Our Austerity Recession

By George P. Brockway, originally published January 14, 1991

FINANCIAL EXPERTS are saying that the present recession was caused by consumers failing to consume. The supply side supplied, but the demand side didn’t demand. I’ll go along with that; but I’m dismayed that the supply-siders seem to have learned nothing from the experience.

I have just finished a decennial purging of what I whimsically refer to as my files; they were crowding me off my desk, much as the Federal deficit is said to crowd entrepreneurs out of the credit market. As the clippings and offprints fluttered into my wastebasket, I was struck by the volume and vehemence of those complaining that we Americans consumed too much or didn’t save enough (take your pick).

For 20 or 30 years now, all the respectable bankers (once upon a time every banker was respectable), all the respectable journalists, all the respectable economists have been moaning about how we Americans have been on a consumption binge. (If you want the facts of the matter, ask the Economic Policy Institute, 1730 Rhode Island Avenue, NW, Washington, DC 20036, for a detailed refutation by Robert A. Blecker.)  Ronald Reagan’s Right-wing revolution was supposed to exalt the supply side over the demand side. There were tax cuts for the rich and tax increases for the poor, because the poor would only waste their money by buying things they needed or maybe wanted, while the rich would invest theirs in Wall Street and make capital gains. Austere elements of the far Left joined in the chorus (of course, for ostensibly different reasons). Consumerism got a bad press wherever you turned. Sometimes it seemed that Ralph Nader was more subversive than the Chamber of Commerce believed him to be.

Among the worthies represented in the clippings I threw out were at least four Nobel laureates, one former chairman of the Federal Reserve Board, three former chairmen of the Council of Economic Advisers, six former Secretaries of the Treasury, one former Secretary of Commerce (who seems to have started a new anti-consumption committee every other week), a past chairman of the Committee for Economic  Development, nine officers or staffers of the Brookings Institution, almost everyone who has ever set foot inside the American Enterprise Institute, innumerable other professors and journalists and TV pundits, not to mention Presidents and Senators and Representatives and unsuccessful candidates for those offices. The idea has had its spokesmen in the International Monetary Fund and the World Bank (where it is known as austerity), as well as in Britain, France, Italy, Germany, Norway, Japan, and Kenya. It has not suffered from lack of publicity.

The present failure of consumers to consume is just what these doctors ordered. Some of the doctors-those who still believe in the efficacy of purging and bloodletting – are no doubt pleased with the resulting recession. A few are puzzled and silent. But most are as noisy as ever.

Many of the respectable economists, I shudder to say, were bashing consumption in the name of Keynes. They seem not to have noticed that he concluded Chapter 6 of The General Theory with these words: “the conception of the propensity to consume will, in what follows, take the place of the propensity or disposition to save.”

Classical economists had long held that consumption was a drag on investment. Back in 1803, Jean-Baptiste Say wrote in words that could be applauded today by Newt Gingrich, “It is the aim of good government to stimulate production, of bad government to encourage consumption.” The reasoning was simple. What is spent on consumption can’t be invested in production. Obviously. Keynes also agreed with the proposition-with one proviso: There has to be full employment. Not 4, 5 or 6 per cent unemployed, but really, truly, full employment. In that case, and in that case only, with the economy running flat out, nothing more can be produced; so whatever labor goes for one thing can’t at the same time go for something else. But with millions of men and women unemployed, it is always possible to increase production by giving them jobs.

What I don’t understand is how the notion that consumption is bad got started. If consumption is bad, then production must be, too. I’m used to writing jeremiads that nobody takes seriously (someday they’ll be sorry), but why should tens or hundreds of thousands of people be expected to band together to make automobiles if nobody is supposed to buy and drive them?

The consumption thing (to use a Presidential locution) is another of those fallacies of composition economists keep perpetrating. An individual who saves his money (even hiding it under the hearth) is more likely to die rich than someone who flings roses riotously with the throng. But if everyone in the land sits home, wasting not and wanting not, the economy runs down, and no one has anything to consume, or to save, either.

