Steven Rattner, in a New York Times blog post, is worried about “balance.” He is concerned that as things stand now, “spending reductions would end up as the overwhelming contributor to our budget deficit reduction effort. If sequestration remains in place, we will have taken $3.5 trillion out of the projected budget deficits of the coming decade. Less than 20 percent of that will have come from last year’s tax increase.”
Which is exactly how you are supposed to do fiscal “austerity” — heavy on the spending cuts, light on the tax hikes. That’s the appropriate “balance” (particularly when it’s spending rather than revenue that’s skedded to be way off its historical average over the coming decade). Economists Alberto Alesina and Francesco Giavazzi:
The accumulated evidence from over 40 years of fiscal adjustments across the OECD speaks loud and clear:
1. Fiscal adjustments achieved through spending cuts are less recessionary than those achieved through tax increases. (These accompanying policies include easy money policy, liberalisation of goods and labour markets, and other structural reforms.)
2. Second, spending-based consolidations accompanied by the right polices tend to be less recessionary or even have a positive impact on growth.
3. Spending-based adjustments have eventually led to a permanent consolidation of the budget, as measured by the stabilisation – if not the reduction – of debt-to-GDP ratios.
And here are similar findings by AEI’s Andrew Biggs, Kevin Hassett, and Matt Jensen:
The data also clearly indicate that successful attempts to balance budgets rely almost entirely on reduced government expenditures, while unsuccessful ones rely heavily on tax increases. On average, the typical unsuccessful consolidation consisted of 53% tax increases and 47% spending cuts. By contrast, the typical successful fiscal consolidation consisted, on average, of 85% spending cuts.
So we have the general structure right, but the internals could be better. The discretionary cuts reduce spending too much in some areas such as defense and scientific research. Entitlement reform remains undone. The tax hikes have been of the absolute worst kind, raising marginal tax rates on labor and investment. But over all, Washington has stumbled into roughly the right kind of austerity.