Which Party will Promote Fiscal Responsibility?

Martin Wolf , writing for the Financial Times (http://blogs.ft.com/martin-wolf-exchange/2010/07/25/the-political-genius-of-supply-side-economics/) argues that if Republicans return to power, the accumulation of unsustainable government debt will continue. Wolf maintains that Republicans still promote “supply-side economics”, espousing the view that cutting taxes could balance the budget. He also points out that Bush-era tax and spending policy led to today’s extremely high deficits.

I think Wolf is onto something. Republicans are more concerned about cutting (or at least not raising) taxes than they are about fiscal responsibility. Few Republicans in Congress or the Senate are willing to propose serious spending cuts that would be necessary to bring the budget into balance (or even substantially reduce projected deficits). How many Republicans would consider cutting Medicare spending, for example? Rising Medicare costs as the baby boomers retire will be much larger than any recent economic stimulus spending.

Wolf argues further that Democrats are relatively fiscally responsible. Their support of tax increases does suggest that many of them care about fiscal responsibility. Nevertheless, just as the supply-siders exaggerate the incentive effects of tax cuts, those who believe that government can increase spending, as it will with health care reform and other progressive policy changes, and pay for it with tax increases, underestimate or ignore the negative incentive effects of tax increases.

Not only is it unlikely that the proposed tax increases will do much to bring down deficits, but it is doubtful that a big enough tax increase to make a dent in the deficit will succeed politically. And this is as it ought to be. Americans value freedom, but we cannot have the freedom to spend our money the way we want if government programs are absorbing a growing share of our income. Nevertheless, Democratic politicians play an important role in reminding Americans that tax increases will be necessary if the government is going to continue to spend as much as it has been spending recently.

The kind of fiscal responsibility that will preserve our freedom does not involve increasing taxes, particularly on the highest income groups who play such an important role in investment and entrepreneurial job creation. It does, however, require a commitment to make serious cuts in spending, including in some areas that are dear to many conservatives and Republicans, like national defense and Medicare. Keeping taxes low or reducing them without cutting spending is a recipe for a fiscal disaster that will eventually cripple the ability of government to perform even its necessary functions.

Was extending unemployment compensation a good idea.

I just received a letter from my Congresswoman. In it she explained why she voted for the extension of unemployment benefits. As she notes in the letter “Who doesn’t have a cousin or a friend, or even a son or daughter, who through no fault of their own, lost their job because the economy fell so hard and the recovery isn’t yet strong enough to enable them to find another position.” She explains why unemployment compensation is a good thing: “In circumstances like these, where the alternative is to leave people at risk of losing their homes, being unable to pay their bills or feed their families, we need to provide stability to Americans who are looking for jobs and for our local economies.”

How could anyone be so heartless as to argue against extending unemployment benefits for up to 99 weeks in the current depressed economy? This, however, is the wrong question to ask. Extending unemployment benefits is not about caring enough to provide financial assistance to someone in need. It is about paying unemployed workers with money taken from taxpayers- actually money borrowed by the government that will eventually have to be paid by future taxpayers. Thus this policy involves coercing people (unspecified future taxpayers) to pay for a government program so that those who support it can get a warm feeling that they have done something compassionate.

Let’s go beyond the emotional argument and consider the economic consequences of extending unemployment benefits. The two main arguments against extending unemployment benefits are (1) that it will increase the incentive for people to remain unemployed, thereby slowing the economic recovery and (2) there are better ways to help the unemployed who cannot find a job and do not have enough money to pay their living expenses.
For an explanation and evidence about how unemployment compensation stimulates unemployment see my colleague Shawn Ritenour’s recent blog on the subject. http://foundationsofecon.blogspot.com/2010/07/unemployment-compesation-stimulates.html
Richard Posner, in a recent post of the Becker-Posner blog, http://www.becker-posner-blog.com/2010/07/against-extending-unemployment-benefitsposner.html argues that a better way to help the unemployed is to provide means-tested benefits. He notes that some of those who are unemployed have spouses earning high incomes or have large savings. Providing assistance only to those who face economic hardship as a result of unemployment would cost less and also not reward people who have difficulty finding or keeping jobs because of inadequate effort.

It is not clear why the government should provide any assistance to those who are unemployed beyond what can be paid for out of the money raised by the state unemployment compensation funds. Supporters of this bill emphasize that this is not a handout because workers are making a claim against insurance that they purchased when they had jobs. Like any insurance policy, unemployment compensation has limits on how much an employee can receive. These limits specify the amount and number of weeks workers may receive benefits. Congress voted on extending benefits by allocating money from the federal treasury because state unemployment compensation funds would go bankrupt without infusions of general fund revenue. Thus, an extended benefit is not an insurance payment, but another government transfer program that adds to the burden of debt on future taxpayers.

