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Economic Reporting Review

February 8, 1999

By Dean Baker

"CBO to Project 10-Year Surplus of $800 Billion"
George Hager
Washington Post, January 29, 1999, page A4

"GOP Wants to Cut Taxes With Surplus"
George Hager
Washington Post, January 30, 1999, page A3

"Into the Red. No, Black"
Michael M. Weinstein
New York Times, January 30, 1999, page A9

Both of the Post articles discuss the newest set of budget projections produced by the Congressional Budget Office. The first article notes that these projections indicate that the government will have a cumulative surplus over the next 10 years of $2.6 trillion. The article also discusses various plans to use the projected surplus.

It then includes several comments warning that projections can be inaccurate: "Many economists warn that it would be foolish to commit surpluses on the basis of long-range projections that could easily turn out to be wrong." The article later adds, "many economists are extremely wary of relying on budget projections beyond a year or two, and they regard 10-year projections as just short of science fiction." The article then includes two quotes from economists who warn of basing policy on 10-year projections.

The second article includes similar warnings that the predicted surplus may not materialize, since the economy could go into a recession. It comments on the prospect of a recession reducing the size of the projected surplus: "That would complicate plans to begin spending that surplus for tax cuts or spending programs any time soon."

For political reasons, a recession may make Congress more reluctant to increase spending or cut taxes, if that would lead to a deficit. However, most economists agree that it is desirable to stimulate the economy by running deficits when it is in a recession. Additional government spending or tax cuts during a recession add to demand, thereby stimulating growth and creating jobs. The reluctance of the Japanese government to run large deficits when its economy fell into a recession is generally recognized as an important factor contributing to its prolonged slump.

While both these articles express skepticism about the accuracy of 10-year projections, it is important to note that the only reason that Social Security is viewed as facing any problem whatsoever is because of very long-range budget projections which show it having a shortfall. At present, the program is running an annual surplus of more than $100 billion. It is projected to run even larger annual surpluses over the next decade. It has already accumulated almost $800 billion dollars in assets. The only problem with the program is that current projections show that it will have a shortfall in the year 2032, 33 years from now.

If economists view 10-year projections "as just short of science fiction," presumably 33-year projections deserve even less credence. The article indicates that the economists cited view scheduling future tax breaks or spending based on such projections as bad policy. The implication of this view is that major changes in the Social Security program, such as partial privatization, an increased retirement age or significant benefit cuts, would be extremely foolish, since the projected shortfalls may never materialize. It is also important to note that these policies are largely irreversible once implemented, unlike scheduled tax breaks or spending increases, which can be reversed by acts of Congress if the projected surpluses don't materialize.

The Times article is a very informative discussion of the budget mechanics of the president's proposal to place a significant portion of the surplus in the Social Security trust fund. Like the second Post article, it discusses the fact that paying down the debt can lower interest rates, thereby stimulating investment and growth. It is worth noting that the amount of growth that can be credibly projected from debt reduction of this magnitude is quite small, a cumulative total of less than 0.6 percent by 2015. (See the discussion in ERR, 2/1/99.) This is less than half as much as the economy grew in the fourth quarter of 1998.

"U.S. Economy Grew At Fast 5.6% Rate At The End of '98"
Sylvia Nasar
New York Times, January 30, 1999, page A1

This article reports on the release of data on GDP growth for the 4th quarter of 1998. The article concludes by comparing the current expansion to the '60s cycle, the only longer expansion in the post-war period. The article comments that the '60s expansion coincided with the Vietnam War buildup and "was accompanied by large federal deficits." It is worth noting that in standard economic theory, war-related expenses are harmful to the economy. They pull resources away from productive economic uses, reducing investment, real wages, labor supply, and economic growth in exactly the same way that deficits do in general. Therefore, according to mainstream economic theory, the Vietnam War buildup was a drag on growth. The '60s expansion would have been even more robust without the war.

It is also worth noting the deficits in the '60s were not large as claimed in the article, but actually were quite modest. The debt to GDP ratio fell in every year except 1968. The debt to GDP ratio fell by 16.4 percentage points from 1960 to 1970, and by 9.9 percentage points from 1965 to 1970. A deficit that is associated with a significant reduction in the nation's debt to GDP ratio would generally not be viewed as "large" by economists.

"Clinton to Unveil $1.7 Trillion Plan For U.S. Spending"
John M. Broder
New York Times, February 1, 1999, page A1

This article discusses Clinton's proposed budget for the year 2000. (It is standard to round the actual request of $1.766 trillion up to $1.8 trillion, rather than down to $1.7 trillion as is done in the headline.)

At one point the article describes Clinton's various spending proposals as "ambitious." The article does not indicate what criteria it is using in making this characterization. In Clinton's budget, there are real cuts in many areas of domestic spending . His budget includes modest increases (measured as a percentage of the total budget) in certain narrow areas of spending. Even if Congress approves these increases, next year the government will be spending less as a percentage of GDP on education, housing and most other areas of domestic spending than it did this year.

"Between Bites of Sea Bass, Clinton Talks Up School Aid"
John M. Broder
New York Times, February 3, 1999, page A13

This article reports on two speeches that President Clinton gave in Boston. The article includes a quote from one of the speeches: "If anybody had come before you in 1992 and said, 'Vote for me for president, in a few years we'll be paying down the national debt,' you would have given them a quick exit home…. You'd have thought, that guy's been, you know, chewing on funny reeds or something."

