The New Empire of Debt: The Rise and Fall of an Epic Financial Bubble (31 page)

We may be the good guys in the here and now, the old-timers would have said, but if we want to be the good guys in the future, we have to do good things. They would have recalled that people who minded business other than their own almost always came to tears. Men are neither good nor bad, the old conservatives would have said, but subject to influence.

Traditional American conservatism was not a doctrine of world improvement, but a mood of skepticism toward all “isms” and empire builders.

Political conservatism was undergirded by two important principles. The first principle held that since most innovations are failures, people should view any proposed change to the traditional order with skepticism. That doesn’t mean you can’t innovate in a society, but the burden of proof should always be on the world improvers to show that their proposed change will make things better—something they can almost never do.

The second principle of old-time conservatism was the political equivalent of Adam Smith’s observation about free markets: “The knowledge required to coordinate and direct a complex, dynamic society is clearly beyond any individual or bureaucratic machine.” In short, central planning doesn’t work very well, neither in Washington nor in Baghdad. But we add our own little corollary to the knowledge principle—phony knowledge increases the larger the undertaking and the farther you get from it, by the square of the distance and the cube of the scale. That is why the old-time conservatives were suspicious of any grand plan to improve the world—even if it promised to make the world more free.

Old time conservatives didn’t believe in “freedom.” . . . “Just don’t tell me what to do,” they say.

The world can be improved; we don’t deny it. But the only improvements that make the place better are those that remove the eyesores and prevarications of previous improvers. Ronald Reagan’s genius was that he was able to see that high taxes and regulation did not make the world a better place, but a worse one. Milton Friedman’s three-part formula for better government—cut taxes, cut taxes, cut taxes—seemed like a decent solution.

Reagan had the right instinct. “Get big guv’mint off our backs,” was almost his campaign theme song.When he had the chance, he often did the right thing. Faced with a strike by air-traffic controllers—the only union to back his campaign—he fired 10,000 of them.When he saw some “improvement” created by his predecessors, his instinct was generally to get rid of it.

The trouble was that once in Washington, the actor still remembered his lines, but he lost the plot. Almost before he could get his cowboy boots off, he was making improvements of his own.

This was especially notable in what is known as
foreign policy.
Republicans had learned their lesson from the Vietnam War. They still sought to maintain the empire, but by fairly passive means. They merely hoped to “contain” communism—which they saw as a menace. But Reagan fell under the spell of the proto-neoconservatives in Washington. Not content to leave things alone, he decided he could improve the world by actively trying to defeat communism.

This is celebrated as a great and good victory. In her comments on Reagan’s death, Britain’s Maggie Thatcher said he would be mourned by “millions of men and women who live in freedom today because of the policies he pursued.”

Maybe this is true. Maybe it is not. It is impossible to know what might have happened had Reagan left things alone. Most likely, communism would have fallen apart anyway, perhaps sooner. When a man’s investments go up, he is a genius. He who failed to invest is seen as a fool. By contrast, when investments go down, it is because of events that could not possibly have been foreseen. Likewise, in politics, the link between action and consequence is forged in a way that always flatters the activists. If something turns out reasonably well, it is because some world improver took action and made it that way. If something turns out badly, it is because someone failed to act when he should have. It is always the activists who get the monuments. Abraham Lincoln is credited with having abolished slavery—at a cost of 618,000 American lives, 2 percent of the entire population. (An equivalent death toll today would wipe out 6 million Americans.) Everywhere else in the world, slavery was abolished—at about the same time—with hardly a single corpse.The Great Emancipator might better be cursed than praised.

Likewise, Woodrow Wilson is given credit for all manner of extravagant improvements. People rarely mention that he almost single-handedly brought about World War II with his meddling in World War I. Instead, when the subject of World War II comes up, Neville Chamberlain’s name arises almost immediately.The poor man gets the blame for trying to avoid war—that is, for not taking action when he should have.

