The Great Deformation (21 page)

Propagators of the myth that Reagan cut domestic spending have attempted to deny this, dismissing the Schweiker plan meltdown as historically insignificant on the grounds that it was flawed and hurried. Yet the historical record proves otherwise.

There may have been a better plan than the ill-fated Schweiker package, but none has been seriously proposed for three decades now. Indeed, the one episode of major legislative action on Social Security—the 1983 Greenspan Commission solvency plan—proves that the door to significant retrenchment of social insurance had now been slammed shut.

The Greenspan Commission plan has been hailed as a bipartisan success, and appropriately so. It did the only thing bipartisan plans can do: it raised taxes substantially—through a higher payroll tax rate, a substantial
rise in the taxable wage base, and by forcing state and local government employees into the system.

These measures did keep the mythical “trust funds” solvent in the intermediate term. Additionally, the overall plan attempted to camouflage its front-loaded pile of taxes by means of a well-advertised but modest increase in the retirement age. The latter incepted twenty years from the effective date and did not become fully implemented for forty years, which is to say, not even yet. Thus, in the fiscal here and now the Greenspan plan was a tax increase pure and simple.

Nor did the core tax-raising piece of the plan have only a minor impact. The payroll tax share of GDP was boosted by nearly a full percentage point. Accordingly, middle-class families were permanently shuffled deeper into the regressive zone of the US taxation system.

The average payroll tax burden for middle-income families rose from 9.5 percent of earnings in 1980 to 11.8 percent by 1988. By contrast, the income tax share had fallen and by 1988 was down to 6.6 percent of middle-class earnings, reflecting a burden that was now barely half the payroll tax extraction.

In those days, the bipartisan majority which passed the plan still believed that government had to pay its bills. But in raising taxes on the working class to do so, there was some considerable irony in it.

RONALD W. REAGAN: TAX COLLECTOR FOR THE WELFARE STATE

At the time the Schweiker plan had been approved by the White House, President Reagan had stoutly insisted that he would not go the easy route of tax increases to paper over the system's insolvency for just a while longer. Indeed, he had a deep disdain for the 1977 Carter legislation which did just that: “They gave us the largest tax increase in history and said it would be sound until the year 2030,” the president had remarked. “Now we're here four years later and it's already bankrupt.”

Nevertheless, two years later Ronald Reagan fulsomely praised the bipartisan tax-raising plan, using nearly the identical words that Jimmy Carter had employed about achieving long-term solvency. But in assuring the public that Social Security had (again) been made solvent for a generation, the president had crossed a fiscal Rubicon that has been denied by his hagiographers ever since. The truth is, once he abandoned the Schweiker plan in favor of the bipartisan solvency package, Ronald Reagan became the tax collector for the welfare state—no longer its bête noire.

In short, the Schweiker plan and the Greenspan plan were bookends in
time which captured a turning point in fiscal history. After that, the true issue was how to finance the welfare state efficiently, fairly, and with minimum damage to the American economy.

To be sure, a minority of junior backbenchers, led by Newt Gingrich, voted against the Greenspan plan in March 1983. For decades thereafter, they denounced any recidivist tendencies within the GOP toward the old-time fiscal religion of balanced budgets as evidence of wanting to do what Ronald Reagan actually did; namely, become tax collectors for the welfare state.

But the questions that subsequent history has proved they could not answer were strikingly evident even then. There was no alternative to higher taxes except to strike at the social insurance core of the welfare state. If not Ronald Reagan, who? If not in May 1981, when?

In any event, history rolled along its chosen course and the American welfare state did not shrink. Outlays for domestic programs in 1986 totaled $516 billion, a figure only 9 percent smaller than the $568 billion that would have been spent under the inherited Carter policies.

The main reason for this tepid reduction is that fully 55 percent of the Welfare State budget even then consisted of social insurance: Medicare, Social Security, unemployment insurance, and other non-means-tested income support programs. Quite evidently, there had been no Reagan Revolution on the social insurance front.

The modest 7 percent reduction that actually had been realized versus the inherited Carter baseline represented minor benefit tinkering and a one-time three months' delay of the Social Security cost of living adjustment (COLA). In the main, however, these savings were achieved by the imposition of un-Reagan-like price controls on Medicare hospitals.

Another sizeable portion of the domestic budget was comprised of spending for veterans and agriculture. These programs were blessed with strong Republican constituencies, and, in turn, were favored with only a token 2 percent reduction.

Even out-and-out “welfare” programs like food stamps, Medicaid, and Aid to Families with Dependent Children (AFDC) had been reduced from the Carter level by just 10 percent. There turned out to be fewer welfare queens and more arguably needy participants in these programs than Republican campaign rhetoric had implied.

At the end of the day, the only deep spending reduction that actually occurred was in a tiny corner of the budget consisting of Great Society employment and community services programs, which were shrunk by 25 percent from the Carter levels. Unfortunately, these savings amounted to
just $12 billion annually or hardly 1 percent of the $1 trillion in total federal outlays during 1986.

And so it went. The Reagan Revolution turned out to be nothing of the kind when it came to domestic spending. It did not even constitute an era of meaningful reform. Instead, a few programs were pruned, no new ones were started, and the vast bulk of federal activities carried on as before.

In fiscal terms, the domestic welfare state remained at 15.5 percent of GDP. That was just a hair below where the Carter administration had left it and where it remained through the end of Bill Clinton's second term.

THE GROWTH CURE FOR DEFICITS: SUPPLY-SIDE FANTASY

A bastardized variation of supply-side theory has been embraced by Republican politicians in the years since Reagan. They have not explicitly claimed that deficits are harmless—they have just attempted to define the issue away. The argument has been that deficits are essentially the by-product of a weak economy and that the solution, therefore, is to undertake policy actions directed at growing the GDP, not shrinking the budget columns.

