The Power to Destroy (part 2)

May 26, 2024

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The antitax movement was encouraged by President Reagan’s partial success in cutting taxes. The antitax forces were also disappointed, but certainly not deterred, by his failure to reduce total federal spending or balance the budget. They continued to claim that cuts in tax rates could generate increases in tax revenue by encouraging saving, investment and economic growth. And if tax revenue did fall, that would eventually force government to rein in spending, whatever the cost to popular domestic programs.

Antitax warriors

Graetz’s book features three noteworthy figures who mobilized the antitax movement in the late 1980s and 1990s. They led the way in making tax-cutting the central mission of the Republican Party.

Grover Norquist founded Americans for Tax Reform and served as its first president. He had a radically hostile view of the federal government, often saying that he wanted “to get government down to the size where you can drown it in the bathtub.” As for taxes, he proclaimed, “There is no such thing as a just tax—it is a contradiction in terms. We just want the government to steal less of our money.” Apparently he thought that citizens owe their government nothing for whatever benefits they receive from it. In 1986, Norquist began urging politicians to sign a pledge that they would “oppose any and all efforts to increase the marginal income tax rates for individuals and for businesses…” Over the next few years, almost every Republican president, governor, Congressional representative and senator did.

Newt Gingrich was elected to the House in 1978 and served as Speaker from 1995 to 1999. He championed the most radical form of supply-side economics, claiming that tax cuts would actually increase federal revenue by stimulating growth. He did not hesitate to attack any president, even of his own Republican Party, who dared to raise taxes. He co-authored the “Contract with America,” the agenda Republicans ran on in 1994. It called for tax cuts, a balanced budget, and the requirement of a three-fifths majority to pass any future tax increases.

Rush Limbaugh was a talk-show host who became nationally syndicated in 1988. His antitax message was eventually heard on 650 radio stations and 200 TV stations. Graetz describes Limbaugh’s role in right-wing media as “the granddaddy of them all, untroubled by factual accuracy, often bigoted, feasting on outrage.”

“Read my lips”

In 1985, during Reagan’s second term, Congress passed the Balanced Budget and Emergency Deficit Control Act, also known as Gramm-Rudman-Hollings. It called for a phased reduction in the federal deficit until a balanced budget was achieved in 1990. (That date was later pushed back to 1993.) The bill mandated automatic spending cuts divided equally between defense and non-defense spending, if Congress failed to meet the annual targets on its own. At the end of the Reagan presidency, the Congressional Budget Office estimated that without tax increases, these cuts would have to be substantial, like a 42 percent cut in defense spending.

Nevertheless, Reagan’s successor, George H.W. Bush, ran with the campaign slogan, “Read my lips: No new taxes.” Two years into his presidency, over the vociferous objections of House Republicans like Gingrich, Bush bowed to necessity and signed the Omnibus Budget Reconciliation Act of 1990. This law raised the top income-tax rate from 28% to 31%. It also raised payroll taxes and taxes on gas, tobacco and alcohol.

When Bush was defeated for reelection in 1992, Republicans blamed his loss on his failure to keep his “no new taxes” pledge. They were determined not to make the same “mistake” again, regardless of the fiscal circumstances. No Republican president has agreed to a tax increase since.

Political polarization

When Bill Clinton took office in 1993, Democrats controlled Congress and the presidency for the first time since 1979. Clinton’s original hope had been to cut taxes for the middle class and increase some domestic spending, especially for his health-care initiative. He too was induced to shift his focus to deficit reduction. Federal Reserve Chair Alan Greenspan warned him that the government’s demand for loans to finance the deficit would eventually raise interest rates and hurt the economy. (For a less pessimistic view, see my summary of Stephanie Kelton’s The Deficit Myth, especially part 2.) Under Democratic leadership, Congress passed the Tax Reform Act of 1993, which reduced the deficit with a combination of tax increases and spending cuts. The top income-tax rate went up again, from 31% to 39.6%.

The Democrats suffered a major defeat in the 1994 midterms, losing the House for the first time in 40 years. Republicans ran on their Contract of America, which promised no tax increases. Newt Gingrich became Speaker of the House. The following year, House Republicans wrote much of their Contract with America into legislation. In addition to tax cuts, it included:

…a budget proposal to restructure and sharply limit Medicare and deeply cut Medicaid, welfare, job training, student loans, farm subsidies, and a host of other programs. It also proposed eliminating the commerce, education, and energy cabinet departments.

