Macroeconomic Agenda for Recovery Now
and a Democratic Comeback in 2004
by John Atlee

Executive Summary

Democrats lost this key mid-term election partly because they lacked a credible and inspiring economic program for getting the economy back to full employment, managing the budget responsibly, and ending the Social Security "crisis." Republican conservatives had for many years been preparing the intellectual basis and think-tank infrastructure for re-imposing their Reaganite agenda when they returned to power. Now Democrats must follow their example.

This article summarizes a functionally coordinated "tool kit" of federal budget and macroeconomic management reforms to end the present analytical and policy disarray and provide the basis for stable full-employment growth, greater fiscal responsibility and sound Social Security finances -- tools for a progressive populist economics in substance as well as slogans. [1]  Republicans, in pursuing their "free market" ideology, forget that in the real world free markets work best in a stable full employment macroeconomic environment.

These reforms are based on a conceptual framework that helps to give these areas of policy the kind of transparency and understandability that is now being urged for corporate accounts and the financial markets -- so people can better understand the needed policy tradeoffs. This provides the basis for "self-explanatory" empirical-based visual public-education materials that can help block wrong-headed Bush proposals and prepare for a decisive Democratic comeback in 2004.

These reforms are not benefits like comprehensive health care and unemployment insurance. They are strategic political tools that change the rules of the game, and the structure and dynamics of political and economic power -- like public campaign financing, instant runoff ballots, Bush's big tax cut and Clinton's SS "lock box."

Analytical and Policy Focus

Adopt a growth-trend standard of reference in economic analysis and policy. If the U.S. GDP potential growth-trend is now 3.2% (Congressional Budget Office long-run projection), anything less than that should be labeled Recession. Thus, the present recession began in mid-2000 -- not the March 2001 designated by the "authoritative" National Bureau of Economic Research (NBER). Illustrating the analytical significance of this distinction, most NBER "leading" indicators don't really lead; in a growth-trend perspective they're only coincident.

CBO charts show the economy "above potential" in 2000, when unemployment was again down to the 4% unemployment policy target legislatively mandated by the Humphrey/Hawkins "Full Employment and Balanced Growth Act of 1978" -- without inflation. This CBO standard of reference sells the American economy and people short. As incoming Treasury Secretary Snow surprisingly promised in his initial speech, the Bush Administration "cannot be satisfied until everyone -- every single person who is unemployed and seeking a job -- has an opportunity to work." Let's hold them to that standard! As unemployment fell from 8% to 4%, during the Clinton Administration, that did more to reduce poverty and mitigate many other key social ills than most direct government anti-poverty spending.

Let's be precise about where we are now. In a growth-trend perspective the economy is not in a "soft spot"; it's still in a mild Depression. And if we define "recovery" the way workers and businesses actually feel it -- in the unemployment rate -- Recovery means a falling unemployment rate, and that hasn't yet begun. Those who talk about a "jobless recovery" need their conceptual glasses changed.

More specifically, real recovery means a "fast soft landing" (asymptotic) recovery growth-track to at least the 4% unemployment rate of two years ago -- when the federal non-SS budget had a surplus. With renewed 4% unemployment, most of the "excess capacity" that is now bankrupting so many otherwise viable companies would evaporate. Maintaining a stable full-employment economy will be especially important in managing the Baby Boom retirement bulge with minimum problems.

Budget Management

Bush's economic policy is most vulnerable in its budget, if that vulnerability can be made transparently obvious to voters. We need to basically reform the way the federal budget is presented and debated in Congress -- and explained to voters through the media -- to achieve the kind of transparency and understandability that investors are now demanding of corporate business accounts.

1) Take the Social Security account completely out of the federal budget.

This includes its FICA receipts and benefit payments as well as its Baby Boom surpluses -- for much the same reasons that private corporate pension plans must be separated from corporate operating budgets.

2) Twin deficit budget format.

Budget and deficit projections should not be based, as now, on unreliable and ever-changing economic forecasts, which open the door to politically biased projections and analytical confusion. The budget should be "standardized" (the CBO term) on the basis of a constant unemployment rate, to separate the deficit caused by congressional tax and spending policies from the deficit caused "by the economy" (i.e. by government -- mainly Fed -- macroeconomic mismanagement). The amounts shown below are these two components of the CBO's August $314 billion estimate of the non-SS deficit, roughly standardized by the 4% unemployment rate, rather than the CBO's 5.2% rate.

3) The Non-Social Security Policy Budget Deficit, $168 billion.

This is the deficit resulting from congressional tax and spending policies. It excludes from the CBO's "on-budget" (non-SS) deficit the estimated $146 b. recession-induced deficit caused by allowing unemployment to remain above the 4% policy target. [5]

For clear and responsible congressional and public debate on tax and spending issues -- such as judging the fiscal responsibility of Bush's upper-income tax cuts and increased military spending -- the Non-SS Policy Deficit is the most analytically and politically relevant deficit concept -- the one which Congress and the public should think of as THE deficit.

A fiscally responsible Policy Budget should aim to keep this deficit close to zero (e.g., by the "paygo" rule that new tax cuts or spending increases should be paid for elsewhere in the budget). Elimination of ever-changing and unreliable economic forecasts, and separation of the recession-induced component of the deficit, will tend to facilitate achieving this goal more than arbitrary unified-budget spending caps. The present size of this deficit clearly warns that the combination of high-income tax cuts with military and other spending increases is back to the Reagan-like "voodoo" fiscal irresponsibility that injects huge interest costs into all later federal budgets -- not only directly, but also by tending to increase long-term interest rates.

Since this conceptual framework explains how money growth finances economic growth, this budget concept should frame the political debate over short-run "fiscal stimulus." It should also finally discredit the false "supply side" myth that long-term tax cuts for the wealthy can independently stimulate economic growth.

4) The "High-Unemployment Deficit," $146 billion.

CBO calls this the "cyclical" deficit, but these reforms aim to eliminate the so-called "business cycle." This deficit is due to the economically helpful "automatic stabilizer" effect of the economy on the budget. Each 1% unemployment above 4% increases this deficit by an estimated 0.7% of GDP. Publishing this deficit under its functionally-correct High Unemployment title is an explicit and visible reminder to both Congress and taxpayers of the high budget cost of high unemployment, and the fact that budget economic responsibility must put high priority on reducing it.

This twin-deficit budget format makes possible budget pie charts that indicate visually -- clearly but implicitly -- the budget policy needed for credible fiscal and economic responsibility and accountability. These would be key educational tools for TV spots, TV interviews, op-eds, editorials stump speeches, organizational teach-ins, bumper stickers, and economic course materials.

5) Use the non-SS Policy Budget spending pie chart as a key political education tool.