Why subsidizing wind energy does not make economic sense

In spite of the vision of Al Gore and others, windmills cannot be expected to supply a major part of our energy demands. For a good discussion of the problem with wind and other forms of green energy, see The Wrong Way to Get to Green, by Robert Bryce.

According to Bryce, windmills require 45 times as much land as nuclear power to produce the same amount of energy. Wind farms tend to be located far from population centers and so would require hundreds of miles of additional power lines to reach consumers. When you add up the land, new power lines, and the concrete and steel and other inputs required to build and operate a windmill, the expense per megawatt of electricity is higher than for most other sources of power. And not only is it expensive, but wind power is often unavailable on the hottest days of summer when energy demand is greatest.

Besides the high cost of land and materials required, wind energy is costly in terms of its impact on the environment. Windmills and the new high voltage lines associated with them kill birds, disfigure the landscape and create noise that irritates nearby residents.

For the above reasons, the government should stop subsidizing and pressuring utilities to use wind energy and let the market determine how viable it is. Wind might be cost effective in some locations, but it is not economically viable on a large scale. The greater the share of electricity in a grid that is generated by wind, the higher the cost. This is because standby generating capacity from other sources must be maintained to meet demand on some days when their is little wind. Existing sources of electricity like oil, natural gas, nuclear, and coal are much more reliable and less costly than wind, even when environmental costs are accounted for.

Without subsidies and mandates requiring a specified percentage of electricity to be generated from renewable sources, utilities would only use wind and other forms of renewable energy if they were cost effective. Some argue for subsidies to renewable energy sources because they claim that conventional sources of electricity are subsidized either through tax breaks or by not having to pay for the pollution they cause. If this is the case, the solution is to eliminate subsidies and make sure that utilities pay the full cost for each source of power they use. Market prices will give utilities and their consumers the correct signal about the scarcity of the resources involved in producing electricity, thus motivating utilities to economize in choosing how to generate electricity and motivating consumers to economize in choosing how much electricity to consume.

Stop Using Fuel Taxes to pay for Public Transit

About 20 percent of what Americans pay in federal fuel taxes, which goes into the Highway Trust Fund, now goes to pay for public transportation. In light of the transportation funding crisis in Pennsylvania, Governor Rendell wants to use more of this trust fund money to pay for public transit rather than for highways. It would make more sense to use money from fuel taxes as it was originally intended – to pay for highways. Public transit should be funded primarily from fares and if fares are not enough, local governments in the areas served by public transportation should provide the subsidies.

Two economic arguments are used to support subsidies to public transportation- one is that low fares will result in more people using public transit instead of driving, thereby reducing congestion and other external costs associated with automobile use, such as pollution. The second reason for subsidizing public transportation is to provide an affordable alternative for low income and elderly people who do not have access to an automobile.

Although both reasons for subsidizing public transportation have some merit, subsidies from the federal government promote lack of accountability on the part of local transit agencies. Each transit agency competes to get as large a share of federal transportation dollars as possible rather than focusing on making the most of its limited resources. Grants to local transit agencies are a relatively small share of total federal government expenditures so that taxpayers are not likely to notice how inefficiently the money is used. Subsidies from the federal and state governments have resulted in rapidly rising costs and inefficient management. As noted by the Commonwealth Foundation, operating costs of of Pennsylvania’s two major transit agencies rose by a combined total of $245 million more than the rate of inflation between 1983 and 2002 with little or no increase in ridership.

Besides contributing to inefficient management, it is inequitable to use federal fuel taxes, which are paid by rural and urban drivers alike, to pay for transit since public transportation primarily benefits residents of large metropolitan areas. In Pennsylvania, 90 percent of transit operating grants is paid to the Southeast Pennsylvania Transportation Authority and the Port Authority of Allegheny County. But only 50 percent of the state’s population lives in the Philadelphia and Pittsburgh areas that are served by those transit agencies. In those two metropolitan areas, less than five percent of local trips are on public transportation while almost all the rest are by automobile.

The best way to reduce highway congestion is not to subsidize public transportation, but to implement congestion tolls during rush hour. This will provide an incentive for fewer people to drive on congested highways. Using public transit is not the only alternative to driving on congested highways. To avoid tolls, many people may choose to carpool or schedule their trips during different times of the day. With congestion tolls in place, some people will be willing to pay more for public transit. This combined with greater accountability due to local funding will make it possible to reduce subsidies for transit.

Pennsylvania and many other states do not have enough money to maintain highways and bridges adequately. Using the money paid in fuel taxes exclusively for highways and bridges would eliminate most of this funding shortfall. This is a better use of fuel tax revenue than continuing to prop up bloated transit agencies that benefit primarily a small percentage of the residents of the state’s two largest urban centers.