Clinton vetoed the Republican budget and stood by his more moderate plan. Republicans then shut down the government temporarily rather than pass the president’s budget. When public opinion turned against them, they finally gave in.

Clinton was reelected in 1996, but Republicans retained control of the House. In 1997, the two sides reached a compromise in which Republicans got some reductions in estate taxes and capital gains taxes (both mainly benefiting the wealthy), and Clinton got a $500 tax credit for families with low-to-middle incomes. In the following year, Republicans nearly succeeded in passing the Tax Code Termination Act, which called for ending all taxes except for payroll taxes. (It passed by 10 votes in the House but lost by one vote in the Senate.) The bill contained no plan for funding most of the government, given that payroll taxes normally go to fund Social Security, Medicare and Medicaid.

In the end, the tax breaks adopted in Clinton’s second term were not large enough to keep the government from achieving a balanced budget in 1998. Clinton’s moderate policy of combining tax increases with spending cuts had prevailed over the Republican agenda of radical tax cuts and draconian cuts in federal programs. For several years starting in 1998, the budget ran surpluses, but they were the last budget surpluses the country would see for a long time.

Continued

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The Power to Destroy

May 24, 2024

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Michael J. Graetz. The Power to Destroy: How the Antitax Movement Hijacked America. Princeton: Princeton University Press, 2024

The title of this book comes from the classic statement by Chief Justice John Marshall in 1819, “The power to tax involves the power to destroy; the power to destroy may defeat and render useless the power to create.” Graetz ends his book by adding, “So, it turns out, does the power not to tax.”

Over the past half-century, advocates of low taxes have had some success in cutting taxes, especially taxes on high incomes and great wealth. Taxes in the United States are generally lower than taxes in other economically advanced democracies. “In 2021, counting state as well as federal taxes, U.S. taxes as a share of the economy were 7.5 percentage points lower than the average of the 38 OECD member countries.” Graetz is a tax lawyer, not an economist, so he describes the legislative and political accomplishments of the antitax movement more than he analyzes its economic consequences. Nevertheless, he is obviously skeptical that the benefits of low taxes outweigh the costs to society.

Sources of antitax sentiment

Graetz begins by saying that Americans have complained about taxes for a long time, but only since the late 1970s have so many joined together in an organized antitax movement. One reason for that is the unusual combination of income stagnation and inflation during that decade. Taxes were easier to tolerate when government seemed to be delivering strong economic growth without inflation. As times got tougher, the clamor for tax relief grew louder.

However, the reasons for antitax sentiment go deeper than that. Graetz argues that support for government programs to benefit the needy is lower in racially heterogeneous countries. The antitax movement was preceded by a time when the federal government was promoting civil rights legislation and funneling public money into a “war on poverty.” Since Blacks and Latinos were disproportionately poor, many whites felt that too many of their tax dollars were going to help people who were different from themselves, people who were often looked down upon. Southern whites especially left the Democratic Party in droves after it embraced civil rights. “The modern antitax movement rose and gained strength within the Republican Party alongside the party’s “Southern Strategy,” an electoral effort explicitly linked to racial division.”

Racial issues were also entwined with religion. Evangelical Christians were drawn to the antitax movement when the IRS was threatening to withdraw tax-exempt status from racially segregated religious schools. Republican activist Paul Weyrich, founder and first president of the Heritage Foundation, claimed that this issue enabled him to mobilize Christian conservatives more than abortion or school prayer. As president, Ronald Reagan sided with the churches against the IRS, saying that its effort to enforce racial integration “threatens the destruction of religious freedom itself.” He lost that battle when the Supreme Court ruled in favor of the IRS, but he won the hearts of many white Christians.

Another source of antitax sentiment was the increasing popularity of libertarian views, which were previously out of step with the pro-government sentiment of the New Deal and World War II era. The novels of Ayn Rand and the economic theories of Friedrich Hayek were dusted off and popularized. Their thinking celebrated the freedom to work and to enjoy the rewards of one’s own effort, not so much the obligation to support the collective good through government. Taxation was increasingly regarded as a threat to personal liberty and work incentive.

