The Nation : Following Greenspan, Democratic Economists Abandon Keynesian Model

As the fortunes of the Democratic Party have waxed and waned over the decades from Franklin D. Roosevelt’s Administration to Bill Clinton’s, one small but crucial group--liberal Democratic economists--has stood by the party. In recent years, however, while staying with their party, many of these economists have departed from their old doctrines. By doing so, they have gravely injured both the Clinton Administration and the liberal objectives they still espouse.

Since the New Deal, the Democrats have been the party of liberal economics aiming for the twin goals of prosperity and fairness. These goals made political sense and, as objectives for national policy, they were supported by a panoply of economists who advocated government economic stimulus at times of underemployment, following theories developed by John Maynard Keynes.

Lately, however, many inside-the-Beltway economists brought up in this tradition have abandoned it--just as they took high posts in the first Democratic Administration in 12 years. The leaked memorandum from Budget Director Alice M. Rivlin to Clinton, suggesting spending cuts or tax increases to reduce the deficit is the most recent manifestation of this.

The desertion cut down the central pillar of the intellectual support on which Clinton could have built his New Democracy. The flight from liberal Keynesianism, hardly mentioned in current punditry about the vicissitudes of the Clinton Administration, is at the core of many other problems. It has made powerless the tenet that should be central to modern liberalism--that government has a role to play; and it has helped make powerless the President who wanted to promote that principle.

None of this is a tocsin pealing out for the old faith by proclaiming that the President has moved too much toward the political center. Far from it. Prosperity and fairness are the issues of most concern to the middle class, and the President’s problem with the middle is that he has walked away from these core interests. He has backed off every position--his fatal flaw is indecisiveness, not leftishness or rightishness.

The downward spiral began with Clinton’s 1993 abandonment of his original threefold economic program--deficit reduction, economic stimulus and government investment in the nation’s physical and human infrastructure. Facing opposition to the last two, Clinton abandoned them and focused on deficit reduction. This painted him into a corner that makes it near impossible to achieve any programmatic progress in this term--and so makes unlikely any hope of a second.

The 1993 story has been cast as the victory of the “deficit hawks,” sober economists intent on reducing the gap between federal spending and tax revenues, over the purely political advocates of spending on the investment programs. But the common perception--that the “hawks” represented the responsible economic community, as against the irresponsible politicians--is not true.

Almost every one of the economists in the Clinton Administration had earlier espoused economic policies where stimulus took priority over deficit control. Rightly frightened by the mounting deficits of the Reagan-Bush years, however, by the 1990s they had abandoned their roots for Federal Reserve Chairman Alan Greenspan’s “responsible” economics--where reduction of the deficit and fear of inflation were the operative factors.

The Greenspan position was not implausible, but neither was it unshakable. Outside the Administration, many liberal economists, including some respectable enough to have won Nobel prizes, continued to insist there was still room for stimulus in 1993--and still need for public investment. These economic arguments deserved to be heard by the President--but they were not made in the Administration’s councils dominated by the Greenspan “liberals.”

Greenspan, and the old and new Greenspanians, reason that: Cumulated high deficits and national debt mean deficit reduction must take priority over all other public objectives. They argue that, as put in Rivlin’s memo, we must “reduce the deficit to release saving for private investment.” They also say even moderate inflation is self-accelerating, and therefore any inflation will scare business and hamper growth. The goal must be zero inflation, and government attempts to stimulate growth by cutting taxes or cutting interest rates, will be inflationary and thus self-defeating.

Neither argument is “wrong,” but both are partial.

First, the deficit pushes out private saving only in a fully employed economy--which we have not had lately. Indeed, much of the time, government-stimulated growth will encourage investment by increasing demand for the goods to be produced by new private capital.

Second, a degree of inflation is built into every developed economy, but the “evidence” that mild inflation is bound to accelerate comes mostly from the 1970s--when soaring oil prices distorted all the world’s economies. In the ‘70s, Presidents Gerald R. Ford and Jimmy Carter had only unpalatable choices between combinations of high inflation and high unemployment. Both lost their reelection bids. In the 1990s, however, it seems we do have a choice on the margin between moderate rates of inflation with satisfactory economic growth and relatively low unemployment, and attempts to reduce inflation to zero resulting in higher unemployment and slower growth.

These arguments had been understood and espoused by Clinton’s economists in their youth. But by 1993, Greenspan was unopposed by these economists, and the “hawks” won--with two results.

First, the economy grew, but only slowly--one reason for the small favorable political bounce from the growth that has occurred. Greenspanian economists now argue the current and historically high unemployment rate, around 6%, is the best we can do without “unacceptable” inflation, and Greenspan has made clear his intention to use the Fed’s control of money and interest rates to keep it that way. But at that level, a lot of young middle-class entrants into the job market are in trouble and some middle-aged job losers are in even more.

Second, and perhaps more important, the stringent federal spending limits imposed because of the priority given to deficit reduction mean no real fiscal room exists for Clinton’s programs for long-run prosperity and fairness. These were the investment programs intended to repair physical infrastructure, reform welfare, restore education, retrain unskilled workers. This lack of capacity in turn reinforces Clinton’s tendency to talk of his goals with soaring rhetoric and then back down because of fiscal and political reality.

Further, the caps imposed on future budgets allow no future flexibility. This is a pity because the central liberal tenet about government’s role has thus become meaningless, and the President who tried to espouse it has become powerless. Smart liberalism might have avoided it. But empty rhetoric, high-unemployment growth and a powerless presidency will do little for liberalism--or Clinton’s reelection chances.

The Rivlin memo is one more milestone on the path downward. To be sure, she suggests four other goals in addition to deficit reduction: increased public investment; universal health security and reduction of costs; retirement security and social security solvency, and middle-class tax cuts. But without stronger economic growth, we can’t get there from here, and the continued stress on deficit reduction will preclude that growth.

Indeed, there is no strong voice now advocating economic policies to emphasize growth and fairness. Where have all the liberals gone? And where will all the Democrats go?*