My Reply to Senator Coburn

Here is my response to Senator Coburn's letter in the previous post. I do not make any claims of expertise in the field of macroeconomics. I am doing my best to understand, and I challenge everyone to pursue knowledge on their own from multiple sources. One thing I do feel strongly about is that our common sense about these matters can only be trusted when we understand the context correctly, and federal debt is a different animal than household debt. Therefore our common sense about our own household budgets alone is not enough when considering the federal budget.

Senator Coburn,

Thank you for the thrill of interacting with you on these vital economic issues! Although I disagree with many of your positions, I have always felt that you genuinely care and that you are a thinker. I hope that you will prove me right by giving the following ideas more consideration. As the father of two young children, I am deeply concerned that our leaders, such as yourself, will inadvertently shortchange our nation's future by pursuing a path of spending austerity, freezing the vital investment in our future that needs to be made now to insure American competitiveness for the coming generations.

You repeatedly claim that deficit spending by the federal government does not create jobs. I believe that this claim is false. For instance, the Congressional Budge Office states that millions of jobs and multiple percent GDP growth has come from the stimulus. One can search through the details at the following link:

http://www.cbo.gov/publications/collections/collections.cfm?collect=12

Government spending creates jobs by introducing new demand for goods and services into the economy, first by the government itself. Then the dollars paid for those goods and services do not disappear into thin air. Rather they end up as private assets in people’s pockets. When those dollars are spent, it continues that increase in demand, stimulating job growth in the private sector. Government spending may not be politically or aesthetically pleasing to some, but it is incoherent to say that it does not create jobs. All income comes from spending, so government spending creates income - jobs.

Federal spending is the introduction of new financial assets (money) into the economy. Taxation is the way that the government destroys excess dollars (or excess potential demand) to prevent too many dollars from existing, which could stimulate demand to the point that it could outstrip productivity and create excess inflation. Obviously, with our unemployment rate so high right now, our capacity for productivity is not even close to being fully utilized.

And this is the real irresponsibility going on right now. Despite the fact that demand-driven inflation is not even close to becoming a problem, we are not investing in our collective future by spending on science, technology, education and infrastructure. We are allowing our potential productivity, specifically in the form of workers and their skills, to atrophy.

Saying that our current deficit spending is generational theft makes little sense. Our children cannot send resources back in time to us anymore more than the baby boomers can send resources back in time to cover the much larger deficit spending of World War II. We must really think about what it actually means to “pay back” the debt of the federal government. I will use China, one of our “creditors” as an example.

Paying back China, paying back our debt, simply means exchanging China’s bonds for dollars (which are both forms of IOU’s). Then what happens? Nothing. Nothing until those dollars are spent. And what happens when those dollars are spent? It stimulates the economy. People buy our products and since spending equals income, it helps our employment rate to decrease.

People think that China (and other US “lendors”) have the better of us. But the opposite is true. China sends us real products, real resources, and yet they refuse to exchange the dollars they receive for products. So we are getting all the stuff. So “paying back” our debt means China buying our products instead of sitting on dollars or bonds. And they are free to do this at anytime, but for some reason right now, they don’t want to spend their dollars, then want to hold them in the form of government bonds.

So “paying back” our debt is simply turning one set of IOU’s (bonds) into another (dollars), which makes little difference until the dollars turn into demand (when they are spent). And inflation, the real risk, only becomes a problem when our prodcutivity cannot keep up with demand, hardly a problem now. If it did happen, there are many courses of action to deal with it.

You are right that the stimulus was not effective enough, but that is because it was far too small to deal with the downturn. Trillions upon trillions of dollars in potential demand evaporated with the housing and stock market collapses. The stimulus was hardly enough to offset that. We can’t say that ibuprofen doesn’t cure a headache when we only take half of one.

Your claim that public spending requires taking money out of the private sector is false. Once again, public spending puts new financial assets into the private sector. When the federal government spends, it does so by creating money out of nothing. When it taxes, it destroys money. This is operationally how it works, even if we SAY that the federal government taxes in order to spend. Where did the money being taxed originate if not with government spending?

So If the government spends more than it taxes, it creates money into the economy. Say it spends $20 more than it taxes. Then it sells a $20 bond to correspond to this debt (which it operationally does not have to do, but does so because of old laws corresponding to the age of the gold standard). The government has spent $20 into the economy, taken $20 out of the economy through a bond sale......so it’s equal right? No! Because a bond has been created - a new financial asset, which is very liquid. It pays interest and it can be borrowed against or sold. And people buying bonds are looking to save anyway, so it transfers their money from relative inactivity into the active hands of the recipient of the government spending. For instance, the government stimulates the economy by hiring military personnel with deficit spending and then sells a bond which simply puts money into a bond for a person who was looking to save it rather than spend it anyway. The new bond is created, and inactive money is transferred into active money.