A useful "side effect" of removing SS and high unemployment costs from budget pie charts is that the relative size of military spending appears much larger. When Bush and other conservatives say they want "smaller government," they are referring primarily to non-defense spending. Together, military cost and interest cost (much of which still pays for Reagan's 1980's deficit-financed military spending) leave relatively little for all other government spending -- including the pittance going to foreign aid and other means of building a more friendly and peaceful world rather than our own military might. This visual tool is very useful in helping voters to understand the relative size of what Bush wants to cut and what he wants to spend more on -- for instance, if military spending could be cut in half (not unreasonable), would that free up enough funds to finance universal health insurance and better schools?

In the non-SS budget receipts pie chart, have a separate slice for the non-sustainable capital gains tax receipts from the stock market bubble. That shows the need to replace that revenue source now that those unsustainable gains are ended.

6) Public financing of federal elections.

It's generally agreed by those who have studied the system that this is the only way to achieve a more honest, democratic and efficient government. Opponents usually say it costs taxpayers too much. But the cost of an efficient election system, with politically meaningful free TV debates during the two months before elections and public funding of other campaign expenses -- that would mobilize an interested and responsible voter turnout -- would be far less costly to taxpayers than all the military pork and other spending resulting from the present special interest bribery system.

Social Security Policies to make Social Security financially sound --
And effectively discredit the privatization campaign


1) Social Security must be completely separate from the main federal budget.

To increase public confidence in the Social Security system, and effectively discredit the many falsehoods being promulgated by the privatizers, it is essential that Social Security be recognized explicitly (and pie chart visually!) as a fully self-financed (but government- sponsored) insurance and pension program.

2) "Insulate Social Security from the economic mismanagement that causes high unemployment"

This can be accomplished by standardizing Social Security financial projections on a 4% unemployment basis.

As the chart below from the SS Trustees' 2002 annual report shows, their "best guess" middle projection of Trust Fund assets, based on 5 1/2% average unemployment for the foreseeable future (#2 on the chart) does "go bankupt" in 2042, as widely reported. (The Trustees have been pushing this date ahead about every year, as the always unreliable and ever-changing economic projections become more optimistic.) But their 4 1/2% "low cost" projection (#1 on the chart) is financially healthy for the full 75 years.

Long-Range OASDI Trust Fund Ratios
(Assets as percentage of annual expenditures)

This chart demonstrates vividly that the supposed "SS financial crisis" -- which provides the main justification for the Republican privatization schemes -- is a fiction of the Trustees' inappropriately pessimistic projection, and not a problem of the basic actuarial relationships. "One picture is worth a thousand words."

It is obviously impossible to make reliable economic predictions for 75 years into the future. In 1927 (75 years ago), who could have predicted the 1929-32 stock market crash, the 1930s Great Depression with its 25% unemployment and New Deal reforms (including Social Security), WW II, Cold War and Vietnam War, the 1973-81 OPEC-induced world inflation, and the 1996-02 stock market bubble and crash? Therefore, it makes more sense to use the legislatively-based and credibly-achievable 4% unemployment policy target for SS projections. (See Appendix A for other implications of this projection.) Even as a congressional minority, Democrats could ask the CBO to calculate the 4% unemployment projection for this reform. [2]

3) Recession-induced shortfalls

Shortfalls of SS Baby Boom surpluses from the projected 4% unemployment values should be reflected in the HIgh-Unemployment Deficit (the "automatic stabilizer" component of the non-SS deficit), as they are now, implicitly, in the unified budget, rather than in the SS Trust fund.

4) Stop viewing FICA payroll deductions as a "regressive tax."

The net effect of the Social Security system is actually quite progressive -- a key reason why wealthy conservatives want to dismantle it. Removing SS from the operating budget helps voters understand that the FICA payroll deductions are dedicated contributions for their individual SS insurance and retirement program -- comparable to private pension contributions -- and not a regressive "tax" which could be allocated to other spending.

This perspective would also help block any Bush efforts to cut FICA contribution rates on the false pretense of "reducing the regressive tax burden on low and middle income workers" -- as a sly step towards dismantling SS. The best way to increase the after-tax real income of low and middle income workers is to get the economy back to below 4% unemployment, institute universal health service, child care services and other aids to help working families make ends meet.

Viewing SS as a government-sponsored but independent and self-financed insurance and retirement program would be particularly useful in building support for SS among younger workers who have been falsely led to believe that there will be no SS benefits for them when they retire.

5) Treat the $160 billion SS Baby Boom surplus as part of our total national financial saving

This should include private pension and retirement reserves (as they are in the Flow of Funds Accounts), rather than allowing it to be "netted out," as now in federal unified budget reports (and, unfortunately, also in the National Income and Product Accounts). This would eliminate the "On-Budget"/"Off-Budget" and "Total" (i.e. net) surplus or deficit confusion in published budget tables and charts. Transactions between the Treasury and the Social Security system should be effectively "arms length," rather mere bookkeeping offsets. When SS surpluses and non-SS deficits are combined for some valid analytical purpose, the result should be honestly labeled as "Net" rather than "Total" deficit or debt.

6) Make the fictitious "lock box" real

Protect the SS Baby Boom surpluses from being raided to fund non-SS deficits. They should be invested in a maturity-laddered portfolio of marketable long-term Treasury securities whose maturity dates correspond with the projected need for increased benefit payments as Baby Boomers retire -- as in private pension plans.

But the reform should also go a step further, and allow SS to also invest in a maturity-laddered portfolio (index fund?) of investment-grade private mortgages and bonds. Then, after non-SS deficits are again eliminated -- by economic recovery and a return to fiscal responsibility -- and the public debt has been reduced to an appropriate minimum (as Greenspan once feared), SS could invest all of its surpluses in private securities

This would have a very significant effect on the budget. The interest the SS Trust Fund earns on its assets would then come from private borrowers rather than taxpayers, allowing a re-allocation of a huge amount of money to health care, education, housing and other now under-funded purposes. It would also increase the financial capital available for private investment.

Monetary Policy

1) Recognize how money growth finances economic growth.

To understand how this works, we need to define money as what we actually use to make payments -- checks and "cash" -- something Fed Chairman Greenspan admits he still doesn't understand (10/19/90 Cato Institute speech). Checkable deposits and currency are roughly equal parts of what the Fed calls "M1". The Fed's "M2" is a faulty concept of money because most of it is savings deposits, CDs and other interest-bearing financial investments which must usually be exchanged for checkable deposits or currency before they can be spent i.e., actually transferred to someone else.