Many economists were turning away from Keynesian thought and rediscovering the glories of the unencumbered free market. Previously, economists had seen tax cuts as one tool that could stimulate a sluggish economy by increasing the demand for goods and services. But stimulating demand was not as clearly desirable when a sluggish economy was accompanied by double-digit inflation. Milton Friedman attracted attention and support by calling for tight monetary policy—high interest rates—to curb inflation. He also supported tax cuts, but for non-Keynesian reasons, to force government to cut spending and thereby reduce demand. In theory, cutting taxes would also give people more money to save and invest, which would stimulate the economy from the supply side, easing inflation. Cutting taxes for the wealthy should be especially effective, since they could afford to save and invest more.

The best-known supply-side economist was Arthur Laffer. He reasoned that if government taxes too little, it loses revenue. But if it taxes too much, it also loses revenue by discouraging people and businesses from producing as much as they could. There must be a happy medium, an optimal tax rate that produces the maximum revenue. Laffer always insisted that current tax rates were above the optimal rate, so that tax cuts would pay for themselves by actually increasing revenue. Few economists agreed, but Laffer’s argument became a major talking point in the antitax movement.

Graetz identifies three myths that motivated antitax crusaders:

(1) cutting taxes will increase government revenues, or, at the extreme, cutting taxes is the only way to raise government revenues; (2) lowering taxes will necessarily “starve the beast” by cutting government spending; and (3) reducing taxes at the top is the best way to grow the nation’s economy no matter the circumstances. These claims have been repeatedly debunked, but for more than four decades they have never disappeared from antitax advocates’ playbook.

One influential proponent of these ideas was The Wall Street Journal under the leadership of Robert Bartley.

Finally, the prospect of lower tax rates for the wealthy thrilled large political donors. They stood to gain the most from lower individual tax rates, lower corporate tax rates (which increased profits and shareholder dividends), lower capital gains rates (whenever they sold appreciated assets), and lower estate tax rates (when they left their fortunes to their heirs). Wealthy donors like Richard Mellon Scaife, Joseph Coors, and Charles Koch poured money into conservative think tanks like the Heritage Foundation and CATO Institute, which heavily promoted the antitax philosophy. “Money to organize meetings, produce favorable polls, generate supporting research by friendly experts, and contribute to political campaigns is more readily available to those who want to reduce their taxes than it is to their opponents.”

Proposition 13

The antitax movement began with a revolt against property taxes in California. The inflation of the 1970s had dramatically raised housing prices and property tax bills. But as with tax issues at the federal level, more was involved.

Property taxes financed public schools, but changing demographics and efforts to equalize spending across different kinds of districts undermined support for education funding. In the Los Angeles public schools, Black and Latino students were increasing in number, while many white students were leaving. In 1976, the California Supreme Court placed a limit on how much spending per pupil could vary from district to district across the state. The state legislature responded by redistributing some funds from wealthier districts to poorer ones.  Now richer homeowners could complain that their high property taxes were going to support someone else’s schools.

Proposition 13 was a referendum to amend the California state constitution in 1978. It called for limiting local property taxes to 1 percent of a property’s assessed value. It also required a two-thirds vote of the legislature to raise any state or local taxes. The amendment passed with most white voters supporting it and most black voters opposing it.

Graetz describes some of the results:

California ranked fourth among the states in per capita income, but after the enactment of Proposition 13, the state dropped to thirty-first in public school spending per child. Other services also suffered: community colleges, police departments, public hospitals and health programs, public works, local parks, and welfare and social services.

California was the first, but within the next four years, thirty-four other states cut property taxes too.

Reaganomics

The antitax movement soon targeted federal taxes. In the 1980 presidential election, Ronald Reagan campaigned on the promise that he could cut taxes, increase military spending, but still balance the federal budget by cutting other spending. President Reagan fulfilled the tax-cutting part of his promise with the Economic Recovery Act of 1981. This act immediately reduced the top bracket income tax rate from 70% to 50% and phased in cuts for lower brackets over the next two years. It created large tax savings for businesses and real estate investors by allowing them to deduct the cost of new investments more quickly. “New tax benefits for business were so generous that corporate tax receipts declined from about 15 percent to less than 9 percent of federal revenues.” The law provided additional benefits for the wealthy by cutting estate taxes and creating new ways for them to shelter income from taxation.