Reagan “also helped engineer a huge surge in American patriotism,” writes Ross MacKenzie.“The Carter years were a period of American self-doubt about the economy and about American power (with the memory of Vietnam still tormenting most policymakers). Mr. Reagan set about wiping this away. He increased military spending by 25 percent between 1981 and 1985. He talked to the American people, not about malaise (as Mr. Carter had done), but about ‘morning in America.’ By the end of his second presidency, much of the talk about American decline had gone out of fashion: the country regarded itself once again not only as the world’s greatest superpower, but also as the world’s most dynamic economy.”
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Soon there was no trace of self-doubt. Instead, we saw a bubble in confidence. That alone would be no disgrace, but it came with the most immodest plans for world improvement and the biggest rush of liquidity the water planet has ever seen.

“. . . As we begin, let us take inventory,” said Ronald Reagan at his inauguration. We find that his head and heart were in the right place; he sought, at least so he claimed, not to praise the improvements of the past, but to bury them.

We are a nation that has a government—not the other way around. And this makes us special among the nations of the Earth. Our Government has no power except that granted it by the people. It is time to check and reverse the growth of government which shows signs of having grown beyond the consent of the governed. It is my intention to curb the size and influence of the Federal establishment and to demand recognition of the distinction between the powers granted to the Federal Government and those reserved to the States or to the people. All of us need to be reminded that the Federal Government did not create the States; the States created the Federal Government.

Now, so there will be no misunderstanding, it is not my intention to do away with government. It is, rather, to make it work—work with us, not over us; to stand by our side, not ride on our back. Government can and must provide opportunity, not smother it; foster productivity, not stifle it.

If we look to the answer as to why, for so many years, we achieved so much, prospered as no other people on Earth, it was because here, in this land, we unleashed the energy and individual genius of man to a greater extent than has ever been done before. Freedom and the dignity of the individual have been more available and assured here than in any other place on Earth.The price for this freedom at times has been high, but we have never been unwilling to pay that price.

It is no coincidence that our present troubles parallel and are proportionate to the intervention and intrusion in our lives that result from unnecessary and excessive growth of government. It is time for us to realize that we are too great a nation to limit ourselves to small dreams.
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Ronald Reagan called himself a conservative. This part of his inaugural address made us think he really was one. But people come to believe what they must believe in order to play their roles—even conservatives. Reagan’s real revolution lay in redefining conservatism as an activist, imperial creed. First, the neocons took over foreign policy. Soon, Americans were stirring up trouble everywhere, from Latin America to Afghanistan.Then, they took over domestic policy. In a few cases, the ghastly remnants of previous improvers—such as 70 percent top marginal rates—were knocked over. In more cases, new edifices were built up. But the major failure was that the sharp tax cuts of 1981 were not followed by sharp spending cuts. Instead, spending went up. And not just on defense. Reagan had pledged to abolish the Department of Education. Instead, he increased its budget by 50 percent.

The Reagan Revolution transformed the Republican Party. Rather than continuing to fight a rearguard action against leftist activists, Republicans were emboldened to take the lead, becoming activists themselves.This they did by relying on a monumental fraud.

Murray Rothbard watched Republicans scam themselves. He wrote:

In the spring of 1981, conservative Republicans in the House of Representatives cried. They cried because, in the first flush of the Reagan Revolution that was supposed to bring drastic cuts in taxes and government spending, as well as a balanced budget, they were being asked by the White House and their own leadership to vote for an increase in the statutory limit on the federal public debt, which was then scraping the legal ceiling of one trillion dollars.

They cried because all their lives they had voted against an increase in public debt, and now they were being asked, by their own party and their own movement, to violate their lifelong principles. The White House and its leadership assured them that this breach in principle would be their last: that it was necessary for one last increase in the debt limit to give President Reagan a chance to bring about a balanced budget and to begin to reduce the debt. Many of these Republicans tearfully announced that they were taking this fateful step because they deeply trusted their president, who would not let them down.
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“Famous last words,” wrote Rothbard.