In our present fractional-reserve, credit-money system, checkable deposit money is created by banks ("out of thin air"), by an ingenious accounting sleight-of-hand, in the process of making loans. To limit the amount of money banks can create, they are required to keep reserve-account balances in the Federal Reserve Bank (or an inventory of currency in their own vaults) equal to a certain percent of their checkable deposits. To increase the money supply, the Fed uses Fed-created "high powered money" to buy Treasury securities, which gives the banks additional reserves to create new checkable-deposit money.

When borrowed and spent, newly created money adds to total GDP spending because it didn't come out of anyone else's previous income, spending or saving. Moreover, as each dollar of new checkable deposit money circulates around the economy, it finances about $18 of additional GDP spending before it finally becomes locked into the rising "money inventory" needed to service the rising GDP. This process that can be thought of as the "Monetary Multiplier," comparable to the "reserve multiplier" between the amount of new reserves that the Fed supplies to the banks and the amount of checkable deposit money that this enables them to create.

2) Base monetary policy on the basic money-growth/GDP growth relationship

In simplest terms, the growth rate of total spending (GDP) is determined by the excess of the money supply growth rate over money demand growth rate-- with money demand measured by the Money Demand Ratio (MDR). The MDR (M/GDP) is the monetary stock/flow ratio corresponding to the familiar business inventory/sales ratio. [3]  Changes in the trend growth rate of the MDR have the same effect on the GDP growth rate as opposite changes in money growth, and must be monitored just as precisely. (The value of the "monetary multiplier" is the reciprocal of the MDR.) Thus, the basic conceptual and empirical formula for this relationship is:

GDP growth rate = Money growth rate minus MDR growth rate.

This formula implies that the Fed could and should manage economic growth continuously, not just forecast it and make big changes in "monetary policy" at infrequent intervals. To do this efficiently and transparently, the Fed should monitor the current trend value of the MDR, manage money growth to achieve the appropriate GDP recovery growth-track -- and publish all three data. [4]  

With such transparency, monetary policy would no longer be a loose cannon controlled by the Fed chairman's personal judgment. Congress would then be able to prohibit the Fed from using high unemployment to anticipate inflation -- but would itself be forced to devise more effective non-monetary anti-inflation tools that are not dependent on high unemployment.

As the financing of World War II demonstrated, there is no limit to "monetary stimulus" if money growth is managed directly, rather than indirectly via the fiction of interest rates. And if money growth is managed by the money-growth/GDP growth-formula -- rather than by the ad hoc judgmental decisions of maestro Greenspan, there should be no fear of monetary inflation. (OPEC-induced inflation calls for other, less damaging, tools.) Right now, the Fed's Greater fear is world-wide deflation -- falling prices that make it harder for debtors to interest-service and repay their debts. Fast recovery to low unemployment is the best solution for that.

While the basic relationships in this formula are simple, getting appropriate and precise empirical values to manage the money supply and the economy is more complex.

For example, so far in this paper, and in my own empirical work with the money-growth/GDP-growth formula, I have for simplicity used the generic term, "Money," instead of "M1." However, about half of M1 is now currency, which is not itself created by the banks, but merely becomes part of the money supply when it is withdrawn from the banks, at depositor convenience -- usually from their checkable deposit accounts, and usually not in direct relationship to any particular expenditure. Moreover, a large but indeterminate amount of the currency "in circulation" (outside banks) is held by foreigners for use as transaction media in their own country, or by international drug dealers, and thus has little relationship to US GDP growth.

Therefore, most empirical research and policy using the formula would probably be more precise if the "Money" variable is limited to checkable deposits rather than M1. (The Monetary Multiplier value of 18, cited above, is based on checkable deposits rather than M1.)

Because the Democratic Party needs this kind of nuts-and-bolts research if it is to have adequate influence on economic policy, it needs to respect and actively promote the work of progressive economic think-tanks, to enable them to match the influence of the well-financed conservative think-tanks.

3) Greenspan should stop pretending to manage economic growth through interest rates

When the banks are able to use the reserve-deposit money the Fed feeds them to lend additional newly created checkable-deposit money, this also increases the total potential supply of credit, which tends to reduce short-term interest rates, especially the Fed-targeted "federal funds" (overnight inter-bank loan) rate -- and the banks' copy-cat monopolistic benchmark "prime" rate (which is kept about 3% higher than the Fed funds rate). But the increased money supply is the main "economic stimulant," not the rate reduction. Moreover, trying to manage the economy through interest rates has many difficulties:

  1. Interest rates are also affected by many other factors in both supply and demand for credit; and the relationship between interest rates and economic growth is neither precise nor immediate, either conceptually or empirically.

  2. Without direct control of the money supply, Greenspan, in his rate control charade, is forced to rely mainly on his own judgment ("flying blind, by the seat of his pants," as the old pilots used to say), based on a vast array of economic data that is often difficult to integrate and interpret. Thus, in many cases, Fed "control" merely "follows the market." And it has to do this while risking the unintended effect of false perceptions, as Wall Street, Congress and the public are trying to interpret his monetary policy on the basis of an assumed link between interest rates and economic growth.

  3. The Fed has very little control over the long-term rates that most influence business plant and equipment and residential investment.

  4. Since interest rates can't go below zero, zero is the effective limit for Fed funds rate reductions. However, Greenspan now says that the Fed can also stimulate the economy by buying longer-term assets that don't directly affect the Fed funds rate -- but do increase bank reserves.

  5. Since money growth can take place only through bank lending, for adequate money growth and economic growth, the total demand for credit by credit-worthy borrowers must be sufficient to enable the banks to make effective use of all the "high-powered" reserve-deposit money the Fed feeds them. Otherwise, unless the federal budget runs a bigger "recovery deficit," the banks have to buy existing Treasury securities from other investors, which, like tax cuts for the very wealthy, does little to increase GDP spending.

4) Interest rates, money growth, and economic growth during 2001-2002

In this recession, the slowdown in borrowing began to reduce interest rates on long-term mortgages and corporate bonds (where real investment is most sensitive to interest rates), at the beginning of the recession, in mid-2000 -- more than six months before the Fed began its yearlong series of "rate cuts" in 2001. And long rates didn't decline much more during those cuts. The steep reduction of short-term rates undoubtedly facilitated the unsustainable stimulus of "0%" automobile loans and lower-cost of inventory financing, but probably had little effect on the long-term business investment that most needed stimulation.

The relationship between money growth and economic growth is much clearer and more controllable. During 2001, as the Fed cut the funds rate target from 6.5% in January to its 40-year low of 1.75% in December, the growth rate of checkable deposits, the main financier of GDP growth, increased steadily, from a minus 5% in January to a plus 7% in December -- enough to finally stop the steepest dive of the recession. But because the rise in checkable-deposit growth was always behind the curve of economic developments, it allowed unemployment to increase to 6%, allowed the recession-induced component of the federal deficit to increase by about $150 billion, and allowed many bankruptcies of otherwise viable businesses -- the usual "vicious cycle" of recessions.