To assess the fiscal impact, I supplement the book with Federal Reserve Economic Data (FRED) from the Federal Reserve Bank of St. Louis. Between 1980 and 1983, federal receipts fell from 18.1 percent of GDP to 16.5 percent, while federal outlays rose from 20.7 percent of GDP to 22.2 percent. That means that the federal deficit rose from 2.6 percent of GDP to 5.7 percent, the highest since World War II.

The ink was hardly dry on the 1981 tax bill when pressure began to build in Congress for a change of direction. The Tax Equity and Fiscal Responsibility Act of 1982, which passed with bipartisan support, recouped some of the lost revenue by cracking down on underreported income. Reagan wasn’t happy, but he signed it in order to hold the deficit down.

The Tax Reform Act of 1986 also recovered some revenue by placing limits on tax shelters. But this time much of the gain in revenue was offset by another rate reduction for high earners. The bill replaced the many tax brackets ranging from 11 to 50 percent with just two rates, 15 and 28 percent. Taxpayers with high incomes got another windfall, while those with low incomes were protected from a tax hike by increases in the standard deduction and personal exemption.

By the end of Reagan’s administration, moderation of tax cutting and reductions in domestic spending brought the deficit down from 5.7 percent of GDP to 3.0 percent. Still, over the course of his eight years, “President Reagan added nearly twice as much to the federal debt as was accumulated during all of the presidencies that preceded him.” His tax cuts had neither paid for themselves nor forced equivalent cuts in spending.

In the 1980s, Congress still included many Republican moderates like Bob Dole, who were willing to raise taxes in order to keep the gap between receipts and outlays from growing too large. Over the next few years, positions would harden, so that Republicans united to resist any tax increases, regardless of economic or fiscal conditions.

Continued

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The Market Power of Technology

February 29, 2024

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Mordecai Kurz. The Market Power of Technology: Understanding the Second Gilded Age. New York: Columbia University Press, 2023

I was very impressed by this book. I think that Kurz’s treatment of economic inequality rivals in importance works such as Thomas Piketty’s Capital in the Twenty-First Century.

The book is comprehensive in many respects. It is both contemporary and historical, analyzing variations in inequality since the late nineteenth century. It connects the dots between technological innovations, changes in market power, and shifts in public policy. Kurz does not just theorize, but formalizes his theory in a series of mathematical models, runs computer simulations, and matches the results with actual data from various time periods. That enables him to support his claim that similar developments explain both the inequalities of the earlier Gilded Age and those of today’s economy.

The book is very long and highly technical. Fortunately, Kurz is as good a writer as he is an analyst, presenting his ideas in simple prose as well as mathematical formulas. He also suggests a shorter path through the chapters for those who prefer a “nontechnical reading.”

Here I will lay out the basics of Kurz’s theory. In later posts, I will describe how he applies it to different eras of American history and summarize his policy proposals for dealing with what he calls our “Second Gilded Age.”

Technology and innovation

Kurz makes a sharp distinction between “scientific progress motivated by the desire for pure scientific discovery and technological innovations motivated by profits.” The funding for basic scientific research comes mainly from government, not private industry. That is because basic scientific knowledge is too hard to privatize. Many scientists work on the same basic questions, and their findings are too hard to keep secret. No one owns the science of genetics or quantum mechanics. Government has more incentive to fund basic research because of its potential to contribute to collective goals, such as national security or public health. Government support for basic research is also crucial to the economy, since “in the long run it is the rate of scientific progress that is the long-term speed limit on the rate of economic growth.”

The private sector’s contribution to technology is to take basic knowledge and use it to develop commercial applications. To develop a successful product, a private firm relies heavily on basic research funded by government, and also on inventions by innovators outside the firm. Kurz points out that every key component of the Apple iPhone originated as an innovation financed by government. And Microsoft’s famous disk operating system for PCs (DOS) was invented by smaller developers. Microsoft bought it for a mere $50,000, and then made millions licensing its version of it to IBM.

When scientific breakthroughs create an opportunity for new technological applications, many innovators and firms may start out as equals. At first, no one knows who will succeed in their attempts at commercially profitable innovations. Before long, the distribution of market power becomes very skewed, in that “a small number of very large firms dominate both the technology and the market in each industry, and other firms lag behind them significantly.” Kurz sees this as an example of the “cumulative advantage processes” that scientists have identified in a variety of disciplines. The basic idea is that “success breeds success.” In this case, early success in innovating, even if it occurs by luck, increases the likelihood that later innovation along the same lines will also be successful. In addition, the financial strength of the most successful firms gives them a number of ways to “impede the growth of their competitors, consolidate their position, and expand their market power.”

