Sunday, November 11, 2012

Here Timothy Taylor shows us a big list from the CBO of policy options and estimates of their effect on the projected 2020 federal deficit of 1T. Taylor also suggests the reasonable goal of cutting the projected 2020 deficit by 750B as rough stand-in for long-term stable debt/GDP ratio. Applying arithmetic to the the CBO's list of options, you can't get to 750B of cuts without a some mix of middle-class tax hikes and cuts to middle-class entitlement spending.

Therefore, I predict a 2020 federal deficit of at least 70B (= 1T - 300B). The Treasury Department should sell lots of 30-year bonds in order to lock in low rates now, temporarily suspending the sale of shorter-maturity debt. Moreover, I don't believe that 5% inflation is measurably worse than 2% inflation in the long run---what matters is that nominal income grow at a predictable rate. Therefore, the Federal Reserve Bank should buy as many 30-years bonds as the treasury cares to create, until forecast nominal long-term GDP growth reaches 7% (which would indicate a combination of roughly 2% to 3% real growth and 4% to 5% inflation). Note that it is crucial to target the forecast in order to prevent hyperinflation, the situation where people expect the inflation rate to rise ever higher.

Some tangential observations: 1. A 5% VAT raises about half as much revenue as returning middle-class income tax rate to 1990s levels. 2. The discretionary spending cuts on the CBO's list of options are peanuts (relatively speaking) because they don't include truly radical cuts like halving the budget of the Department of [insert your least favorite here] (which is reasonable as radical cuts are politically extremely unlikely).

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