Goodbye Keynes, Hello Coolidge
Paying off the national debt used to be an obsession of Calvinist fundamentalists on the fringes of the Republican Party, but this year it is the boldest banner held aloft by the Democratic Party's presidential nominee. If Al Gore is taken at his word, his presidency will amass trillions of dollars in extra revenue and devote most of it to paying down the federal debt. That would represent a very conservative agenda--and an ideological sea change for the Democrats--but Gore and his economic advisers have persuaded themselves that the New Economy is real and changes everything. A conservative fiscal policy, they assert, is now the progressive thing to do. Skeptics, myself included, would say more darkly: Goodbye Keynes, hello Coolidge.
Some Gore supporters, including some liberals, wave off any criticism of Gore's strategy because they essentially don't believe it's real. They figure that either the $3.4 trillion in federal operating surpluses projected for the next decade will never materialize or the Vice President's devotion to debt reduction is simply clever positioning for the campaign. The stratagem was originated by Bill Clinton in early 1999 to stymie Republican demands for huge tax cuts, and Gore uses the issue in the same way. It also gives him protection against the "liberal big spender" label. The political benefits are real enough, but the evidence suggests that Gore is also a true believer. His advisers insist we have entered a new era, in which fueling financial markets with abundant investment capital takes precedence over major government spending programs. If the insights of John Maynard Keynes are still relevant to fiscal policy, Gore's pay-down-the-debt program could do great damage to economic prosperity.
For better or worse, Gore is the inheritor. As a candidate, he is still operating with both Clinton's people and Clinton's old strategy. The economic advisers are all veterans of Clinton's New Democrat regime, led by Treasury Secretary Lawrence Summers and Gene Sperling at the White House, plus former Treasury Secretary Robert Rubin, who's now at Citigroup; former Federal Reserve Vice Chairman Alan Blinder at the Brookings Institution; and former Council of Economic Advisers chair Laura D'Andrea Tyson, who is back at the University of California, Berkeley, as dean of the business school. One ought to add the name of Alan Greenspan, the Republican Chairman of the Federal Reserve, because Gore, like Clinton, is expected to rely on his very conservative counsel and never--ever--challenge the Fed's management of the economy.
The first problem is that economic circumstances have changed dramatically since Clinton first deployed the debt-liquidation strategy, but Gore's thinking has not. The nineties are over and the deficits are gone. Fiscal balance has been achieved, even overachieved. But Gore intends to keep on fighting the last war, establishing Democrats as the party of fiscal responsibility, and he has a new theory to justify his commitment. Eighteen months ago, the federal budget was still in deficit but heading toward major surpluses, estimated at nearly $1 trillion during the next decade. Now the projections are for $3.4 trillion in surpluses (not including $2.4 trillion in Social Security surpluses), a perennial stream of excess revenue that every year would take a bigger bite out of the private economy than the government needs. Instead of spending the extra money in ways that boost consumer demand and business profits, Gore would steadily retire Treasury bonds and improve the government's balance sheet. In his theory, this frees up capital for private investment, and that creates more jobs, better productivity. In theory, the shrinking government debt should lower interest rates for economic activity of every sort. The odd part, however, is that Gore's "new economics" implicitly accepts the same old logic that used to be called "trickle down" when conservatives proposed it. Financial capital first; the people benefit later. It's a long way from the activist government that liberals inherited from Keynes.
An enthusiastic explication of Gore's "new economics" was delivered by Larry Summers in a professorial speech on May 10 in San Francisco. "The advent of a new economy fundamentally changes the stakes involved in the choice of our nation's fiscal policy," he declared. "In a world that is rich with investment opportunities, and where investors are all able instantly to compute the implications of changes in policies five and ten years out--the importance of running a surplus and pursuing prudent policies becomes much, much greater.... Like tax cuts, reducing publicly held debt also delivers substantial direct benefits to the pocketbooks of American families: both by reducing the burden of future payments on interest and principal, and by helping mortgage holders by putting downward pressure on long-term interest rates.... The bottom line is that the more we save through debt reduction, the more that America's businesses will be able to invest in the technologies that will shape our future."
Rough translation: A tight, even austere fiscal policy of paying down debt will reassure investors about the future and also increase the supply of private capital so that market interest rates will be lower and everyone should benefit, including the humble homebuyer. This theory amounts to choosing a different "Keynesian" channel through which the government attempts to stimulate the private economy. Instead of public spending, it's the financial markets. One might ask an awkward question: If fiscal surpluses produce such benefits, why are market interest rates rising again now, when federal surpluses are also surging? The short answer, of course, is that the Federal Reserve is alarmed by the danger of too much prosperity, so it's stepping on the monetary brake, regardless of the soundness of that fiscal policy.