“Monopoly wealth” and profit

Using data from 2019, Kurz looks at what various companies are worth. A comparison of two firms of very different kinds, General Motors and Microsoft, reveals a lot about the connection between new technologies and market power.

Kurz classifies GM as a firm “in decline or slow growing,” since it is an older company whose glory years were in an earlier era of technological change. Its net worth, based on a comparison of its assets and debts, was $64.9 billion. The market value of its equity was only 51.2 billion, suggesting that its earnings outlook was a little low for a company with its net worth.

Microsoft, on the other hand, represents an “advanced sector transformed by IT where most innovations take place.” Its net worth was $310.7 billion, but its market value was $1,023.9 billion or a little over $1 trillion! (To put that in context, annual GDP for the US economy was about $20 trillion.) That gave it what Kurz calls an “excess market value” of $713.2 billion.

EXCESS MARKET VALUE = MARKET VALUE OF EQUITY – NET WORTH

Sometimes a firm’s stock market valuation is much bigger than its net worth because of what Alan Greenspan called “irrational exuberance.” During the “dot-com” boom of the 1990s, many internet companies with uncertain future earnings saw their stock rise to extravagant heights, only to collapse when the earnings turned out to be wishful thinking. But that’s not the issue here, since Microsoft’s market value is supported by a solid earnings record. Here the excess market value reflects the company’s possession of the technical knowledge it uses to maintain market power.

Excess market value makes up most of what Kurz calls “monopoly wealth.” The use of the word “monopoly” here does not mean that Microsoft is the only firm in its markets; it means that it is the sole owner of certain technical know-how that gives it a large advantage over would-be competitors. Monopoly wealth includes something else besides excess market value. Suppose that Microsoft acquires a smaller tech company—let’s call it Upstart. Suppose Upstart has its own excess market value because its stock valuation of $30 billion exceeds its net worth of $10 billion. When Microsoft makes the acquisition, it transfers Upstart’s assets and liabilities to its own balance sheet. But what does it do with Upstart’s $20 billion excess value? It may put it on its balance sheet as “intangible assets.” Then Microsoft has on its balance sheet something very similar to its own excess market value that (by definition) is not on its balance sheet. Therefore, the two should be added together to calculate Microsoft’s total monopoly wealth.

MONOPOLY WEALTH = EXCESS MARKET VALUE + INTANGIBLE ASSETS

In 2019, Microsoft’s actual intangible assets added another 55.3 billion to its monopoly wealth. For the corporate sector generally, Kurz calculated that about 70 percent of monopoly wealth consisted of excess market value and 30 percent intangible assets included in net worth.

Many economists consider intangible assets a kind of capital asset, along with tangible assets like buildings and equipment. Kurz believes that this confuses the analysis and disguises market power. He says, “Intangibles are not like capital inputs because a firm can replicate them at no cost.” A company that adds a new server bears a cost, but it can install a copy of its proprietary software on that server at practically no cost. Unlike tangible assets, intangibles do not have to be financed by capital. Although firms do spend some money on research and development, “the most successful innovations, those that generate market power, higher stock prices, and monopoly wealth, have a relatively small recorded intangible R&D investment.”

The distinction between capital assets and wealth more broadly defined is essential to Kurz’s argument. Because of this distinction, a firm’s revenue stream cannot be divided into just two parts, labor compensation and capital compensation (return on capital). Successful firms have a third part, the profits left over after paying the providers of labor and the providers of capital, such as buyers of corporate bonds. “Today, capital invested in U.S. corporations is mostly financed by bondholders, while stockholders own and trade mostly monopoly wealth.” Returns on capital go mainly to lenders, while profits go mainly to stockholders. In recent years, those profits have been increasing dramatically, while returns to both labor and capital have been falling. And since rich people own most of the stock, they receive most of the rising profits. “The sharp rise of market power since the 1980s increased both profits and monopoly wealth dramatically, and individuals in the top 10 percent of the wealth distribution gained almost all of it.”

Kurz’s argument is essentially that technological revolutions create market power; market power creates monopoly wealth; and the profits from monopoly wealth make the wealthiest households wealthier.

