Public Virtues – Part 4 (Self-Funding)

In Budget Politics, Economic Planning, Economics, Financial Crisis, Full Employment, History and Politics, Political Ideology, Politics of Policy, Public Policy, Public Sector, Regulation, Social Democracy, Taxes on September 19, 2009 at 7:15 pm

Introduction:

For earlier parts in the series, see here and here.

In the history of public policy, like in other disciplines, sometimes the most fascinating topics are the most ordinary, the most overlooked. The things we don’t really notice can be the most powerful influences in our lives, because they can function unseen. And that brings us to the topic for today’s post.

We grumble about taxes, we handle money every day, but we don’t really think about what the power of the public purse means.

Death and Taxes:

In my last post in this series, I discussed the fact that governments, unlike corporations, are functionally immortal in most cases. And the reason for this is the power of the purse (meaning both taxation and coinage). Taking taxation for the moment, unless you fall into such crippling debt that tax revenue can’t even pay the interest on your loans, such as happened to Louis XVI of France in the late 1780s, the power to tax is a major support for the public sector’s nigh-eternal institutional continuity.

This isn’t to say that taxes can approach 100% of income (although in arguments I’ve had elsewhere, people forget about the role of public goods and services in this equation), but that future revenues at current tax rates over a long enough timespan can approach infinity. And that incredibly large number is usually much larger than the cost of maintaining the public institutions necessary to keep government functioning.

In the right wing rhetoric that has dominating the political discourse over the last thirty years, the argument against taxes, besides a claim that they are somehow spiritually wrong and evil, is that they are bad for the economy, because they create disincentives to work (in the case of payroll and income taxes) or to invest (in the case of capital gains, property, and inheritance taxes). As I’ve pointed out elsewhere, this is basically historically untrue: Taxes were increased every year from 1940 to 1944, and GDP rose from 1940-1945 by an average of 16.3% per year. Taxes were increased in 1950, 1951, and 1954 – GDP rose from 1950-1959 by an average of 6.7% per year. Taxes were increased in 1990 and  in 1993, and GDP rose from 1990-2000 by an average of 5.4% per year.

While the crude case that taxes strongly disincentivize work or investment is obviously wrong, it is true that taxes can have a powerful influence on where wealth is distributed, which gives the public sector yet another unparalleled tool for guiding the economy. To give one example, differential taxation can shift wealth from one sector to another; if the government feels that too much money is going into the financial sector, which is causing speculative bubbles and damaging the economy, then it can increase capital gains taxes and corporate income taxes on the financial sector, or establish a financial transactions tax. This will lead people to pull their money out of the financial sector and invest it elsewhere – real estate, T-Bills, and so forth.

Similarly, the power to tax can also shift wealth from investors to consumers. This is a part of Keynesian theory that doesn’t get talked about very much, but one of the reasons why Keynes emphasizes borrowing to spend on stimulus, and why he emphasizes that spending should be targeted at the poor is that rich people and poor people have drastically different “marginal propensities to consume.” Poor people have to spend 100% of their income to meet their basic needs, but rich people only a tiny fraction, and even after accounting for luxury goods (there’s only so many Lexuses a person can buy), they have most of their income left over for savings. If too much money winds up in the hands of the investor class – as is arguably the case today – two things happen. One, you get speculative bubbles as too many investment dollars are chasing too few sound vehicles for investment. Two, purchasing power declines, such that consumption is no longer adequate to “clearing the market.” (Unless, as we did before the crash, you artificially expand purchasing power by loosening credit, so that people are making up for the shortfall with borrowed money) All other things being equal, therefore, borrowing money or otherwise extracting it from the investment class (i.e, through progressive taxation, especially on capital gains and stock transactions) and spending it on progressive social goods (public works) and services (social insurance) redistributes income to poorer people, and thus to the consumption side of the economy.

And this idea of the public sector as the balance wheel of the economy (including both the investment and consumption side of the public sector’s work) is the true Keynesian contribution to our understanding of the virtues of the public sector.

Coinage of the Realm:

The other half of the power of the public purse, the power to coin money, is the oldest public power in the world other than the judiciary. Which, if you think about it for a second, should blow the idea of a hard and fast division between the market out of the water. Whether it’s disks of an otherwise useless metal that we accept as tokens of exchange because they bear the seal of a king (instead of having to carry an assaying kit around with us every hour of the day), or bits of paper whose only value si the full faith and credit of the government, money is inherently public, not private.