For most of 2002, the Fed has wanted to save the last 1.75% of its funds rate "ammunition" as an emergency reserve in case another major financial crisis calls for a quick injection of "liquidity." It was thus effectively "out of ammo" for a more aggressive stimulation of recovery. As a result, the checkable-deposit growth rate declined steadily to a minus 10% by September, and the banks accumulated about $3 billion more excess reserves than the stable level of the previous four years -- an indication of the feared Japanese-style "pushing on a string" syndrome. No checkable deposit growth = no monetary multiplier and no GDP growth.

But there is a more basic reason for ending the charade of interest rate control. "Monetary policy" via interest rates is inherently ad hoc and judgmental. Therefore, however good the maestro's judgment, a monetary policy based largely on one man's personal judgment is neither transparent, scientific, democratic nor safe -- and his successor may well lack his skill. There is a better way.

5) The urgent need to increase the required reserve ratio, to enable the Fed to control money growth directly

Under pressure from the banks, the Fed gradually reduced this ratio to an official 10% in 1992. But over 80% of the banks' present $40 billion total reserves is actually part of their normal working inventory of vault cash, so most banks are now "unbound" by Fed reserve control. Moreover, since 1994, the Fed has permitted banks to "sweep" (reclassify) checkable deposits into savings deposits overnight, further reducing required reserves.

As a result, reserve deposits at the Fed are now only about $9 billion for the $570 billion of checkable deposits. This is an effective reserve ratio of only 1.6%, and a control multiplier (leverage) of over 60. Trying to control money growth and economic growth with that ratio is like trying to put peas in a bottle with a 10-foot spoon. No wonder Greenspan now largely ignores the key reserve/checkable-deposit ratio and pretends to control money growth indirectly, by judgmental, ad hoc changes in the funds rate.

The reserve requirement should be increased immediately to at least 50%, with renewed prohibition of interest payments on checkable deposits, as before 1980. This would make a clearer demarcation between the checkable-deposit (transaction-account) money that the Fed can and should control, and the various types of interest-bearing savings accounts that make up most of "M2" -- that the Fed can't control.

100% reserves?  A 100% requirement, long advocated by leading economists, would create an even clearer separation. Then all new money would be created directly by the Fed, by supplying the banks with the needed additional reserves, rather than by the banks, through volatile loans. Also, if the Fed then bought long-term securities, they would be enough to significantly affect their interest rates. Moreover, there would then be no need for FDIC insurance of checkable accounts.

In the present financial environment, this basic institutional reform would be relatively easy, whether done quickly or gradually. The Fed would merely need to buy enough of the banks' present "surplus" Treasury securities to enable them to meet the rising reserve requirement. If the Fed then pays the banks interest on their reserve deposits, out of its own increased interest receipts from the Treasury, the banks would suffer no financial disadvantage from the reform -- and would gain much in terms of greater economic stability and security. In fact, even now, growth of the checkable-deposit money supply is a relatively small source of the banks' total loanable funds.

Systematic Coordination of Monetary and Fiscal Policy

Fiscal policy, as distinguished from budget management, is concerned mainly with the overall effect of the budget on the economy. Monetary and fiscal policy should be considered complementary rather than alternative policy tools. "Fiscal stimulus" can't do much to increase economic growth without support from money growth. Therefore: Money growth should be recognized as the main engine of recovery, and fiscal policy should be designed to optimally support it. With a credit-money system, when business and consumer borrowing are inadequate to put a recovery rate of money growth "in circulation," the federal deficit must increase enough to do this.

Karl Rove, Bush's main political strategist, is reportedly planning fiscal policy timing mainly for maximum impact on Bush's 2004 election prospects, and that isn't necessarily what the economy most needs now.

Reportedly, the Bush team is proposing an "economic stimulus package" estimated at $300 billion over the next decade. This shows that they simply doesn't understand how the economy works. First, if this is equally distributed over 10 years, $30 billion a year would not be much stimulus now, when it is most needed. Secondly, whether this includes his permanent tax cuts that will continue after the 10-year budget period is not yet clear; but $300 billion is probably a lot more total "fiscal stimulus" (Recovery Deficit) than the economy needs -- if it is properly coordinated with appropriate monetary policy.

Because we have not yet systematically integrated our data on money and credit flows with our data on income and spending flows, we do not yet have reliable empirical measures of the National Financial Balance, and thus no really credible empirical basis for knowing how much "fiscal stimulus" is needed.

In trying to estimate the needed amount of pump-priming (jump-starting) fiscal stimulus, the right question is not the amount of direct federal spending or tax cuts -- in relation to the $10 trillion GDP spending -- but rather the much smaller amount of Recovery Deficit -- in relation to the much smaller amount of the economy's total demand for credit -- that is needed to empower the Fed to achieve a recovery rate of money growth, with the resulting Money Multiplier effect on GDP growth and business and consumer borrowing. The Bush team is apparently ignoring monetary policy. With so much empirical ignorance on these relationships, the key fiscal policy need is "non-political" flexibility.

Rx for Fast Recovery Now

To jump-start real recovery now towards the 4% unemployment rate, the federal government needs to do what it should have done last fall: run an explicitly temporary, proactive, Recovery Deficit large enough to replenish the Fed's "rate-cutting ammunition," so it can feed the banks the reserves they need to create enough new checkable-deposit money to finance a "fast soft-landing" recovery track. (This way of explaining it assumes that the Fed is still using the awkward rate-cutting charade to explain its increase in the money supply.)

The Recovery Deficit and High Employment Deficit should be financed by the Treasury selling short-term (30-day) Treasury bills to offset the Fed's buying of bills to supply the banks with the needed reserves, so the Fed funds rate will not decline below about 2 1/2% or 3%.

Initially, most banks will probably have to use most of the new money they create to buy these Treasury bills, which mainly finance consumer and state/local government spending via the Recovery Deficit. But as soon as business and households feel confident that the government is committed and able to achieve full recovery, reviving business and household borrowing will soon tend to replace the Recovery Deficit.

As widely recommended a year ago, the fastest and most efficient mechanism for creating the needed Recovery Deficit -- and also increasing consumer (and GDP) spending (and preventing the ongoing drastic cutback in state/local government spending) -- would be a combination of these policy tools:

To minimize the net budget cost of this Recovery Bonus -- and the related High-Unemployment deficit -- it should be accompanied by a confidence-building commitment for another Recovery Bonus payment (amount unspecified) every payday until unemployment again falls below 5%, so businesses and households can more confidently plan ahead for full recovery. The formal commitment wouldn't need to go all the way to 4% because the recovery momentum -- with appropriate monetary policies -- would carry it the rest of the way

The Recovery Bonus needs to be flexible enough to rapidly decline as the economy recovers and private borrowing replaces federal borrowing, without further action by Congress. For instance, its amount could be targeted to automatically keep short-term interest rates at a particular level -- possibly decided jointly by the Treasury Secretary and Fed Chairman. As long as the rate is above 2 1/2% or 3%, the Fed has ammunition for further rate cutting charade.