Actually, there were two candidates in the 1992 presidential election, whom Clinton defeated, who did want to pay down the national debt: Paul Tsongas, who ran in the Democratic primaries, and Ross Perot, who ran as an independent in the general election. Clinton countered their arguments for reducing the deficit (and eventually the debt) by arguing that it was more important to increase public investment in infrastructure, education, and research and development. This argument was advanced explicitly in his campaign manifesto, "Putting People First." While the government is now paying down its debt, it is spending less (measured as a share of GDP) in most categories of public investment than did when George Bush was president.

"Upstarts Challenge Europe's Rich and Powerful"
Anne Swardson
Washington Post, January 31, 1999, page A24

This article discusses a statement read by "an American-born management consultant" during a question period at the meeting of the World Economic Forum in Switzerland. The statement attacked the European welfare state, ostensibly in the name of Europe's younger generation. It asserted that Europe has "an ossified, sclerotic economic system."

The article indicates that this view is correct, commenting that "Western Europe still lacks the creative energy found in abundance in the United States." It also asserts that "to at least some Americans here [at the conference], Europe is something of a museum, a bastion of social protections and rigid labor rules that keep its companies from meeting the standards of competitiveness and flexibility decreed by free trade and open borders." The article continues, "even Europeans say their only hope is the euro, which by making prices more easily comparable across borders, will require companies to become more competitive with each other and with U.S. companies."

The assertions within the statement and the article are not supported by standard economic data. Productivity growth across Europe has averaged close to 2.0 percent annually over the last two decades. By contrast, it has averaged just over 1.0 percent in the United States. This is the most basic measure that economists use to assess an economy's dynamism. Since Europe has consistently outperformed the U.S. in this category, it is not clear by what standard it can be viewed as a "museum," lacking creative energy or relying on the euro as its last hope. It is also worth noting that these productivity gains have been broadly shared among European workers, in contrast to the United States, where the wages of a typical worker have actually declined over the last 20 years.

Europe has also consistently run a balance of trade surplus over this period, unlike the U.S., which presently has a trade deficit that it is more than 2.0 percent of GDP. These trade numbers suggest that it is the United States, not Europe, that is having difficulty competing internationally.

It is also not obvious that the euro is going to make much difference in allowing for prices to be compared across European countries. The arithmetic process previously needed to make comparisons--division--is usually mastered by people in their early childhood. It can be performed on a hand calculator in a fraction of a second. It seems unlikely that very many business executives passed up potentially profitable markets because of the difficulty in comparing prices in different currencies, as this article implies. The major advantage of the euro is that it guarantees a stable exchange rate and allows for a common monetary policy across Europe.

While Europe has had slow growth and high unemployment in recent years, there is good reason to believe that the factors cited in the statement and the article were not the major reason. A statement recently signed by three Nobel laureates, and many other prominent economists in Europe and the United States, asserted that the main factor producing high unemployment in Europe has been contractionary fiscal and monetary policy ("An Economists' Manifesto on Unemployment in the European Union," BNL Quarterly Review, 9/98). In the view of these economists, Europe can achieve a significant reduction in its unemployment rate if the new European central bank would just lower interest rates, thereby allowing its economy to grow more rapidly.

It is also worth noting that while the author of the statement presumed to speak for the younger generation across Europe, it is not apparent from the article that she spoke for anyone other than herself and the other two business executives (all apparently now over 40) who co-authored the statement. There certainly is no evidence in recent elections, which have placed center-left governments in power across Europe, that the views expressed in this statement are typical of those of European youth more generally. The article does note that there were major street protests outside the conference. It is likely that these protestors represented a larger segment of Europe's youth than the authors of this statement. The article makes no effort to present the views of the protestors.

"An Unlikely Fear for Japan: Stiflingly High Interest Rates"
Sheryl WuDunn
New York Times, February 3, 1999, page C8

This article discusses the possibility that high interest rates may wrack Japan's economy later in the year. It comments that "some economists are forecasting a significant rise in long-term interest rates, to 3 percent or 4 percent by the end of the year." The article does not explicitly identify any economists who hold this view.

It is worth noting that financial markets are not anticipating a change of this magnitude. If interest rates rose to 3.0 percent, it would imply a 19 percent decline in the price of Japanese bonds from their current levels. If interest rates to 4.0 percent, it would imply a 39 percent drop. It is unlikely that anyone would be holding these bonds at present if they were anticipating drops of this magnitude in the very near future.

Outstanding Stories of the Week

"Clinton Budget Plan On Social Needs Will Barely Make a Dent"
Michael Weinstein
New York Times, February 4, 1999, page C2

This article points out that the total amount of additional money that President Clinton has committed in his 2000 budget to address various social needs is actually quite small. It further notes that by spreading this money broadly across many different programs, Clinton is virtually guaranteeing that it can have no real impact.

"Angered by H.M.O.s Treatment, More Doctors Are Joining Unions"
Steven Greenhouse
New York Times, Febraury 4, 1999, page A1

This article investigates the growing trend among doctors to join unions in response to the conditions imposed on them by H.M.O.s.

Dean Baker is a senior research fellow at the Preamble Center.

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