The consumption thing is vastly more threatening because the government is doing its best to participate. Look at what Gramm-Rudman-Hollings has done to us. As a result of the budget deal of a couple of months ago, the Federal government is committed to spending 30 or 40 billion dollars less next year than it had planned (conservatively) to spend, and the cuts will be greater in succeeding years. A considerable part of the “savings” will be at the expense of the states and municipalities, all of which are already short of funds because of the recession, and all of which are traumatized by childish and self-defeating taxpayers’ strikes. In order to balance their budgets, the states will have to cut down on their services – and that is simply another way of saying they will have to fire people. School class sizes will rise, and bridges will fall.

Taken as a whole, the government part of the consumption thing means that, one way or another, at least a million people will lose their jobs. Some of the affected will no doubt be those dreadful goldbricking bureaucrats we keep hearing about, but most will be employees of private business – a.k.a. free enterprise – for the government is the private economy’s greatest single market for goods and services. The billions of dollars the private economy will lose because of Gramm-Rudman-Hollings will make the recession both deeper and harder to climb out of.

FACED WITH this dismal prospect, a rational Congress would repeal Gramm-Rudman-Hollings, a rational President would sign the repealer, and together they would embark on a massive public works program. Everyone knows there is plenty to be done and plenty of people to do it. But everyone knows nothing of the sort will happen because of the deficit.

Suppose our reaction to Pearl Harbor had been similar. In 1941 the Federal government was running a deficit equal to 4.3 percent of GNP. It jumped to 14.4 per cent in 1942 and to 31.1 per cent in 1943. Thereafter it fell, but remained above 7. 5 percent as late as 1946, and averaged 18 per cent over the six war-time years.

In contrast, consider the current deficit and its steadily rising estimates. Last February the Economic Report of the President presented figures predicting a deficit of 1.1 per cent of GNP, while according to the latest estimate of the Congressional Budget Office, the deficit will be at least 5.4 per cent of GNP.

Had we taken deficits in this range as cause for inaction in 1941, we would have run up the white flag no later than December 11, when Germany declared war on us. And we would have  spent the succeeding 39 years studying Japanese and German industrial management from the ground up.

It is no answer to say that there was a war on. Indeed there was, and we came out of it with total Federal indebtedness equal to 127.3 per cent of GNP – more than double today’s comparable figure. Yet when the War was over we set about rehabilitating Europe and ultimately did so with the Marshall Plan, at a cost to us, in 1990 dollars, in excess of $250 billion (see “Don’t Cash Your Peace Dividend,” NL, March 19, 1990).

Did we ruin ourselves by this profligacy? Hardly. It was not until 1975 – almost 30 years later – that the unemployment rate became as high as it is today. Aside from the flash inflation caused by precipitate lifting of price controls (over Harry Truman’s veto), it was not until 1974 that the Consumer Price Index rose at its present rate. Furthermore, after-tax profits as a percentage of GNP were higher than today’s in every postwar year except three Nixon-Ford years (1974, 1975and 1976) before Jimmy Carter appointed Paul A. Volcker chairman of the Federal Reserve Board in 1979.

Since then our mirror has cracked from side to side, and the curse of inaction has come upon us. That is what the record of unemployment, of inflation and of after-tax profits shows. It won’t do to point a finger at OPEC (see “What Happened to Jimmy Carter,” NL, November 27, 1989). Some blame falls upon us for what we did because of OPEC that is, nothing much (and as I write we threaten to go to war in its defense). But the major blame falls upon us for casually and stupidly embracing the fallacy that a nation can save itself into a healthful economy.

If we could disabuse ourselves of this fallacy, the current recession would not last long, and the subsequent prosperity would show up the alleged prosperity of the past decade for the pallid fraud that it was. Unfortunately, those who urged the fallacy upon us continue to push it; we continue to follow them; and as a result the recession will be deeper and longer than necessary.

 The New Leader

Don’t Cash Your Peace Dividend

By George P. Brockway, originally published March 19, 1990

THE THING about the peace dividend is that there is not going to be one. At least not the kind you and I long for. Not this year, and probably not next.