Since the Recovery Bonus policy tool makes it possible to control short-term interest rates independently of monetary policy, there are several potential trade-offs that need to be considered:

Comparison of Recovery Bonus with alternative fiscal stimulus proposals

A temporary income tax cut for the bottom two brackets would have the serious weakness of not helping the 50 million filers whose income is too low to pay any tax.

The now-widely-discussed six-month FICA ("payroll tax") holiday would also go to all FICA-covered workers. But it would cause a serious reduction in the SS Baby Boom Trust Fund unless this "tax expenditure" is reflected in the High-Unemployment Deficit, rather than the Trust Fund, by an appropriate accounting transfer. Also, its timing and amount is not flexibly adaptable to the actual need for Recovery Deficits.

In its purpose, the Recovery Bonus would be similar to last year's "tax rebate," but a much larger amount, injected gradually through the payroll deduction system, rather than in a single Treasury check.

The Recovery Bonus would have these advantages:

The Recovery Deficit should be thought of as a separate, proactive, "preemptive," component of the Stabilization Deficit, explicitly designed to reduce its "automatic stabilizer" component as quickly as possible, with the least possible addition to the total public debt. The logic is very simple. Once recovery starts -- under a credible, systematically coordinated recovery strategy -- business and consumer confidence soon returns, and increased private borrowing quickly replaces the combined Recovery Deficit and Stabilization Deficit in the National Credit Balance -- for a business-like-profitable federal investment.

The problem with the traditional Keynesian "fiscal stimulus" policy is that there is no parallel conceptual ("theoretical") framework for systematically coordinating its spending aspects with the corresponding money and credit aspects. The reforms suggested in this proposal are based on an innovative comprehensive conceptual framework that does that.

In addition to facilitating more responsible and transparent management of both the economy and the deficit, these conceptual and policy tools will help insulate these policies from the confusion and disruptive effects of competitive partisan "politics."

The Bush Administration, particularly political strategist Karl Rove, wants very much to recover the economy (by Republican standards) before the 2004 election, to give Bush a better shot at another term, and they are now in process of reorganizing their top economic team for that purpose. So Democrats need to work fast to preempt Republican recovery efforts by preparing a comprehensive optimum economic program, and actually introducing a bill for it in Congress. Thus, whatever the Republicans do, the Dems can credibly say: "We can better achieve fast real recovery now -- and we can keep the economy prosperous without another Republican recession."

Moreover, the Dems need to continually remind voters that a Republican president presided over the 1929-32 recession into the 1930s Great Depression and the 1982-83 recession into the the worst depression and high unemployment since WWII, and that every Republican administration has increased the unemployment rate -- as the party of business, the Republicans do not want a really full employment economy because it increases labor's bargaining power.

Other Federal Reserve Responsibilities

The Federal Reserve also has main responsibility for preventing unsustainable "bubbles" in stock prices, consumer and business credit, and even housing prices, and should have standby procedures for doing so.

1) Stock market margin requirements

Require the Fed to establish an explicit policy of progressively increasing margin requirements as stock prices gain excessive upward momentum and wildly excessive P/E ratios. (Greenspan made a key mistake by not doing this five or six years ago.)

2) Consumer credit

Zero-percent car financing and major durable goods sold with "no down payment and no interest for a year" are unsustainable economic stimulants that are obviously borrowing from future sales and causing household bankruptcies in the inevitable following recession. There needs to be a serious research study of this problem and development of appropriate Fed policies to mitigate it.

3) Housing price inflation

When housing prices increase far more rapidly than the CPI and consumer incomes, this causes an asset windfall for those lucky enough to own houses and windfall capital gains for those who sell (and unsustainable capital gains tax windfall for the federal budget), but makes housing unafordable for first-timers. Should the Fed have the power to increase down payment requirements on all sales of houses priced above the median for their area when housing prices are rising faster than the CPI and consumer incomes?

4) Other potential anti-inflation responsibilities. Since the Fed has a general responsibility for preventing inflation, should it make specific anti-inflation recommendations to Congress, based on its preeminent economic research, when other particular key prices, such as drug prices, are rising much faster than the CPI?

Tax Policy

1) Corporate dividend tax reform to help prevent stock market bubbles and reduce income inequality

Bush is said to favor ending "double taxation" of dividends by treating corporate dividend payments like bond interest, as a tax-deductible cost of business. That would boost corporate profits for those companies that distribute dividends. But it would also cost a tax loss estimated at $25 billion over 10 years. Moreover, corporate profits should be boosted, and excess capacity absorbed, by getting the economy back to full employment, rather than cooking the tax laws so companies will again make excessive profits after recovery.

But if combined with an undistributed profits tax on excessive undistributed profits of large established corporations, the revenue loss from cutting the tax on dividend payments could be partially or completely offset by increased revenue from more dividends distributed to taxpayers and taxed at regular income tax rates, rather than from stock price appreciation taxed at the much lower capital gains rate. Moreover this combination of tax reforms could have a number of economic benefits:

To maintain adequate entrepreneurial incentives, genuinely new startups, high-tech new industries and small businesses could be exempted from the undistributed profits tax and other measures designed to avoid excessive and unsustainable stock price increases for large established companies, if this seems to be economically appropriate.

The dividend tax exemption should apply only to corporate payments, not to investor receipts, because it is only the corporate exemption that has many economic advantages and can provide an offset for the excess profits tax. Moreover, many dividends go to tax-exempt entities.

Both the dividend exemption and the excess profits tax should probably be phased in gradually, to assess their effects.

2) A progressive value added tax (VAT)

Some conservatives are proposing some sort of VAT, as is common in Europe, as a means of raising revenue to offset their tax cuts for the rich. Many liberals oppose the VAT because it is considered regressive. But there are so many budget and economic advantages to a VAT that this opposition is short-sighted. The regressive aspect can be offset by a strongly progressive VAT, with much higher tax rates on million dollar houses and yachts, $50,000 cars, $1000 watches, designer clothes, $50 meals, and all the other baubles advertised in the New York Times that are bought only by the very rich -- mainly to demonstrate to their peers (and inferiors) that they actually are very rich. ("If you ask what it costs, you can't afford it.") Such a tax would be imposed, at highly progressive rates, only on consumption items that are usually purchased only by about the upper 10% of taxpayers. In a psychological and sociological perspective, it would actually enhance their main motive for making such purchases. This tax could not be opposed by supply-siders on grounds that it cuts into economically productive investment financing by the rich, and there are many moral and economic reasons to favor it.