Not surprisingly, the way to get more GDP growth is claimed always and everywhere to be through lower taxes. In due course, fiscal deficits disappear because the economy grows the revenue line back to balance. The trouble with this shibboleth is that it was put to the test and failed a long time ago, during the Reagan-Bush recovery after 1982.

One of the longest sustained GDP expansion cycles on record began after the third quarter of 1982, when the Volcker cure had finally crushed the inflationary fires. During the following thirty-one quarters through mid-1990, real GDP expanded on an uninterrupted basis and for all practical purposes the US economy reached full employment by the end of the period.

In fact, the real GDP growth over this expansion averaged 4.3 percent per annum: the highest rate for any comparable period after the Second World War save for Johnson's artificial “guns and butter” boom ending in 1968. Still, cumulative deficits during this exceptional cyclical recovery cycle—fiscal 1983 through fiscal 1990—totaled $1.5 trillion. That was a previously unimaginable result in a peacetime economy.

Moreover, by the eighth year of the expansion, the federal deficit was still over 4 percent of GDP. In short, it is not reasonable to expect a better macroeconomic backdrop than this eight-year expansion, yet spending remained close to 22 percent of GDP and revenues were at 18 percent of GDP right up to the downturn in the second half of 1990. The deficit gap was plain and simply structural—the result of policy choices, not a weak economy.

Notwithstanding this eight-year string of positive GDP quarters, the federal borrowing requirement had averaged 4.2 percent of GDP. That figure was literally off the charts compared to pre-1980 experience. During the quarter century prior to Reagan's election, the federal deficit had averaged only 1.0 percent of GDP, and that interval included four separate recessions rather than a continuous up-cycle of expansion.

So the “grow your way out” theory had been invalid from the very beginning. Yet by embracing it in the decades since then, congressional Republicans have transformed their real job, managing the finances of the US government, into a sub-branch of statist pretension; that is, centrally managing the growth of the private economy through chronic fiddling with taxes.

THE TRUE REAGAN LEGACY:

FISCAL FREE LUNCHES FOR ALL

These numbers are bad enough, yet they fail to capture the more significant fiscal legacy of the Reagan Revolution. The more profound outcome was that the old-time taboo against chronic deficit finance in peacetime had been jettisoned by the Republican Party. At least since the New Deal, the GOP had been its champion and enforcer in the push and pull of what had been a tolerable two-party equilibrium in budget politics.

By contrast, the nation's fiscal equation would now be drawn and quartered. Even as the liberal spenders continued to push outlay levels higher, the conservative party would become chronically prone to pull the revenue level lower.

The fiscal data for the twelve years of Republican rule under Reagan and Bush show how completely the deficit finance taboo had been routed. There was red ink for twelve straight years, a pattern never before experienced in peacetime. As indicated, cumulative deficits during the period totaled $2.4 trillion, causing the national debt to triple.

A decade earlier, George Shultz and other Republican advocates of business-style Keynesian policies had convinced Nixon to embrace deficit spending in the guise of a “full employment budget.” Yet they had at least insisted on a rule of longer-term discipline; that is, any countercyclical deficits incurred during periods of business downturn were to be compensated by surpluses during the expansion phase of the cycle.

Under the new Reagan-Bush dispensation, however, it was all deficits, all the time. In fact, the average federal deficit during this twelve-year period was 4.3 percent of GDP, a level never even imagined by the most aggressive liberal Keynesians before 1980.

Surveying the giant deficits which had already been incurred by 1986 and the prospects for more of the same into the indefinite future, I found these developments alarming. In my White House memoir entitled
The Triumph of Politics,
I complained that the White House “was holding the American economy hostage to the politics of high spending and the doctrine of low taxes.”

From the vantage point of early 1986, it seemed certain that “the resulting massive buildup of public debt would eventually generate serious economic troubles … the White House claimed a roaring economic success…. Yet how can economic growth remain high and inflation low for the long run when the Administration's policy is to consume two-thirds of the nation's net private savings to fund the Federal deficit?”

It had been no exaggeration, therefore, to suggest that the nation had experienced a “lapse into fiscal indiscipline on a scale never experienced in peacetime. There is no basis in economic history or theory for believing from this wobbly foundation a lasting era of prosperity can actually emerge … At some point global investors will lose confidence in our easy dollars and debt financed prosperity, and then the chickens will come home to roost.”

Except that they didn't. Instead, for two long decades the nation seemed to be blessed with nearly uninterrupted real GDP growth, low and declining inflation, and a sustained bull market in financial and real estate assets with no parallel in prior history. The accompanying boom in mass consumption was startling in its breadth and opulence.

Later we would learn that this was all a simulacrum of prosperity: a house of cards that would collapse with stunning speed and violence. Yet while it lasted, this faux prosperity reinforced the wrong-headed narrative that the Reagan Revolution had been a success; that the 1981 tax cut bill had been the incubator of two decades of prosperity; and that fiscal deficits didn't matter.

As has been indicated, the massive Republican deficits after 1980, which reached their ultimate conclusion in George W. Bush's final trillion-dollar-bailout-nation era, had not been “on the level.” Beneath the economic surface, the pernicious force of printing-press money had been gathering volcanic momentum since 1971. And it was this unprecedented monetary deformation which finally accounted for both the debt-fueled illusion of prosperity and for the long, extended deferral of the day of fiscal reckoning.

CHAPTER 7

 

B
Y THE LATE 1980S, THE COMBINATION OF A STRONG ECONOMY
and big deficits presented a conundrum which the old-time fiscal religion could not explain. In violation of all the classical canons of sound fiscal policy, the deluge of Reagan-era red ink was being readily financed, with no apparent boost to inflation or interest rates and no visible harm to economic growth and investment.