The reason for this is quite simple: We live in a historical universe, a world where one thing leads to another, a world of time. If we lived in a world of equilibrium economics, where everything happens in an instant, we could have any kind of peace dividend we liked, just by hitting the right computer keys to switch the accounts around. It’s different in the real world.

The arguments of Irving Kristol and William F. Buckley Jr. and the mysterious Mr. Z have nothing to do with our predicament. Even if Fidel Castro shaved off his beard and became a fellow of the American Heritage Foundation, we would still need the military-industrial complex for quite a while longer. The issue, however, is economic; it is not military.

As you may have heard tell, we are alleged to be in the sixth or seventh year of one of the longest peacetime economic expansions in our history. It is not much of an expansion, to be sure, for most people. The defense budget, though, has grown handsomely – it has almost doubled, and by doing so has kept the expansion alive. Of course, the expansion would have been just as vibrant if we had spent those extra billions on public housing or better schools or controlling acid rain, but what’s done is done.

Let’s look first at the military side of the military-industrial complex. Among the things Secretary of Defense Richard B. Cheney says we could perhaps do without are two Army divisions, or maybe three. With the various support troops, that could come to about 50,000 men and women – not enough to satisfy the most enthusiastic peaceniks, but a start, anyway. If deactivating the divisions is going to contribute to the peace dividend and save us some money, the 50,000 have to be taken off the Federal payroll. They have to be fired.

I don’t know what these young people signed when they enlisted. I do know that they are all volunteers, and that we spent (and still spend) a lot of money on TV commercials during sports broadcasts persuading them that the Army is a real fun place. (The old Army, the one I was in, was more accurately described by Elliot Nugent in John Van Druten’s The Voice of the Turtle. When Margaret Sullavan asked Nugent if he liked the Army, he replied, “I don’t think you’re supposed to like it.”) In any case, we have a moral, if not a legal, obligation to these volunteers. We can’t just toss them out on the street. Even if we could toss them out, and did, they would then become part of the civilian problem. We’d have to use the peace dividend we earned by firing them to feed, clothe, and shelter them until we somehow found a peaceful use for the skills they had learned jumping out of airplanes and firing assault rifles.

Of course, many of the young men and women in the services do have skills that are in demand. Military air traffic controllers, for example, and military police could fill a gap in the civilian world without breaking stride. The trouble is, we do not have enough money in the budget for more air traffic controllers, and there is certainly no money to share with the cities and states that are too broke to hire as many cops as they need. Again we find that the peace dividend is at best a swap (maybe a swap we ought to make), not something to put in the bank. Besides, if the military air traffic controllers all went to work for the Federal Aviation Administration (or whoever runs civilian airports), who would keep the Air Force from flying its planes into each other?

The problem with the industrial half of the military-industrial complex is a little different. The workers can be fired, all right – certainly those on the factory floor – and they will wind up on the welfare rolls. Their reduced incomes will also mean some hardship for neighborhood supermarkets, the trusting banks that hold their mortgages and the Federal Deposit Insurance Corporation. The complex’ corporations, by contrast, if experience is a guide, won’t suffer.

Once upon a time I edited a book by the late Blair Bolles called How to Get Rich in Washington: The Rich Man’s Division of the Welfare State. Bolles told how, at the end of World War II, some companies got more money for canceling contracts than they would have gotten for fulfilling them, how surplus truck spare parts were sold by the government for peanuts, and so on. General Dwight D. Eisenhower, then whistle-stopping through Pennsylvania during his first campaign, referred to the book glowingly (thus stimulating some welcome sales), until some spoilsport whispered to him that most of the rich men in question were Republicans. The bottom line (to preserve the metaphor) is that there’s no likely peace dividend here, either.

All that is, I think, understandable; yet common sense cries out that somehow life ought to be better without a cold war than with one. And not only better for us, but for everyone around the globe. Certainly this was a better world after World War II than during it or, for that matter, before it. Why then and not now?