Energy Policy

1) A gradually increasing energy tax

Public discussion of Bush's proposed war on Iraq has had the indirect effect of focusing public attention again on the vital necessity for the US to become less dependent on oil imports -- and "Big Oil" -- by stronger efforts at conservation and development of alternative energy sources.

Among the experts who have studied this problem there is little disagreement that a -- even "the" -- main key to that goal is a stronger "market incentive" by a steadily rising energy tax (as proposed by the Clinton Administration 10 years ago), with part of the proceeds used for development and initial subsidies of conservation and alternative energy sources.

The Bush Administration is already so compromised by its closeness to the energy industry and its failure to push for higher fuel efficiency standards for SUVs that it is vulnerable to attack on this score. But the Democrats need a well thought out and well documented alternative plan that they push hard during 2003-4, with emphasis on the comparison between the cost of the energy tax and the taxpayer cost of our military defense of our access to Mideast oil. A steady increase in the energy tax would be far less economically disruptive than the present roller-coaster OPEC-managed price, and would be partially but steadily offset by conservation savings.

2) A United Nations Oil Commerce Authority (UNOCA)

The fact that oil deposits are highly concentrated, with large differences in production costs, means that they are a key source of international income and wealth inequality and a key source of potential conflict. Clearly, the best solution would be for a United Nations agency to control all international commerce in oil, paying the country in which oil is pumped a fair royalty, raising the world-wide market price gradually to stimulate conservation, and using the difference between royalty payments and market price to fund economic development in less fortunate countries. This would break the price control of the OPEC cartel, the obscene affluence of the undemocratic and terrorist-spawning Gulf sheikdoms, as well as the risk of their being taken over by Islamic fundamentalists.

This would mean a revolutionary change in traditional capitalist and nationalist property rights -- including its implications for other basic raw materials. But there are many factors now that would tend to support such a change -- including the fact that the Persian Gulf sheikdoms of OPEC now have weaker bargaining power. A progressive American Democratic administration that has more respect for the UN and world solutions could take world leadership in considering this. I believe there would be public support for it.

International Implications
1) International adoption of these tools

If other countries -- and the IMF -- adopt the analytical and policy tools proposed here, it would be much easier for individual countries to recover quickly, with less worry about "capital flight," and to better coordinate their monetary and fiscal policies (e.g., in the European Union). Then the IMF could do more help than harm.

2) Full employment

The best way to promote free trade and avoid tariff wars is for all countries to maintain full employment by appropriate macroeconomic policies.

3) "Non-credit" money

The "non-credit" (100% reserve) concept of money and the formula for relations between money growth and economic growth would facilitate a more functional monetary policy for the Euro and make possible a genuine international currency, with UN money-growth seigniorage for economic development.

Political Implications

These reforms may do more to "restore investor confidence" than the appointment of Wall Street insiders to the cabinate. They are "businesslike" technological fixes that should be very attractive to voters in the information-age suburban "ideopolises" that tended to vote Republican in 2002 when the Democrats had no such answers, but who have also shared the recent pain and shame of unemployment.

If quickly put into draft legislative form and accompanied by the appropriate visual tools (charts, etc.), these reforms could provide an effective basis for a massive campaign to block permanent extension of Bush's big tax cut for the rich, and also a positive campaign for an effective immediate recovery program. If these initiatives get widespread public support, they would tend to slow or stop Bush's steamroller political momentum until the Democrats can put together the other pieces of a more comprehensive policy initiative for 2004.

If Bush and Congressional Republicans try to block these initiatives with their voting majority and committee control, the battle should go public and highlight Republican policy vulnerabilities.

Implications for Bush's new economic team

Both Treasury Secretary nominee John Snow and expected National Economic Council nominee Stephen Friedman are reputed to be pragmatic non-ideologues who favor good management practices, and in the past have opposed large budget deficits. Thus, they are probably less than enthusiastic about Bush's big permanent tax cuts when there is such a large Policy Budget deficit, and may be attracted to the "more businesslike" and transparent non-SS dual-deficit budget framework proposed here. Ending the huge High Unemployment Deficit by achieving full economic recovery would be a big budget-balancing achievement in itself, and would also make it easier (as Clinton found) to balance the Policy Budget.

If the Democrats put up a strong enough immediate fight against permanent tax cuts, Snow and Friedman may be open to a budget compromise in which permanent tax cuts are postponed until after recovery, when it will be easier to credibly forecast their budget and economic effect. And they may be able to persuade Bush that this would be to his political advantage. Since it is unlikely that Bush policies will achieve recovery before 2004 that would still leave the tax cuts as key Democratic election targets.

Visual Aids and Slogans

In most of the really important policy issues -- such as monetary policy, Social Security and the federal budget -- the actual details are too complex for average voters to wrap their minds around -- unless they have simplifying slogans to facilitate the process.

Some of the slogans suggested here are best understood by those with some sophistication regarding budget and monetary policy. But if they are picked up by the financial analysts and pundits who do understand, they soon become part of the general environment of the national debate, repeated by others who may not be able to explain them in detail. In any case, slogans should not be widely launched until fully backed up substantively and tested by public opinion polls and focus groups.

Because the reforms proposed here make the basic relationships more transparent, they facilitate making effective slogans and charts ("implicit slogans"). "One picture is worth a thousand words" -- whether or not it is true -- as the anti-abortion zealots demonstrate with their posters of rare late-term-aborted "babies." But pictures are more powerful when they are are true and based on sound policy.

Note that in this discussion, I have often drawn parallels to responsible private business practice -- to draw support from fiscally responsible conservatives. And I have used "Baby Boom" surpluses, rather than merely "SS surpluses" to more effectively get the attention of Baby Boomers -- and their children -- who are worried about the security of their retirement benefits.

The party that develops the most effective slogans and pictures (charts, etc.) tends to control the debate -- as the Republicans ruefully admitted about Clinton's "Save Social Security First" and "Social Security Lock Box" slogans, which were key factors in preventing a big Republican tax cut when the "unified" budget first ran a surplus.

Slogans for Social Security reform

This is probably the easiest for people to understand because the SS Trustees' own chart of SS Trust Fund projections (p.5) "shows" the story so clearly. The 4 1/2% unemployment projection becomes stable at a level mainly because Baby Boomer benefits are then financed partly by the Trust Fund's interest earnings on its larger financial assets -- as in private pension funds. (This also assumes, of course, that the SS Trust Fund is not raided to finance Bush's fiscally irresponsible Policy Budget deficits and economically irresponsible High Unemployment Deficits.)