But I agree completely with your point that the entrepreneurial spirit of American must be engaged. And the only way this will happen is with enough demand (dollars actively being spent) to stimulate the creativity of industrious American businesspeople. There is no money to be made if there is no money!

Thanks again for your time. I appreciate the genuineness with which you approach your job.

sincerely,

Steven Stark

My Response from Senator Coburn

I wrote Senator Tom Coburn a few months back. Here is his reply to me, which I received on Thursday. While I deeply disagree with almost all his points, I am very impressed that he wrote me such a substantive response. My next post will be my reply to him.

May 19, 2011

Dear Mr. Stark,

Thank you for your two emails in December regarding deficits and economics. I appreciate you writing to share your thoughts and I apologize for my delayed response.

There are many perspectives on the economics of government spending, some asserting that deficit spending is key to economic growth and some asserting it actually reduces it. Persuasive-seeming arguments could be made for any number of economic theories. The ultimate test of truth in economics, however, is how these theories play out in the real world. The reality is that virtually no nation that has consistently pursued a policy of deficit spending has improved their economic growth as a result.

Our own recent experience with deficit "stimulus" spending has confirmed this trend. When the Senate passed the American Recovery and Reinvestment Act of 2009 (H.R. 1, also called the "stimulus") 60-38, and I was one of 38 senators who voted against this bill. I opposed this legislation because it represents the worst act of generational theft in our history. The $787 billion cost of the bill was funded entirely by borrowed money, meaning that our children will pay the cost of the current Congress' irresponsibility.

Equally important, I was strongly convinced the stimulus would not create jobs. The current administration promised taxpayers that the stimulus program would "save or create" nearly four million jobs and that if Congress passed its program, the unemployment rate would not exceed eight percent. Yet the unemployment rate exceeded eight percent soon after the passage of the bill and has remained near ten percent for more than a year.

The stimulus has largely failed, first and foremost, because it was based on a flawed theory that simply by spending money, the government can create jobs. An increasing number of professional economists now reject this theory. Nevertheless, the idea of "stimulus" has remained very popular among professional politicians because it provides a rationale for what politicians love to do most-spend. Most Americans assume their leaders would consult the best science and evidence before signing away hundreds of billions of dollars of the nation's wealth. In reality, many politicians embrace astonishingly unwise, harmful policies in order to increase their own power, putting themselves first and the country second.

It is important for Americans to understand the only ones who really benefit from "stimulus" are politicians. The massive spending allows politicians to appear like they are working hard to help the people, earning them votes. It also often allows them to funnel taxpayer money to their political friends, earning contributions and support in the next election. The reason our country has so many "stimulus" programs is not because they help the economy-it is because they help politicians. It is absolutely essential that American citizens become aware of this deceptive political tactic, and send a clear message to Washington that they will no longer vote for, donate to, or support politicians who engage in it. This is the only way this practice can be ended.

Some argue government spending will put more money into the hands of consumers, consumers will spend more at businesses, and businesses will hire more workers. More economists today recognize, however, that in order to put money into the economy, the government must first take money out of the economy. Before it can increase spending, the government must either raise taxes on the private sector, or borrow money from the private sector. Both options take money out of the hands of consumers and businesses. "Stimulus" programs, therefore, simultaneously take money away from consumers and give money to consumers, but do so in a very inefficient and ineffective fashion.Ultimately, such programs do little or nothing to boost the economy. It is better to simply leave taxpayers' hard-earned money in their pocketbook and never take it for government use.

If a "stimulus" program is designed poorly, it can actually harm the economy. I am convinced the current stimulus program has slowed our economic recovery. In too many cases, stimulus projects are wasting money we do not have on things we do not need, and in some cases have even hindered job creation or eliminated existing jobs. For example, Washington's efforts to "stimulate" the economy are increasing utility costs, repairing bridges nobody uses, building tunnels for turtles, and renovating extravagant train stations in remote areas while widely-used bridges and roads in poor shape are passed over. I have released two oversight reports detailing hundreds of specific examples of wasteful spending funded by the stimulus: Stimulus Checkup and Summertime Blues (http://coburn.senate.gov/public/?p=OversightAction).

The American people need to hear the truth about those initiatives that will stimulate the economy and those that will not. True stimulus happens when individuals operate in an environment of limited government, free markets, entrepreneurialism, and personal responsibility. Government spending for the sake of spending, new entitlements and subsidizing poor business decisions and risky loans will do little to stimulate our lagging economy, and in fact put it in even more danger.

While the economic challenges we face seem insurmountable, the American entrepreneurial spirit remains alive and well. I am confident we will tackle these economic challenges and emerge as a stronger and more prosperous nation.

Again, thank you for contacting me. Best wishes.

Sincerely,

Tom A. Coburn, M.D.

United States Senator