Well, it’s no secret. There’s the Federal deficit, and the Federal debt, and now the states’ deficits. We can’t afford to shelter our homeless or to teach our children to read and write or to provide comprehensive health care as good as, say, ltaly’s, or a hundred other things. What’s possibly worse, we can cheer Lech Walesa‘s gruff courage in Poland until the rafters ring and can applaud Vaclav Havel‘s eloquence in Czechoslovakia with tears in our eyes, yet the only way we can think to help them is by reducing our aid to the Philippines or welshing on our obligation to repair the damage we did to Panama. We shrug when we read Zbigniew Brzezinski‘s plan for Eastern Europe because we know we’re too far gone even to debate it.

Everyone says we are in this mess because of the Federal debt. Leonard Silk said it in the same issue of the New York Times that carried Brzezinski’s Op-Ed article. But that’s nonsense. Last year’s deficit was $152 billion, bringing the national debt to $2,866 billion, which is equal to about 55 per cent of the GNP. On June 5, 1947, when Secretary of State George C. Marshall gave his famous commencement address at Harvard, the national debt was equal to about 115 per cent of the GNP. Then, as now, we had a President and a Congress of opposing political parties, and we had a national debt that was, proportionately, more than twice what it is at present. But we weren’t paralyzed.

In the four years from 1948 through 1951, the Economic Cooperation Administration gave away $13.2 billion. Most of this went to the countries of Western Europe, although the Soviet Union was invited to participate, and Czechoslovakia actually did join but was forced to pull out. Some of the money went to the Near East and Asia, too. While no one claims that the Marshall Plan was perfect in all respects, no one doubts that it helped Western Europe recover from the War, and very few doubt that it was crucial to the recovery. Today we have a similar opportunity to do some good in the world, and we’re acting like J. Alfred Prufrock.

The $13.2 billion the Marshall Plan cost us was 1.1 per cent of the GNP of those four years. What would 1.1 per cent of the GNP of the next four years be? In 1989 the GNP was $5,233.2 billion. If our famous expansion continues at its current rate, the GNP of the next four years will total approximately four and a half times that, or $23,549.4 billion. And 1.1 per cent of the astronomical sum would be $259 billion, or roughly $65 billion a year. As Senator Everett McKinley Dirksen would have said, that’s real money. It’s about 50 -repeat fifty – times what we’ll probably come up with. We’d be out of our minds to think so grandly, we are told.

YES, WE WOULD be out of our minds-but not because we couldn’t afford it. We could afford it. We could afford it, and we could balance the budget at the same time, for that’s what we did in 1948-51, back in the days of Harry S. Truman, the supposed spendthrift. What I’m afraid we are incapable of now is summoning up the necessary intelligence and the vision to tackle the job properly.

Although we have the successes of the Marshall Plan to show us what to do, and the disasters of the banks’ recycling of OPEC money (see” 100 Million Children Can Be Wronged,” NL, January 8) to show us what not to do, we also have an Administration that is at least the second most doctrinaire of our history. The Marshall Plan worked because it required each of the receiving countries to develop detailed recovery plans that fitted in with neighbors’ plans. The plans were theirs, not ours. Can you imagine the man who sent the Army and the Air Force into Panama standing for such namby-pamby stuff? He’s no wimp. The first thing he would do is send the Vice President to warn the potential recipients of our help against abortion and the capital gains tax.

Today there’s no danger of our doing anything like the Marshall Plan or the Brzezinski Plan. Gramm- Rudman-Hollings and President Bush’s lips will forbid it.

At best, we might pick up some crumbs at home. The Department of Defense is now eager to enter the war on drugs. It could be helpful. For my part, I’m skeptical. Recalling the old Army again, I remember that six months after Hiroshima morale was so poor that the more guards they put around supply depots and motor pools, the more hands there were to steal the stuff. It may be different with volunteer troops.

There are other things that might be done, especially by the Army engineers, who could work on playgrounds and airports and roads as well as on the dams and waterways they always handle. Tent cities could be quickly established for the homeless on vacant city lots. The Civilian Conservation Corps, one of the most successful of the New Deal programs, could be resurrected. In fact, the New Deal had a lot of ideas that might be suitable, as we used to say, for retreading.