Technological competition and market power

Kurz maintains that technological competition does not fit the traditional model of capitalist competition. In that model, free competition among many buyers and sellers limits the ability of any one seller to set prices or reap large profits. If a firm is making a lot of money with a hot product, other firms will enter its market and reduce its market share. And if it raises prices too much above costs, it will be undercut by its competitors. Free competition tends to drive down profits until firms are making little if anything above the costs of labor and capital.

In technological competition, firms have various strategies for monopolizing their technical know-how and erecting barriers to entry for competitors. They begin by protecting their newly acquired knowledge in two ways:

First, an innovative firm gains experience and an organizational structure that is adapted to the knowledge it has created. It holds both trade secrets and a superior market position, and these provide initial protection against the use of that knowledge by others. Second, our laws and institutions protect intellectual property rights to incentivize future innovation.

Kurz sees technological acquisitions as “the most important weapon in the expansion of market power.” Microsoft acquired 237 other companies between 1987 and 2020. Companies can then reap the profits from developing the smaller companies’ innovations or keep the innovations off the market to reduce competition.

Dominant companies can also create customer dependencies by creating user networks or linkages among products. I have become pretty dependent on Amazon. not only because it is a convenient site for online shopping, but because I subscribe to Amazon Prime for free shipping and music streaming, and  I download books onto the Amazon Kindle. Other services might be potentially more economical, but they would have trouble getting me to switch.

The various strategies restrict competition and increase pricing power:

Whatever form that advantage takes, the firm obtains the power to set prices higher than its costs and, because it is a technological monopolist, no competitor will force its prices down. The ability to control the price creates excess abnormal profits and wealth.

Although some firms may also engage in illegal practices to maintain their dominant position, Kurz is talking mainly about strategies that are legal under current law, but have some negative consequences for the economy and society.

Economic and political consequences

Many economists and jurists believe that the benefits of technology are great enough to justify giving free rein to big tech companies, allowing them to dominate markets and accumulate profits. But Kurz identifies several disadvantages from the standpoint of economic growth and political democracy.

Companies with market power can increase their profits not just by expanding output, but by raising prices. That reduces demand and output below what it would have been if the company had no pricing power, as in the traditional model of perfect competition. The lower output lowers the demand for labor and capital goods, hurting both workers and lenders. As profits have risen in recent decades:

[R]ising market power has served as a headwind, slowing gains in the living standards of workers, retirees, and other bondholders. Indeed, while automation and globalization are always cast as the villains in explanations of the plight of American workers, rising market power has been the more significant factor.

By pricing some consumers out of the market for hi-tech products, dominant firms slow down the rate at which innovations could have diffused through the population. We can see this in the poor rural areas, where access to high-speed internet remains limited. For an earlier era, Kunz concludes from his case study of General Electric that its pricing power retarded the diffusion of electricity. Sometimes, firms slow down the rate of innovation itself by keeping competing innovations off the market.

Rising market power also “alters the delicate balance of power in society in favor of the rich and, by awarding their voices more weight, weakens the foundations of democratic institutions.” Corporations and their wealthy stockholders can spend some of their new wealth to lobby against policies that would curb corporate power or benefit larger segments of the population.

Public policy and market power

I will describe Kurz’s specific policy recommendations in a later post. For now, I’ll just emphasize his general observation that public policy has played a large role in either facilitating or impeding the accumulation of monopoly power. Indeed, he believes that “aggressive economic policy to restrain the rise of market power is the only force available to prevent the expansion of such market power and to attain a superior economic allocation and a more egalitarian income and wealth distribution.”

Such policies can take many forms, such as:

  • Antitrust legislation to limit market power by curtailing mergers and acquisitions
  • Corporate and progressive income taxes to redistribute monopoly wealth
  • Pro-labor measures like minimum wages and support for unions
  • Public investments for the common good, such as in basic research, infrastructure, health and education, and environmental protection

Kurz argues that the two Gilded Ages of American history, the first in the late 1800s and the second more recently, have had two things in common. Both were periods of spectacular technological innovation, and both were periods of “passive, laissez-faire public policy that allowed the mechanism of growing market power to operate without restraint.” The first Gilded Age ended in a period of social unrest and economic policy reforms. Kurz hopes that the U.S. is about to enter a new era of reform today.

