Christina Romer is the out-going Chair of the Council of Economic Advisers in the Obama administration. She is now member of the President’s Economic Recovery Advisory Board.

She has an Op-Ed economic view in the New York Times, What Obama Should Say About the Deficit.

This year, instead of being on the floor of Congress with the rest of the cabinet, I will be watching on television with the rest of the country. Instead of knowing what is coming, I can write about what I hope the president will say. My hope is that the centerpiece of the speech will be a comprehensive plan for dealing with the long-run budget deficit.

I am not talking about two paragraphs lamenting the problem and vowing to fix it. I am looking for pages and pages of concrete proposals that the administration is ready to fight for. The recommendations of the bipartisan National Commission on Fiscal Responsibility and Reform that the president created are a very good place to start.

The need for such a bold plan is urgent — both politically and economically. Voters made it clear last November that they were fed up with red ink. President Obama should embrace the reality that his re-election may depend on facing up to the budget problem.

The economic need is also pressing. The extreme deficits of the last few years are largely a consequence of the terrible state of the economy and the actions needed to stem the downturn. But even with a strong recovery, under current policy the deficit is projected to be more than 6 percent of gross domestic product in 2020. By 2035, if the twin tsunami of rising health care costs and the retirement of the baby boomers hits with full force, we will be looking at deficits of at least 15 percent of G.D.P.

Such deficits are not sustainable. At some point — likely well before 2035 — investors would revolt and the United States would be unable to borrow. We would become the Argentina of the 21st century.

So far so good. Romer is saying all the right things. That is the Romer we knew and loved. However, watch the article morph into compete mush in a matter of sentences.

She continues…

So what should the president say and do? First, he should make clear that the issue is spending and taxes over the coming decades, not spending in 2011. Republicans in Congress have pledged to cut nonmilitary, non-entitlement spending in 2011 by $100 billion (less if recent reports are correct). Such a step would do nothing to address the fundamental drivers of the budget problem, and would weaken the economy when we are only beginning to recover.

Instead, the president should outline major cuts in spending that would go into effect over the next few decades, and that he wants to sign into law in 2011.

Respected analysts across the ideological spectrum agree that rising health care spending is the biggest source of the frightening long-run deficit projections. That is why the president made cost control central to health reform legislation. He should vow not just to veto a repeal of the legislation, but to fight to strengthen its cost-containment mechanisms.

One important provision of the law was the creation of the Independent Payment Advisory Board, which must propose reforms if Medicare spending exceeds the target rate of growth. But the legislation exempted some providers and much government health spending from the board’s purview. The president should work to give the board a broader mandate for cost control.

The fiscal commission recommended that military spending — which has risen by more than 50 percent in real terms since 2001 — grow much more slowly in the future. It also proposed thoughtful ways to slow the growth of Social Security spending while protecting the disabled and the poor. And it recommended caps on nonmilitary, non-entitlement spending.

President Obama needs to explain that while these cuts will be painful, there is no way to solve our budget problem without shared sacrifice.

Did you catch that? Romer did not name one cut! Instead she called for …

  • Cost-containment mechanisms in healthcare
  • An Independent Payment Advisory Board, which must propose reforms if Medicare spending exceeds the target rate of growth.
  • Slower growth in military spending
  • Thoughtful ways to slow the growth of Social Security spending while protecting the disabled and the poor.
  • Caps on nonmilitary, non-entitlement spending

Complete Mush

For starters, the Independent Payment Advisory Board would be another totally useless board that will cost taxpayers money because the study would be tossed in the gutter by Congress before anyone even reads it. We know that simply from the title of it (see word #3).

Sadly, Romer tells the President what he needs to do in plain simple English then drafts a proposal for a speech that calls for nothing of the kind.

Since when is a slowing of growth called a “cut”. Since when is a “cap” a cut? Worse yet, note the proposed cap is on “nonmilitary, non-entitlement spending”.

It is mandatory we CUT military spending and she cannot even mention cap except for piddly nonmilitary, non-entitlement spending.