Well, I dream. As I said at the start, I don’t expect that there will be a peace dividend. Not even a crummy one.

 The New Leader

How We Can Control Inflation

By George P. Brockway, originally published March 6, 1989

IN THREE recent contributions to this space[1] I have argued that the conventional theories of inflation are wrong-that it is not caused by full or almost-full employment, and that it is not cured by raising the interest rate. I have gone further: I have maintained that raising the interest rate (which I call the Bankers’ COLA) is precisely what produces inflation in the first place. A legitimate question now is: What do I propose we do?

Let it be admitted – nay, insisted – at the outset that there aren’t any easy answers. No matter how ingenious the laws we enact, we can be certain that ingenious ways of avoiding them will be discovered. Legal avoidance happens with even the most uncomplicated statutes. There is a book out on how to defend against a drunk-driving charge by a trial lawyer who has had thousands of such cases and never lost a one. The unremitting search for loopholes in the income tax laws is sporadically countered by searches for ways to close them. It will be the same with whatever we propose. Perfection is impossible, because perfection cannot act.

To control the interest rate – to eliminate the Bankers’ COLA – one must be able to control the money supply. The Federal Reserve Board tries to do that now (for reasons different from those I’ve advanced) by fiddling with the reserve requirements it imposes on the banks and with the interest it charges them for temporary loans. Using these levers, the Fed can control the supply pretty well; but the interest rate – the cost of money – depends also on demand, and there is one demand for money that the Fed has so far refused to do much more than talk about. Seven and a half years ago (“Why Speculation Will Undo Reaganomics,” NL, September 7, 1981), I wrote in these pages: “Unless one is ready to run the printing presses flat out, the only way to get money into productive hands is to see to it that little or none of it falls into speculative hands.”

Although there is probably no way of keeping speculators from getting their hands on money if they want to, it would be quite easy to keep them from wanting to. All one has to do (as Felix Rohatyn and others have suggested in order to inhibit leveraged buyouts) is tax capital gains at 100 per cent on property held less than a year or two, then at 95 per cent on property held less than two or three years, and so on until the rate got down to the level of ordinary income.  (This, it will be noticed, is exactly contrary to the proposal of our new President, but he has never been quite clear in his mind what was and what was not Voodoo Economics.)

The foregoing, however, earth shaking as it is, would not be enough. For the archetypical speculators of our day are not beefy gents in flashy suits on the order of Betcha-million Gates or even aristocratic gentlemen with narrow ties on the order of J.P. Morgan or even indescribables like Ivan Boesky. No, the big-time wheeler-dealers are “institutions,” and institutions are churches and colleges and foundations and pension funds and insurance companies and mutual funds. We might almost say with Pogo that we’ve met the enemy and they is us, for most of us are beneficial owners of pieces of one or more of the nameless, faceless institutions the market gossips gossip about.

These institutions, our surrogates, write the computer programs that run the market, and they do it for capital gains. Unless that candy is taken away from them, it will do little good to take it away from the old-time speculators who still exist. Consequently, we’ll have to take a deep breath and tax the capital gains even of charitable institutions. (I said it wasn’t going to be easy.) The demand of nonproducing speculators for money would thus be greatly reduced, if not altogether stopped, and the Reserve Board, by increasing the money supply, could lower the interest rate for everyone else and take a step toward eliminating the Bankers’ COLA.

But it would be only a step. The bankers would resist, and their line of argument would be practically identical with the one they used in freeing themselves from most of the New Deal regulation. They were, in fact, remarkably successful in getting Democrats to make their arguments for them, as William Greider documents at excellent length in Secrets of the Temple. For example, Wisconsin’s recently retired Senator William Proxmire “delivered a short lecture on inflation and interest rates. At 15 per cent inflation, an investor lending $1 million at 10 per cent ‘loses’ $50,000 a year. ‘You cannot count on the lender being a complete idiot,’ Proxmire said. Sooner or later, he will stop lending at the low interest rate and invest the money himself in commodities or real estate.”

