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US Fiscal Problems
APPENDICES
Jeffrey Frankel
Senior Executive Fellows, February 25, 2013
Appendices
• I: American “fiscal conservatives”
are (mostly) not fiscal conservatives.
• II: Role reversal in Emerging Markets
• III: The long-term U.S. debt problem
– (1) Where did today’s deficits come from?
– (2) What will drive deficits in the future?
• IV: The medium-term outlook
Appendix I: 3 pieces of evidence to support
the claim that US “fiscal conservatives” are not:
• (i) The voting pattern among the 258 Congressmen
who signed an unconditional pledge not to raise taxes:
– They had voted for more spending
than those who did not sign the pledge. [2]
• (ii) The pattern of spending
under different presidents.[3]
• (iii) The pattern of states whose Senators win pork
& other federal spending. [4]
•
•
•
[2] William Gale & Brennan Kelly, 2004, “The ‘No New Taxes’ Pledge,” Tax Notes, July.
[3] JF “Snake-Oil Tax Cuts,” EPI, Briefing Paper 221. 2008.
[4] JF Red States, Blue States and the Distribution of Federal Spending, 3/31/2010.
(ii) Spending & deficits both rose sharply when
Presidents Reagan, Bush I, & Bush II took office.
Vs. the 1990s: The Shared Sacrifice approach succeeded in eliminating
budget deficits, importantly by slowing spending.
Spending and Budget Balance(inverse) as % of GDP (Current US$)
15
Budget deficit
24
13
22
11
20
9
18
7
ρ = 0.86
5
16
1
G.W. Bush
W.J. Clinton
R. Reagan
G.H.W. Bush
10
Spending
-1
-3
1977
1978
1979
1980
1981
1982
1983
1984
1985
1986
1987
1988
1989
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008 Est
2009 Est
2010 Est
12
J. Carter
14
3
Spending/GDP
Budget Balance/GDP
Source:
OMB
(iii) States ranked by federal spending received
per tax dollar
versus party vote ratio in preceding election
“red”
states
“blue”
states
big inflow of US $
Republican states take home
significantly more federal $
(relative to taxes paid)
than Democratic states.
low inflow of US $
Historic
Role Reversal:
Appendix
II: Historic
Role Reversal:
Public finances in Emerging Markets
have become much stronger since 2000
even while weakening in advanced economies.
World Economic Outlook, IMF, April 2012
Other advanced countries have the same long-term problem as the US:
Rich countries’ Debt/GDP is the highest since the WWII spike.
US debt > big EMs
but < some other advanced countries
http://www.marketobservation.com/blogs/media/blogs/Statistics/DebtGDP.jpg
Remarkable role-reversal
in fiscal policy among Emerging Markets
• Debt/GDP of rich countries (> 90%) is now
three times that of emerging markets;
=>
•
Some EMs Economies are now more creditworthy
than some Advanced Economies
• as reflected in credit ratings or sovereign spreads.
9
Country creditworthiness is now inter-shuffled
“Advanced” countries
AAA Germany, UK
AA+ US, France
AA
Belgium
AA- Japan
A+
A
ABBB+ Ireland, Italy, Spain
BBB- Iceland
BB+
BB
Portugal
B
SD
Greece
(Formerly) “Developing” countries
Singapore, Hong Kong
Chile
China
Korea
Malaysia, South Africa
Brazil, Thailand, Botswana
Colombia, India
Indonesia, Philippines
Costa Rica, Jordan
Burkina Faso
S&P ratings, Feb.2012 updated 8/2012
Another indication of improved EM creditworthiness:
EM sovereigns used to have to pay higher interest rates
than many US corporates (BB), but now pay less.
World Economic Outlook, IMF, April 2012
Cyclicality of
Fiscal Policy
In the textbooks, benevolent governments are supposed to
use discretionary policy to dampen cyclical fluctuations,
expanding at times of excess supply, and
contracting at times of excess demand.
But in practice, …
Governments would raise spending in booms;
and then be forced to cut back in downturns
Copyright Jeffrey Frankel,
Another respect in which many EMs
have improved their policies
since the crises of the late-1990s:
A shift from pro-cyclical fiscal policy to counter-cyclical
• They took advantage of the 2002-07 boom
to strengthen their budget positions,
• allowing them to run deficits
when the global recession hit in 2008-09.
• Some examples:
– China was able to respond with big stimulus.
– Chile, Korea, Malaysia, Botswana, Indonesia.
Correlations between Gov.t Spending & GDP
1960-1999
Adapted from Kaminsky, Reinhart & Vegh, 2004,
“When It Rains It Pours”
procyclical
Pro-cyclical spending
countercyclicall
Countercyclical
spending
G always used to be pro-cyclical
for most developing countries.
Correlations between Gov.t Spending & GDP
2000-2009
procyclical
Frankel, Vegh & Vuletin (2011)
countercyclical
In the last decade,
about 1/3 developing countries
switched to countercyclical fiscal policy:
Negative correlation of G & GDP.
To summarize the fiscal role reversal,
• Many Emerging Markets countries have,
so far this century, achieved:
– Lower debt levels than advanced economies;
– improved credit ratings;
– lower sovereign spreads; and
– less pro-cyclical fiscal policies.