Which means that the power to print money, to lend money, to accept deposits, is also inherently a public power. And as William Greider points out in Secrets of the Temple, this is a power which the American state oddly has divorced from itself. Consider this fact for a second: In 2008 and 2009, the Federal Reserve created $17 trillion in new money out of nothing. And, despite people’s reactions, none of this is a cheat – the power to print money is a public power, and the money is backed by the full faith and credit of the government.

But what few people have really thought about is that there was no inherent reason why that $17 trillion couldn’t have been spent on anything other than bailouts, or why the Fed couldn’t provide loans to the Federal government to be spent on economic stimulus. And when you think in terms of what else could be done with the Fed’s power as lender, you begin to gain an understanding of the public power of the purse. There are officially 15 million unemployed workers today (and another 14.7 million unofficially unemployed) – it would cost only $600 billion to put all 15 million to work, and only $1.2 trillion to give a job to every last person not working in the United States.  Put another way, that $17 trillion could have hired every last American – including every last child and retiree – at $56,000 a year.

And yet, we don’t. And that’s not because every politician in the United States is blindingly stupid or actively malicious. They work within the rules of politics as they understand them, as they have inherited them, and it’s a trick of history that created the Federal Reserve as the politically independent, democratically unaccountable, public/private entity that it is.  When Nelson Aldrich (U.S Senate, R – R.I) set out to draft his plan for a central bank for the U.S, the financial interests he represented and to whose class he belonged, the idea was to create an entirely private central bank – to in essence, loan the monetary powers of the Federal government to the banking industry. However, due to the political tensions created by the First and Second Banks of the U.S (which were predominantly private central banks), that wouldn’t fly. So when Carter Glass (of Glass-Steagall fame), Woodrow Wilson, William Jennings Bryan, and other Democrats set about to craft the Federal Reserve Act, they established a Federal Reserve Board over the regional Reserve Banks, establishing some measure of public control. Yet, like the good progressives they were, they didn’t want the new system to be too public. So they put the public powers of the Federal Reserve into the hands of (supposedly) disinterested and neutral experts and gave them a mandate to stabilize the currency.

And so here we are in an odd double-standard, where the vast powers of the Federal government are given free range in the financial industry, but where custom and practice make the same action in the public finances illegitimate.

And yet, like any creation of a democratic government, all that could change.

The Principle:

So what is the principle that we can derive from this, what lesson do we take from the history of the power of the purse?

Simply this: that within certain limits, public resources approach infinity, at least for practical purposes.

So the question is if we can do things, like fund universal health care, establish full employment, or abolish poverty, but how we do them, and who pays for them.

Conclusion:

The real problem here is actually one of public will. Action on the scale discussed immediately above is, among other things, worthy of the term radical; it’s throwing off all the habit and custom and precedent that’s been built up over a century. In this day and age, it’s harder for people to really understand themselves to be part of a sovereign people whose will is law. To the classical Athenians or the Romans, it would have been an ordinary part of their lived experience – in their lives, they would have gathered in their thousands to meet in the boule or the comitia tributa, and passed laws, judged the guilt or innocence of criminal suspects, and in all other ways acted as the sovereign power of their state. Here in the United States, save for revolutionary moments in which Americans believed that “we have it within our power to begin the whole world over again,” we’ve grown used to intermediary institutions.

And, as potentially liberatory it is to think of you, yourself possessing a fraction of that quasi-infinite power to “begin the whole world over again,” it’s also terrifying. Because it means that if things go wrong, you can’t blame it on Washington politicians or Beltway. If the people are in charge, then the people bear the responsibility as well.

So, if we want the public power of the purse to be used to act in the world, not in the haphazard, unseen, and piecemeal way it is used today, but in the active control of the people, we need the public will to claim it, and the public will to use it.

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  1. Wow, good read. I just found your website and am already a fan. =)

  2. I don’t know If I said it already but …This blog rocks! I gotta say, that I read a lot of blogs on a daily basis and for the most part, people lack substance but, I just wanted to make a quick comment to say I’m glad I found your blog. Thanks,🙂

    A definite great read..Jim Bean

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