Our capital gains tax would cancel the commodities option and could be made to cancel the real estate option, but suppose the Senator’s million-dollar lender is smart and doesn’t lend at all, thus saving that $50,000 “loss.” He would be like the unfaithful servant in the parable, for at the end of a year he would have only his million dollars, while his neighbor, who wasn’t so smart and lent his million at 10 per cent interest, would have $1,100,000. What happened to the $50,000 loss Senator Proxmire talked about? If there was anything more to it than fancy rhetoric, the 15 per cent inflation affected both investors. The one who refused to lend wound up with $850,000 worth of purchasing power, while his neighbor wound up with $950,000. A negative “real” interest rate, in apparent defiance of the laws of mathematics, proves to be greater than zero. Perhaps we can count on the lender not being a complete idiot.

Of course, the millionaires have other choices. They could take their money and invest it directly in productive enterprise, or they could live it up. The former option is what we had hoped they would do, anyhow; that’s why all the editorial writers in the land have been urging them to save. As for the latter option, they might find consuming a million a little difficult, but it would be fun to try, and the economic result would at least be some priming of the pump. Someone has to consume what the economy produces.

The fact remains, though, that both millionaires have taken a loss in purchasing power, and that deliberate, cold-blooded national policy has forced the loss upon them. That’s not nice, and it’s nothing we can be proud of. So what can we do? Well, all that the Fed and other true believers in traditional economics have proposed (and put into practice) is raising the interest rate, usually by restricting the money supply. That’s how former Reserve Board Chairman Paul A. Volcker got the prime interest rate up to 21.5 per cent in December 1980, while the Consumer Price Index was up only 13.5 per cent, leaving Senator Proxmire’s investor with “real” interest of 8 per cent, which should have made him happy. The funny thing was, it didn’t make others eager to become like him. The real interest rate was greater than the prime itself had ever been (with one exception) before 1978; nevertheless, the national savings rate fell, and in spite of the subsequent Reaganomic tax cuts for the wealthy, the savings rate continued to fall. Moderately reflective true believers should have had their beliefs shaken just a bit.

Moderately compassionate believers should have been severely shaken by what else happened. The number of people unemployed went from 6.1 million in 1979 to 10.7 million in 1983. In the same years, 9.2 million more people were impoverished, and the median family income (in constant dollars) fell $2,305. That was not so nice either, and it was brought about by deliberate, coldblooded national policy.

Nor was that the whole story. The Federal deficit soared, our foreign trade was savaged, and Latin America was saddled with loans at un-payable interest rates. And all this was done to keep the real interest rate from falling below zero.

IFTHAT WERE merely a trade-off – suffering a lot of grief and getting back a little stability – it would be bad enough, for what was exchanged was the livelihood and prospects of millions of fellow citizens for the” reality” of usurious interest rates. The economy was deliberately depressed to “save” it from the possibility – the mere possibility – of being depressed later. But the savings rate continued to fall, corporate investment continued to fall, and industry after industry was allowed to fall before the Germans and Japanese, the Koreans and the Taiwanese.

At this point Wall Street-wise types will explain that Volcker was concerned about more than Senator Proxmire’s millionaire; he was concerned about the Japanese. He needed their money to pay for the deficit, which was all of $40.2 billion in 1979 (or about a third of the Gramm-Rudman target President Bush is going to be unable to meet). If Volcker had not given the Japanese what they wanted, they wouldn’t have bought our bonds, and Proxmire’ s millionaire would have sent his money abroad. The argument, in short, is that any attempt to reduce the interest rate will cause a flight from the dollar, and that the flight cannot be stopped because the financial world is international, its denizens are multinational, and they communicate electronically, instantaneously and secretly.

That is almost true. Yet multinational corporations are taxed. Granted, some of them may not be above diddling their books a bit, and very likely the diddling is difficult to detect; but taxes are collected, and where taxes are collected money can be controlled. The fact that financial operatives set up shop in the Cayman Islands to escape inconvenient regulation indicates that a flight from the dollar has to be an actual flight; a pretended flight won’t do.