In a sense, the Reagan handlers were right: there were no more tears, no more complaints, because the principles themselves were quickly forgotten, swept into the dustbin of history. Deficits and the public debt have piled up mountainously since then, and few people care, least of all conservative Republicans. Every few years, the legal limit is raised automatically. By the end of the Reagan reign the federal debt was $2.6 trillion. As of January 2009, it was $11 trillion.That is merely the current debt. As we will see later, when Treasury Secretary Paul O’Neill totaled up the present value of future obligations minus expected tax revenues, he came to a figure more than four times that large.

Before the Reagan era, conservatives were clear about how they felt about deficits and the public debt: A balanced budget was good, and deficits and the public debt were bad. In the famous words of the left-Keynesian apostle of “functional finance,” Professor Abba Lerner, there is nothing wrong with the public debt because “we owe it to ourselves.” In those days, at least, conservatives were astute enough to realize that it made an enormous amount of difference whether—slicing through the obfuscatory collective nouns—one is a member of the “we” (the burdened taxpayer) or of the “ourselves” (those living off the proceeds of taxation).

Since Reagan, however, intellectual-political life has gone topsy-turvy. Conservatives and allegedly “free-market” economists have twisted themselves inside out trying to find new reasons why deficits don’t matter.

Today, if you were to pose the question to the small-town Republican, you might still find a faint residue of the Old Religion. But the poor man has been betrayed by his party, by his representatives, by politics itself, by the lure of empire, and by his own vain and fatal urges. He has come to believe what he must.

There were four key elements to Reaganomics: Restrict the money supply to slow inflation (admirably carried out by Paul Volcker at the Fed). Cut taxes (a 25 percent across-the-board tax cut was enacted in 1981). Balance the budget by controlling domestic spending. (A complete failure—deficits grew larger than ever.) And reduce government regulation. (Ditto.)

The first two objectives were more or less achieved. They produced more or less what Milton Friedman expected. But neither was an activist measure. Both merely undid some of the worst damage done by previous officeholders. Lyndon Johnson, Richard Nixon, and Jimmy Carter had made a mess of the economy. Ronald Reagan and Paul Volcker helped clean it up. But even the cleanup lacked the necessary suds and elbow grease. Instead, the dirt and clutter were mostly let alone, while new trash was heaped on.

The big cut in taxes gave people more money to spend. Consumers began a buying spree, while government borrowed the money to fund the deficit.

Where did the extra spending power come from? Few people asked. If they had thought about it, they would have realized that, collectively, they were merely going further into debt to upgrade their standards of living. If they had reflected on it deeply, they would have realized that they were running up bills that future generations would have to pay; they were spending money that their children and grandchildren hadn’t earned yet. For what was a national debt, but an intergenerational obligation, a burden placed on infants by their parents and grandparents?

Hardly anyone thought about it then—or since.

Reagan’s
supply-side economics
was meant to be different from Keynesian economics in that it celebrated the power of the free market to create wealth. If only the restrictions imposed on the economy by previous generations of world improvers could be removed, they said, the economy would boom and people would get rich.

Thus, it came to be that taxes were cut and the economy boomed. But what the new supply-siders had done was nothing more than administer an old-fashioned Keynesian boost. John Maynard Keynes, a British economist of the early twentieth century, had given world improvers a tool. He believed that nations could be winched out of recessions by easy credit and government spending. When private spenders eased off, he noted, government could take up the slack—by running deficits.Where would the money come from? He expected governments to run surpluses in good times so they would have money to spend in bad ones. Had government actually done so, the Keynesian system would have at least been honest. But this was the part the politicians never particularly liked, and the part of his plan they never could quite follow. It was all very well to spend money. Only curmudgeonly conservatives complained about that. Otherwise, spending money made everyone happy. But
not
spending money was another matter. Not spending meant less bread and fewer circuses, and fewer clowns on the public payroll. It meant explaining to voters that they wouldn’t get the new road or new medical services that had been promised. It meant lower demand and less new money in circulation, the very opposite of the boom everyone loved so much.