Continued

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Arguing with Zombies

April 3, 2021

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Paul Krugman. Arguing with Zombies: Economics, Politics, and the Fight for a Better Future. W. W. Norton, 2020.

This book is a collection of essays previously published by economist Paul Krugman, many of them in the New York Times. They cover a wide range of issues, including the debates over Social Security and Obamacare, the response to the financial crisis, problems with the European Union, trade wars, climate change, and the Trump phenomenon. The book ranges too widely to be easily summarized, but I will concentrate on the main connections between Krugman’s economics and his contributions to domestic policy debates. Although no one essay lays out his economic perspective very systematically, the main points of his largely Keynesian perspective become clear over the course of the book.

Krugman uses the term “zombies” to refer to “ideas that should have been killed by contrary evidence, but instead keep shambling along, eating people’s brains.” Apparently, he’s not calling his adversaries zombies, just some of their ideas. What he calls the “ultimate zombie” is the idea that taxes on the wealthy are bad for the economy, and that tax cuts for the wealthy are remarkably good for the economy. This idea thrives not because the evidence supports it, but because billionaires can spend a lot of money to support politicians, think tanks and partisan media that promote it.

This example show how easily economic questions are politicized, and how hard it is to have a honest economic debate in a politically polarized society. Nevertheless, Krugman believes that many economists—including himself—really do want such a debate, and really care about distinguishing fact from self-serving fiction.

Zombies in politics

Krugman introduces his collection of essays by saying that “in 21st-century America, everything is political.” The main issue still dividing people is the role of public policy in influencing market outcomes. Do we want a society like America in the Gilded Age, when government did little to alleviate the risks and inequalities of the market economy? Or do we want to become more like Denmark and other social democracies, paying the taxes necessary to support a stronger safety net and more worker protections?

One thing that keeps this from being an honest debate among people who just have different values and opinions is that the people who stand to gain the most from Gilded Age policies are themselves rather gilded. The rich have a vested interest in pushing the argument that what’s good for them is good for everyone. Their views are represented out of all proportion to their numbers—and to the economic merits of their arguments.

Krugman also observes that our two major parties are very differently organized. While the Democratic Party is a “loose coalition of interest groups,” the modern Republican Party is part of a much more organized movement that he and others call “movement conservatism.” In a 2018 essay, he described this as:

a monolithic structure held together by big money—often deployed stealthily—and the closed intellectual ecosystem of Fox News and other partisan media. And the people within this movement are, to a far greater degree than those on the other side, apparatchiks, political loyalists who can be counted on not to stray from the party line.

The word “stealthily” is significant here. On the one hand, it refers to the shroud of secrecy surrounding the political donations of rich people and the uses to which those donations are put. But it can also refer to the need to disguise self-serving economic proposals as policies for the general good. When Republicans cut taxes for corporations and the wealthy, they exaggerate the benefits of tax cuts to the economy and dismiss concerns about budget deficits. When they oppose government spending to help the disadvantaged, they ignore the benefits and warn of a deficit apocalypse. They also describe such spending as “socialist,” in order to confuse social-democratic programs that millions of Americans support with Venezuelan-style state socialism that few Americans would support. Meanwhile, the Democratic Party increasingly embraces social-democratic measures like universal access to health insurance, measures that Krugman regards as fully compatible with a thriving capitalist economy.

Since Krugman regards the Republican economic agenda as essentially elitist, he is not surprised that movement conservatism often appeals to racial and cultural anxieties in order to win working-class votes. He sees the Trump presidency as the culmination of this trend, as I myself have argued. Judging by his political appointments and his tax, health and labor policies, Trump is not really a populist but simply a fraud. He claims to be for the working class, but his economic policies belie that claim. Krugman considers Trump’s tax cut “the biggest tax scam in history.” Economic elitism also goes hand-in-hand with paranoia and authoritarianism. If you can’t win political arguments by showing that what you propose is good for the majority, then you will likely resort to demonizing your opponents as agents of sinister conspiracies against “the people.” In an essay entitled “The Paranoid Style in G.O.P. Politics,” Krugman says that the Republican Party has become “an authoritarian regime in waiting.” He wrote that essay two years before Trump claimed that he was cheated out of reelection and his supporters stormed the Capitol.