Thus, the SS "crisis" is clearly in its inappropriate economic and political assumptions, not the actuarial relationships. So the best solution is equally clear, as suggested in the following slogans:

    "Make SS finances more transparent" -- by taking them completely out of the "unified" budget, as business pension funds must be.

  1. "Insulate the SS trust fund from unreliable economic projections and high unemployment" -- by basing its projections on the "standardized" 4% unemployment rate, and including any recession-induced shortfall of current surpluses with other High-Unemployment Deficits, rather than allowing them to diminish the Baby Boom reserves.
  2. "Insulate the Trust Fund from fiscally irresponsible non-SS deficits" -- by requiring SS to invest its current surpluses in maturity laddered marketable Treasury securities, so SS debt becomes part of the public debt. "Make the lock box real."
  3. "Fix Social Security first." (This is a slight variant of the "Save SS first" that was so successful four years ago in blocking a big Republican tax cut.) This is where the Republicans are most vulnerable, and where a sound alternative would mobilize big support.

Slogans relating to the Policy Budget and High Unemployment Deficit

"Tax and spend liberals" is the slogan with which Republicans love to bash Democrats. But "tax and spend" is what all governments have to do. They spend what the voters (or their campaign financiers) want them to spend, and, if they are fiscally responsible, they raise the taxes to pay for it. But the Democrats have so far failed to turn this slogan back on the Republicans.

"Borrow and Spend" is the Reagan/Bush policy. That has added a huge budget interest burden that for many years has preempted spending on the other things voters want more than the Reagan/Bush deficit-financed military buildup -- such as universal health care, better education and affordable housing. Democrats should repeat that "Borrow and Spend" slogan so often that it is as familiar to voters as the Republican "Tax and Spend."

Moreover, Democrats should specifically point out that the Reagan/Bush policy of deficit-financing their military buildup is doubly irresponsible when it is not in an all-out war with, rationing and price controls. It is triply irresponsible when they risk the Baby Boomers' retirement benefits by borrowing from the Social Security Trust Fund without any plans to repay it.

Democrats should make fiscal and economic irresponsibility the main focus of their counterattack on Bush's class war tax policies -- and budget reform provides the key means of doing that.

"Class War" is another potential "boomerang" slogan. Republicans criticize the Democrats for engaging in "class war" when Democrats denounce Republican legislation that benefits only the very rich and cuts funds for the poor. But the Republicans have taken the gloves off now. So the Democrats should accept the challenge and throw the slogan back at them aggressively, pointing out that the Republicans actually started a genuine legislative class war by their initial proposals that benefit mainly the very rich and their ideological effort to "reduce the size of government" (ordinary people's friend) -- except military and interest spending -- by purposely causing huge deficits that preempt social investment spending. The Democrats should unabashedly continue to call such proposals "class war" -- and propose alternative policies that benefit most people -- until the public recognizes the hypocrisy and cynicism of the Republican charge and it loses its power.

Slogans on the Full-employment (4% unemployment) standard of reference

Since almost all "classes" and geographical areas have now tasted job losses and long-term unemployment, this policy focus has perhaps the broadest appeal -- including to "Reagan Democrats," disillusioned union members, farmers, professional people and executives, as well as minorities -- and all the other reforms tend to ride on its coattails.

Use of the non-SS, 4%-unemployment-standardized Policy Budget expenditure pie-chart

This can be a powerful tool to illustrate Republican mis-allocation of budget resources. The interest cost slice can be subdivided to show the predominant portion due to the debt hangover from the previous Reaganite "borrow and spend" policy and previous High Unemployment deficits (caused primarily by inappropriate monetary policy). (This requires calculating the 4%-unemployment twin-deficit budget back to 1980.)

The "defense" (military) spending slice of the pie chart can also be subdivided to show the (relatively small) slice due to the Afghanistan operation and anti-terror actions, and the large amount due to unnecessary Cold War and nuclear war hangovers (and Congressional "military pork") that could have been (and still can be) "easily" eliminated without adversely affecting real US security

Incidentally, a significant part of "anti-poverty" spending, such as unemployment benefits, may have already been removed from this Policy Budget pie chart by transfer to the High Unemployment budget in calculating the Policy Budget on a "standardized" (4% unemployment) basis.

Slogans on Budget reform and balancing the Policy Budget

"Balance the budget" is a potential wedge issue for the Republicans -- between the genuinely fiscally responsible and the Reaganite ideologues who are intentionally fiscally irresponsible in pursuit of their goal to "reduce the size of government."

But so far it has been more of a wedge issue for the Democrats -- between the genuinely fiscally responsible (who look on large deficits and the resulting interest burden as a plague) and those whose fiscal irresponsibility derives from a misinterpretation of Keynes, who look on deficit spending as a way to finance needed social goals in the face of Republican tax-cut mania, who look on the SS Trust Fund as merely an accounting device and would like to cut the "regressive SS payroll tax," and who divisively call the other Democrats "green eyeshade fiscal responsibility zealots."

Hopefully, the dual deficit budget reform will make it possible for both camps to understand the more comprehensive view of Keynesian theory and policy that cuts through the conflicting slogans to reconcile these opposing views and bring many non-ideological Republicans along.

  1. "Transparency in federal budget and monetary policy."

  2. "Fiscal responsibility through budget transparency."

  3. "No more Enron budgets -- give us a budget we can understand."

  4. "No more Enron budgets -- budget reform now."

  5. "Make the federal budget and monetary policy understandable to ordinary people (taxpayers)".

  6. "Jump-start real recovery and end the wasteful and irresponsible High Unemployment deficits."

  7. "End the High Unemployment Deficit."

  8. "Back to 4% unemployment before the 2004 election." Since Republican policies can't do that and the Democrats potentially have a plan for doing that, this slogan gives a Democratic advantage.

  9. "Balance the Policy Budget." -- by ending tax cuts for the wealthy and by a gradually increasing the energy tax to achieve energy independence by 200x."

  10. "No permanent tax cuts until the (Policy) Budget is balanced." (As a Democratic mantra, this slogan could play somewhat the same role that Clinton's "save SS first" played in resisting Republican tax cuts when unified budget surpluses first appeared in 1998.)

  11. "No budget-busting (deficit-increasing) permanent tax cuts until unemployment is back below 4%."

  12. "No budget-busting permanent tax cuts until the Iraq problem is resolved."

  13. "Stop Bush class-war budget-busting tax cuts for his millionaire and billionaire friends."

  14. " Coordinate 'Fiscal stimulus' tax cuts with monetary policy."

  15. " Target 'Fiscal stimulus' tax cuts to benefit mainly lower and middle income workers who will spend the money quickly."

