Final Update:
Are President Obama’s stated objectives in the State of the Union Address achievable? Yes, however, not by any means pursued by any administration since 1974.
The sequester is a subset of the fiscal cliff. As President Obama has stated, it’s a “complex” situation.
However, it may not be as complex as thought. It may be straight-forward and the complexity may be the mental manipulation attempted to ignore the obvious. Procrastinators and addicts are always looking for an alternative to get the next fix for whatever their habit may be.
Economist Richard Wolf appeared on the Bill Moyers Show and discussed capitalism hits the fan. Identified as central to the current economic situation are two camps of economists; those employed by essentially unproductive entities such as government, and those employed by businesses that must produce a profit. A similar association regarding economists was discussed on the Ken Prewitt show on 2/25/2013.
Essentially the discussion is this:
Economists employed by government entities have little commercial experience and rarely suffer consequences for incorrect projections. Economists employed by commercial businesses must produce fairly accurate projections as profitability in operations can only be achieved through a balance of market demand and supply produced by their businesses.
Economists in the government sector are frequently inaccurate, and the timing and direction of their projections can be wishful and years-off. Missing projections can have a significant impact on decisions made by business to invest or disinvest.
Economists in the commercial sector are usually more accurate out of a necessity for the business to survive and profit. Missing projections by a few pennies per share on a quarterly earnings report can move the value of the stock down markedly.
How do the two camps differ in interpreting data:
Government economists receive relatively historical (dated) information. Reports to the government are essentially from external entities, and may be on employment, sales and revenues based on daily, weekly, monthly and annual basis. Government generally fails to report accurately or timely on internal activities.
Commercial economists can receive real-time reports on their business activities and adjust as needed. They also use the same external reports government receives to assess the impact of government and competitors business, labor and other resource availability in making decisions.
Review of the current problem through definition and a graphical example:
1). The Federal Reserve has a normal function of controlling growth in the economy to between 3-4% annually. This range is expected to provide for limited inflation in the gross domestic product (GDP) while at the same time providing additional tax revenues to support government programs.
Maintaining a 3-4% growth rate in a normally balanced economy is achieved by varying the interest rates through the availability of money for lending in the banking system.
2). Unfortunately the economy can vary between expansion and contraction and tax revenues will also vary. However, government budgets are based on expansion at the tops in GDP growth. Declining tax revenues occur when the GDP contracts. This is a normal business cycle effect.
Contraction of revenues creates a shortfall in funds available to support previously passed legislation. The net effect is to cause government to borrow to close the gap. The result then becomes a compounded rate producing an ever growing deficit.
3). The abnormal and artificial growth rate in GDP achieved as a result of the Clinton administration’s actions of locking U.S. trade changes to the world trade organization (WTO) via the permanent normal trade relation (PNTR) with China, wildly inflated the rate of GDP growth.
This action significantly increased the sum of tax revenues available for long-term commitment to government programs. Since this growth rate was based on sub-prime borrowing, it could not continue indefinitely, and severe contraction in GDP and tax revenues followed.
The net effect was to significantly increase the compounded rate of government borrowing to cover previously passed legislation. The deficit had expanded beyond ability of GDP and tax revenues to overcome.
Graphic: CBO – Revenues and Outlays as a percent GDP
Comment on the chart. For the period of 1974 – projected 2021 average outlays exceed average revenues. The exception being the period of 1996 – 2004, during the period of boom and bust in the housing market (sub-prime lending), the failure of which caused the collapse of the economy.
Note 1: Locking the U.S. to the WTO prevented the Bush administration, and now the Obama administration from taking decisive action regarding trade inequities. The result is $20 Trillion lost in GDP and $10 Trillion lost in tax revenues.
Note 2: Over ten million jobs have been lost over this action. When the cost of unemployment insurance, food stamps and other assistance is added to the price of imported goods and services, the total cost of imports well exceeds the cost of domestically produced goods and services.
Some will say that total exports have increased significantly. Yes, this is true. However, the trade gap continues at nearly $500 Billion annually, which equates to a loss of $2 Trillion in domestic GDP and $1 Trillion in lost tax revenue.
In this respect, the Clinton economy was a myth.
Refer also to:
For a complete and confusing definition of the fiscal cliff