Fiscal responsibility: should we care?

Matt's take on fiscal responsibility is largely accurate, politically: it's a very good stick with which to beat back either spending or tax cuts that you don't like, but once you're in power, well, too hell with it.

But do modest budget deficits matter? Of the size we have now, probably not. Indeed, I've been meaning to blog for a while about my greatest frustration with Jonathan Chait's the Big Con, which is not that it's a mean-spirited polemic that presents a highly skewed selection of facts and half truths in order to make out that everyone who disagrees with one Jonathan Chait is either a liar, a charlatan, or a fool. Rather, it's that Chait's own political beliefs keep him from writing about the big story. The most interesting thing about the supply side movement is not that political movements occasionally spawn nutty theories that allow politicians to claim their policies involve no tradeoffs. (If you think the Republicans are the only ones hostage to this sort of thing, I suggest you go ask Democratic some politicians or policy activists whether legalizing abortions results in more women having abortions.)

To me the nuttiness, while amusing and definitely worth including, is a sideshow. The really interesting thing about the supply-side movement is that it is part of a larger, more important story: the discovery, over the last few decades, that how you finance government policy just doesn't matter very much.

The history of the various attempts to financially engineer our way to above-trend growth over the last fifty years--supply-side economics being only the most theatrical of these--seems to indicate that it doesn't matter how you finance government spending. All that matters is how much you spend, and that doesn't even matter all that much.

If you spend money and finance it by tax increases, this lowers the return to work and effort, which somewhat lowers economic activity. If you spend money and finance it by borrowing money, this soaks up excess capital, which lowers investment and hence the rate of economic growth. There's no decisive evidence that one effect is larger than the other. Neither effect seems to be particularly big. There are other sorts of government policy that can have large effects on the economy: regulation (particularly in labor markets), trade policy, monetary policy. But in America, where the major fiscal drivers--tax rates, government spending, and deficits--fluctuate within pretty narrow limits, trying to manage economic growth through fiscal policy is like trying to steer a supertanker by moving the deck chairs around.

Chait, however, is committed to the "Clinton's tax hikes made the economy grow" story--and therefore to the notion that fiscal policy really, really matters. So we don't get the bigger story. Indeed, we don't get much context at all, not even the obvious point that supply siders have been so successful because the public still thinks of them as the antidote to the Keynesian managed economy that tanked in the 1970s.

I'm still working on my roundups of the various candidates economic policies. But the big thing to remember is that none of these policies will make almost any difference to the size of the economic pie. The politicians don't bake the pie; the best they can do is slightly alter the size of the pieces.