  16. " Front-load 'Fiscal stimulus' tax cuts and include automatic mechanisms for gradual reduction as the economy recovers."

  17. "The Democratic Party is the party of fiscally and economically responsible budgets."

  18. "The war against international terrorism and for Saddam disarmament is not a valid excuse to renew the irresponsible Reaganomics that wrecks the federal budget."

Monetary policy slogans.

Hark back to earlier populist eras when monetary policy was central, with slogans like "Free Silver," and "Cross of Gold." Potential new slogans:

  1. "Reliable money supply." (Not reduced by slowdown of private borrowing.)

  2. "Transparent monetary policy." (The public has a right to know what the Fed is doing.)

  3. "100% money, and make it grow."

  4. "Fed: Stop forecasting the economy; manage it."

  5. "Make the 'business cycle' and recessions obsolete."

  6. "Unemployment hurts more than inflation."

  7. "Target full employment, not zero inflation."
Other slogans
  1. "Don't let Detroit and Big Oil cause global warming -- we can afford an energy tax."

  2. "End oil wars and Big Oil control -- create a UN Oil Commerce Authority."

  3. "We want reliable pensions -- no more stock market boom and bust."

  4. "Fast mass transit -- not traffic jams."

  5. "Full employment AND low inflation."

  6. "Full employment AND a balanced budget."

  7. "End campaign financing bribery and corruption with public financing of national campaigns."

  8. "He who pays the piper calls the tune -- public campaign financing."

  9. "End 20 second attack ads -- let's have real political debates on free TV time".

  10. "End health care chaos -- start national health service."

  11. "Stop terrorism -- end world poverty and exploitation."

  12. "No more stock market bubbles -- end stock-option executive bonuses."

Some of these pictures and slogans could be critical to a great 2004 Democratic victory.

Appendix A.
Implications of the Social Security Trust Fund Projection

If we seriously think about it, the chart of the SS Trust Fund tells us several very interesting things.

The 4 1/2% "low cost" projection tells us that if we maintain a stable full employment economy -- so that everyone who wants a job has one, and no one is forced into unwilling SS retirement (because employers have been forced by the tight labor supply to tailor enough jobs to meet the needs and desires of older workers) -- the present SS system would be financially viable for the full 75 years without any increase in FICA rates or cut in benefits. This is because the full-employment relationship between FICA receipts and benefit payments before the Baby Boom peak enables the SS Trust Fund to become large enough so that the interest income on its asset portfolio adequately supplements the post-Baby Boom lower FICA receipts.

In fact, as the chart indicates, this large interest income would continue even after the Baby Boom bulge, so that post-Baby Boom benefits would also continue to be partly financed by Policy Budget interest payments, rather than entirely by current FICA receipts. To avoid this, and reduce its interest burden on the budget, the present FICA rates should be slightly reduced, or scheduled benefits increased.

The privatizers' charge that the SS system has "huge unfunded liabilities" is irrelevant because the US government, unlike a private business, is highly unlikely to ever go bankrupt. Therefore, SS needs to be "funded" only for major changes in the size and age structure of the labor force, such as caused by the post-WW II Baby Boom.

If fiscal responsibility brings the Policy Budget to balance and full employment eliminates the High Unemployment Deficit, and the Treasury uses the current SS surplus to redeem outstanding public debt, the 4 1/2% SS Trust Fund buildup will redeem most of the public debt before the buildup is complete, and will then need to buy private bonds and mortgages. But this will actually have two benefits: it will reduce the interest burden on the non-SS budget, and it will provide more funds directly to the private capital market.

The macroeconomic implications of the necessary gradual but massive liquidation of public and private pension-fund reserves to finance the Baby Boom increase in benefit payments after about 2015 are seldom discussed. But they are very important -- especially for 401(k) plans and other pension plans heavy in stocks.

To meet the increased benefit payments, the US Treasury and other issuers of the retirement fund securities will have to come up with the money to pay them off. The US government can do this either by running a current non-SS budget surplus or by new borrowing from the public. Presumably private fixed-contribution pension funds invested mainly in bonds and mortgages will have laddered their maturities to come due when they expected to need the money, and the borrowers will need sufficient income then to pay off these securities. This will require an above-normal increase in public saving. In a full-employment economy that could probably be achieved without too much financial strain, but not in a high-unemployment depression.

For 401k and other pension funds heavily invested in stocks, the problem will be more acute. With a smaller population in the high-saving age range, the demand for stock purchases will presumably be smaller than during the Baby Boom 90s -- at the same time that the pension funds' need to sell stocks will be much increased. This suggests declining stock prices, even if the economy is relatively prosperous, so that those funds that assumed rapid capital appreciation for their income will tend to be disappointed -- as they have been during the past two years for other reasons.

Politically, this probability is an important reason to avoid privatizing even a small part of SS. If people want to gamble with their retirement income, it should be with a stock supplement to SS, not the basic system.

This is also another important reason for public policies -- such as making dividends a tax-deductible expense combined with a tax on undistributed profits -- to encourage corporations to pay out a larger proportion of their profits in the form of dividends (as they used to in earlier periods) rather than investing them all in physical investment, merger acquisitions or stock buy-backs to induce more rapid stock price appreciation. For most people, assured steady dividends are a sounder basis for retirement income than unreliable capital gains.

  1. For theoretical background and longer articles on these, see the list of Policy Tools documents.
    (back to ref 1)
  2. To do this right requires estimating a separate 4% unemployment version for each of the economic and financial factors used in the overall SS projection, some of which -- such as the effect of 4% unemployment on interest rates and inflation -- will require some careful non-partisan research.
    (back to ref 2)
  3. The MDR is, of course, the reciprocal of the traditional "velocity" ratio, but is more meaningful conceptually and thus more useful for empirical analysis and policy.
    (back to ref 3)
  4. The idea that there is a big time lag between changes in money growth and economic growth is mainly a confusing myth. With this formula, when there is a sharp change in money growth, it may take time for the "slug" of new money to get fully into circulation, but that "slug" raises the MDR, which causes the formula to call for a compensatory increase in money growth, reducing the effective time lag.
    (back to ref 4)
  5. The non-standardized version of this deficit is usually called the "structural" deficit. Note that this Policy Deficit is higher than the CBO estimate of the standardized non-SS deficit, because the CBO still uses, as their definition of potential (full-employment) GDP, the obsolete and analytically inappropriate 5.2% NAIRU (Non-Accelerating-Inflation Rate of Unemployment), so that less deficit is transferred to the residual, "economy-caused" budget component.
    (back to ref 5)

Comments, arguments, corrections, suggestions are invited.

Last revised: December 16, 2002
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