Zombies in economics

While zombie ideas are alive and well in what passes for political debate, they are not entirely absent from the field of economics itself. Here Krugman is concerned about the most extreme forms of “neoclassical” or “laissez-faire” economics, which should have been laid to rest after the Great Depression and the turn toward “Keynesian” ideas. The Depression discredited the idea that economies are entirely self-regulating, and market outcomes are always the best outcomes. In the 1930s, John Maynard Keynes argued that government could help stabilize the economy, especially by spending more when productive resources are underutilized and less when the economy is running at full capacity. Although conservatives tried to suppress the teaching of Keynesian ideas in some places, they became part of mainstream economics in the postwar era. A rough consensus emerged around what Krugman describes as a “moderate economic policy regime…that by and large lets markets work, but in which the government is ready both to rein in excesses and fight slumps….” The Paul Samuelson text that many of my generation studied in college represented that consensus.

It didn’t last very long. When government appeared unable to combat “stagflation”, a combination of both high unemployment and high inflation in the 1970s, the consensus broke down, sending economists back to the drawing board. Conservative opponents of an active economic role for government came to the forefront, attacking Keynesianism and reviving neoclassicism. Under the leadership of Milton Friedman, “monetarists” argued for limiting government intervention to central bank management of the money supply.

Part of the appeal of neoclassical economics was that it made simple assumptions about how economies work, and economists could formulate the logical implications of those assumptions in elegant mathematical models. “As memories of the Depression faded, economists fell back in love with the old, idealized vision of an economy in which rational individuals interact in perfect markets, this time gussied up with fancy equations….” Economists could easily mistake a useful simplification of reality for the actual reality, especially if they left out important factors like power relations. The simple assumption that workers get paid as much as they contribute to production fails to mention that workers who are prevented from organizing may get less than their productivity would justify.

More recent events reveal the retreat from Keynesianism to have been something of an overreaction. The great housing bubble and financial crisis of 2008 showed that deregulated financial markets were not as self-stabilizing as the neoclassicists made them out to be. The failure of monetary policy to provide sufficient stimulus once interest rates approached zero showed that government spending was important after all. Krugman concludes that Friedman was largely wrong, and that “Keynesian economics remains the best framework we have for making sense of recessions and depressions.”

As with political disagreements, the economic disagreements here are not just honest differences of opinion among economists who are doing their best to follow the evidence. Krugman accuses some economists of “engaging in whatever intellectual contortions it takes to preserve the free-market faith.” In an article entitled “Bad Faith, Pathos, and G.O.P. Economics,” he identifies a group he calls “professional conservative economists,” who are really economists in name only:

They’re people who even center-right professionals consider charlatans and cranks; they make a living by pretending to do actual economics—often incompetently—but are actually just propagandists. And no, there isn’t really a corresponding category on the other side, in part because the billionaires who finance such propaganda are much more likely to be on the right than on the left.

Krugman charges that the modern Republican Party would rather listen to such people than to serious economists.

Zombies and the media

Krugman’s critique of the mainstream media is very different from what we hear from the right side of the political spectrum. He does not describe the mainstream media as “fake news,” or as suffering from a “liberal bias.” He sees conservative economic views well represented, often better represented than the evidence warrants. He was, for example, dismayed to see how quickly the mainstream media lost interest in economic stimulus in the aftermath of the Great Recession of 2008. With unemployment still very high, most media discussion turned to the dangers of deficits, the potential for as-yet nonexistent inflation, and the need for government austerity. In the “Myths of Austerity” (2010), Krugman explains why cutting spending is counterproductive during a recession. (See also my review of Mark Blyth’s Austerity: The History of a Dangerous Idea.) The media took Paul Ryan’s so-called “deficit reduction plan” far too seriously, considering that it was “basically a trade-off of reduced aid to the poor for reduced taxes on the rich, with the net effect of the specific proposals being to increase, not reduce, the deficit.”

When the media are not being taken in by weak economic arguments and half-baked proposals, they are professing neutrality, seeing a false equivalence even between ideas of unequal merit. Krugman likens this to a headline saying, “Views differ on shape of planet,” when one side is declaring the earth to be flat. Too many in the media avoid doing the work necessary to distinguish a position that is well-founded from one that is merely well-funded.

For all these reasons, fact-based economic ideas get overlooked, while zombies walk the land. My next post will discuss Krugman’s economic positions in a little more detail.

Continued

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Posted by Ed Steffes

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