Most Emerging Market countries learned
from the debt crises of the 1980s & 1990s.
But many leaders in advanced economies
failed to do so.
• They thought it could never happen to them -• most notably, leaders of euroland,
– even after the periphery countries
violated the deficit & debt ceilings
of Maastricht and the SGP;
– And even after the Greek crisis hit in late 2009 .
But Reinhart & Rogoff remind us: sovereign default
is an old story, including among advanced countries –
This Time is Different, updated in “From Financial Crash to Debt Crisis,” 2010
Sovereign External Debt: 1800-2009
Percent of Countries in Default or Restructuring
50%-
1830s
1870s
1930s
1980s
Sources:
Lindert & Morton (1989), Macdonald (2003), Purcell & Kaufman (1993), Reinhart, Rogoff & Savastano (2003), Suter (1992), and Standard & Poor’s
(various years). Notes: Sample size includes all countries, out of a total of sixty six listed in Table 1, that were independent states in the given year
Carmen Reinhart & Kenneth Rogoff
found a growth threshold in Debt/GDP of 90%.
GDP
growth
Debt/GDP
< 90%
MoneyHoney blog, Feb.20, 2010
‘Growth in a Time of Debt’
The historic role reversal
• Debt levels among rich countries (debt/GDP ratios > 80%)
by 2008 reached twice those of emerging markets.
• Some emerging markets have earned credit ratings
higher than some so-called advanced countries.
• Over the last decade some emerging market countries
finally developed countercyclical fiscal policies:
• They took advantage of the boom years 2003-2007
– to run primary budget surpluses and cumulate reserves.
• By 2007, Latin America had reduced its debt to 33% of GDP,
– vs. 63 % in the US.
– And so were able to respond to global recession of 2008-09 .
20
The Greek budget deficit
never got below the 3% of GDP limit,
nor did the debt ever decline toward the 60% limit
21
Appendix III:
The Long-term US debt problem
• (1) From where did today’s debt come?
• (2) What will drive debt in the future?
– The problem is not budget deficits
in the next few years.
– The problem is the far larger increases in
entitlement programs based on current promises.
As of 2000, Debt/GDP had been on a
declining path. What changed?
(1) From where did
today’s debt come?
$13 trillion in 2011 debt,
relative to 2001 official projection
}
Wars in Iraq &Afghanistan (so far)
}
Bush tax cuts (which were
supposed to expire in 2011)
}
Over-optimistic economic
assumptions in 2001, e.g., growth rate
Source: The Great Debt Shift:
Drivers of Federal Debt Since 2001,
Pew Charitable Trust.
Fiscal stimulus {
in response to
the recession
accounts for < 1/3
of 2009-11 deficits
and has virtually
disappeared by now.
{
Obama
stimulus
CBPP, May 2011
Budget deficits have declined since 2009.
Jan. 2013 fiscal cliff:
Letting the Bush tax cuts expire
on schedule would have stabilized debt/GDP
CBPP, May 2011
(2) The long-term problem
Appendix IV: The medium-term outlook.
GDP growth forecasts (percent)
Euro-recession is pulling down growth.
The US is doing better.
Emerging Market growth is slowing too, but solidly >0.
World Economic Outlook, IMF, April 2012
After 3 years, the U.S. in 2011
finally achieved its pre-recession level of GDP
13,600
Real GDP
(billions of chain-type (2005) dollars seasonally
adjusted at annual rates)
13,400
Obama
Inauguration
13,200
End of
recession
13,000
12,800
12,600
12,400
12,200
2007
2008
2009
2010
2011
Jan. 2007 – Dec. 2011, monthly, estimated by Macroeconomic Advisers
Source: Macroeconomic Advisers
www.macroadvisers.comMon
After 3 years, the U.S. in 2011
finally achieved its pre-recession level of GDP
Obama
Inauguration
End of
recession
Jan. 2007 – Feb. 2012, monthly, estimated by Macroeconomic Advisers
End of
recession
Obama
Inauguration
Private
sector job
creation
(by quarter)
Average rate
of private job
creation
between the
two recessions
(Nov. 2001-Dec.2007)
Average rate
of private job
creation
throughout
8 Bush years
(Jan. 2001-Jan.2009)
Data Source: U.S. Bureau of Labor Statistics
Possible risks to the recovery in 2013
• Euroland: Return of sovereign debt crisis?
– and contagion to other high Debt/GDP countries.
• Political breakdown in Washington?
• like the debt ceiling standoff of August 2011
• which led S&P to downgrade US from AAA to AA
» for the 1st time in history.
• Major oil crisis?
– from military confrontation with Iran.
U.S. fiscal policy in 2013
• If we opt for short-term fiscal stimulus,
– or at least on counteracting the current fiscal contraction,
• what form should it take?
• Renew some elements of the Obama stimulus
– such as infrastructure investment (roads & bridges)
– & giving money to the states
• so that they can re-hire laid-off teachers, policemen,
firemen, subway drivers & construction workers
– as in the Jobs Bill that the Congress voted down.
US Fiscal Problems
Jeffrey Frankel
Harpel Professor of Capital Formation and Growth
Harvard Kennedy School