Budgetary Delusions: Federal Deficit Charts from CBO Budget Projections

Let’s review Budgetary Delusions: Federal Deficit Charts from CBO Budget Projections

Can the budget deficit be solved by cutting earmarks? How about cutting 100% of all federal non-defense discretionary expenditures?

US Federal Revenues and Expenditures 2000-2020

click on chart for sharper image

That chart is from reader “David” and is based on budget projections from the CBO. The main point is from now until 2020, we could eliminate 100% of all federal non-defense discretionary expenditures and still run a deficit.

Romer’s proposed “cut” is to cap it. Meanwhile check out the following chart.

Entitlement Spending Growth

click on chart for sharper image

Both charts are from David who posts on the No Money No Worries blog.

Mind To Mush

Romer’s mind has clearly gone to mush. Let’s see if we can figure out when that happened.

In 2007 her mind appeared to be in working order.

I make that claim based on a review of The Macroeconomic Effects of Tax Changes, an article regarding “Exogenous Tax Changes” classified as “any tax change not motivated by a desire to return output growth to normal”. Here are a few select quotes.

Exogenous Tax Change Effects

  • “We find that exogenous tax increases have a large, rapid, and highly statistically significant negative effect on output.”
  • “Among exogenous tax changes, we find that tax increases motivated by a desire to reduce an inherited deficit appear to have much smaller effects on output than tax changes taken for long-run reasons.”
  • “Our baseline specification suggests that an exogenous tax increase of one percent of GDP lowers real GDP by roughly three percent.”
  • “We examine how exogenous tax changes affect the components of real GDP, such as consumption, investment, and imports. The most striking finding is that tax increases have a large negative effect on investment.”
  • “The estimated maximum effect of an exogenous tax increase of one percent of GDP is a fall in output of 3.9 percent.”
  • “The response to a long-run tax increase is negative, large, and highly statistically significant. In contrast, the response to a deficit-driven tax increase is positive, though not significant.”
  • “For all legislated tax changes, controlling for spending has a larger effect.”

Romer’s Conclusion

Our baseline specification suggests that an exogenous tax increase of one percent of GDP lowers real GDP by roughly three percent. Our many robustness checks for the most part point to a slightly smaller decline, but one that is still well over two percent. Second, these estimated effects are substantially larger than those obtained using broader measures of tax changes, such as the change in cyclically adjusted revenues or all legislated tax changes. This suggests that failing to account for the reasons for tax changes can lead to substantially biased estimates of the macroeconomic effects of fiscal actions. Third, investment falls sharply in response to exogenous tax increases. Indeed, the strong response of investment helps to explain why the output consequences of tax changes are so large. Fourth, the output effects of tax changes are highly persistent. The behavior of inflation and unemployment suggests that this persistence reflects long-lasting departures of output from its flexible-price level, not large effects of tax changes on the flexible-price level of output.

Romer on the Unemployment Rate

Please consider Figure 1 from The Job Impact of the American Recovery and Reinvestment Plan by Christina Romer, January, 9, 2009.

As Figure 1 shows, even with the large prototypical package, the unemployment rate in 2010Q4 is predicted to be approximately 7.0%, which is well below the approximately 8.8% that would result in the absence of a plan.

Mind Mush Disease

Romer’s mind appears to have turned to mush sometime slightly before or slightly after she was appointed as Chair of the Council of Economic Advisers. Either way, we can see that Romer’s mind is still mush after she left that position. Proof if the New York Times column she just wrote.

Then again, it’s fair to point out she is now member of the President’s Economic Recovery Advisory Board. Perhaps that explains the continued progression of MMD “Mind Mush Disease”.

Regardless, somehow, somewhere along the way, she started thinking that slowing growth was the same thing as a cut. Somehow, somewhere along the way, she started thinking that “capping” nonmilitary, non-entitlement spending” would make a difference.

For the sake of macroeconomists everywhere, we must answer the crucial question “Did Romer’s mind turn to mush slightly before she was appointed (explaining why she was appointed), or did her mind turn to mush after she was appointed?

Either way, the safe thing for economists to do is refuse such appointments. Then again, if all economists acted on that simple principle, only those whose minds are already mush would accept such appointments.

Mike “Mish” Shedlock
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