cars, appliances and airline seats are going unsold. The long-term problem is there may not be a large-enough supply of goods and services to meet the needs of Americans a decade from now. Baby boomers, for example, will need a boatload of health care and retirement support.

The short-term-demand problem has to be fixed before the long-term supply problem can be addressed. No rational company will invest in new machines or inventions until it knows consumers will buy it. But the White House wants to tackle supply before demand.

You can see the demand-side problem all around us. U.S. factories are now running at three-quarters capacity. Companies won't buy new machinery when they have equipment to spare. Meanwhile, more than 8 million Americans are unemployed. Another million are too discouraged even to look for work. We're in the worst hiring slump in almost two decades. Consumers, deep in debt and worried about keeping their jobs, are likely to pull in their belts.

Consumers in other nations won't fill the gap. Europe is slipping into recession, Japan is flat on its back, and Latin America is shaky. The prospects of war in the Middle East and Korea are making everyone nervous.

Under these circumstances, it's perfectly OK for the government to spur demand by running deficits. When government outlays exceed revenues, the economy gets the extra kick it needs. Once the economy is healthy again, the deficits can be repaid.

Cutting the taxes of people with moderate and lower incomes would create the most useful deficits. They'll spend the extra money, and their spending will get the economy moving.

Rich people, though, won't spend extra money they get from a tax cut. They already spend what they want to. That's what it means to be rich.

The fastest way to put more money into the pockets of people with moderate and lower incomes is to temporarily cut their payroll taxes. Four out of five workers pay more in payroll taxes than they do in income taxes. Exempt the first $20,000 of income for a year, and the typical worker would gain more than $1,000.

And since employers wouldn't have to pay their share, they'd have an extra incentive to keep more people on their payrolls.

But this isn't what the president wants to do. The fact is, the president's budget isn't really intended to spur demand. It's designed to deal with the long-term problem of inadequate supply, starting 10 years from now, when boomers begin to retire.

The boomers will have the political clout to get the health care, Social Security and other subsidies they need. They'll also be living longer than today's retirees. How will America be able to support this large aging population, especially with a relatively smaller workforce? Only with an economy capable of producing much more than it can produce today.

Supply-siders believe the best way to achieve this long-term goal is to cut taxes on wealthy people, even if deficits balloon. With lower taxes, the wealthy will have more money to invest in factories, equipment and new inventions. The result - presto! - will be a bigger and more productive economy.

Are supply-siders correct? It seems doubtful. We tried supply-side economics in the 1980s. Taxes on the wealthy were cut while military spending grew. By 1990, we had massive budget deficits and a near-comatose economy.

Besides, there's no reason in a global economy to suppose the rich will invest in America. Money flows wherever around the world it can get the best return.

Over the long term, the United States will be a good place to invest only if Americans have the education and skills they need to be highly productive participants in the global economy.

The supply-side debate won't be settled any time soon. The good news is, it doesn't have to be. The most urgent task is to solve today's demand-side problem. The best way to do that is to cut payroll taxes on average working people. The Business Roundtable, Democratic presidential contender John Kerry and a number of Republicans agree with me on this issue.

Big deficits aren't bad if they're used to get the economy back on track. And we need to get it back on track before we try to make it run faster.