We could perhaps stop the flight if we wanted to, but it would be much easier to let the money go. It is merely marks on paper; the factories and even the computers remain. The time to do the stopping is when the money wants to come back. Under present law, the Treasury Department is responsible for control of foreign exchange. It could require those who want to bring money into the country to go to the Treasury to buy dollars and to satisfy any taxes and regulations they had been fleeing from. The flight would no longer be so attractive, or serve any purpose.

Would that be the end of the problem? Of course not. Still, the proper direction of policy is, I think, clear. To control inflation, the interest rate has got to be brought down – way down. To do this, money has to be withdrawn from speculation and made available to productive enterprise. Faced with inconvenient regulation, finance will flee the dollar. The flight can be controlled by controlling foreign exchange. Such control will certainly affect foreign trade; but only doctrinaire true believers in laissez faire will blanch at that, and doctrinaire laissez faire is what got us into the mess we’re in.

The New Leader

 

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[1] The Truth About Inflation, Bankers Have The Classic Cola, The Fear of Full Employment

Bursting the Supply-side Bubble

By George P. Brockway, originally published November 30, 1987

ONE LISTENS with astonishment to the explanations of the Great Crash of 1987. With unprecedented unanimity, pundits and brokers and bankers and public officials call the budget deficit and the foreign trade deficit to blame.

In his post-crash press conference, President Reagan seemed not to understand. He was being pushed into what the press called a summit conference with Congressional leaders to see about reducing the budget deficit, but his heart plainly wasn’t in it. Look, he protested, the budget has been Gramm-Rudmaning down and will go down some more, even without a conference. He couldn’t see what is so bad about that trend, although he was ready to blame the Democrats for anything anyone happened to think bad about it.

It’s not hard to share the President’s bewilderment. If the budget deficit is a problem, it is in fact being reduced. A few hardliners may be upset that the reductions are not greater and faster; yet most people (including Ronald Reagan) have absorbed enough from Keynes (whom the President gracelessly and ignorantly disparaged) to know that doing too much too fast with the deficit would be a pretty sure prescription for a recession. Keynes himself might well have thought the reductions an utter mistake at this time. But he is dead (as we all are in the long run), and what is actually being done is what the pundits say Wall Street wants. If Wall Street is really upset by the deficit, it should have broken two years ago, when the deficit was higher, or five years ago, when the deficits (and the market itself) started their dramatic climb.

No, the deficit story is a fairy tale. It is implausible on its face, and its implausibility can readily be tested. We had a pretty good market crash in 1929. What happened then? Well, one thing is sure: The 1929 crash wasn’t caused by a budget deficit, for the budget was in surplus that year to the tune of $700 million, which was a lot of money back then. Either the crashes of 1929 and 1987 are totally different breeds of animal, or deficits had nothing to do with either of them.

The two crashes did, without question, have one thing in common. Both were preceded by prolonged and steep run-ups of the stock markets. That in itself is no surprise, since you have to have attained a certain height to be able to make an attention-getting fall. But what it signifies is that both climbs were speculative: Business didn’t improve all that much. Though in both years all persons of prominence assured us that the economy was fundamentally sound (there seem to be no other words to express this meaningless thought), in neither year was there a justification for the heights the market reached.

Speculation, however, doesn’t need a justification; it merely needs an occasion. The necessary occasion is a very simple one: Some people have to have more money than they know what to do with.  Literally.

We have been satisfying this requirement. As the recently announced figures from the Census Bureau show, the number of people with large incomes has increased in the decade and a half from Richard M. Nixon through Ronald Reagan. The top 20 per cent of American families had an average income of $126,415 last year and together engrossed 46.1 per cent of all personal income. More important, they have improved and are improving their position at the expense of the middle class and the poor.

Now, it is practically impossible to spend a million a year on living well (although some 57 professional baseball players are having a go at it), and it is perfectly possible to be pretty comfortable, even in a high-priced city like New York, on as little as a hundred thousand. You can, of course, spend pots of money collecting lead soldiers or used postage stamps or post impressionist masters. The trouble with such collections is that, even at a moderate rate of inflation, they increase in value very rapidly and so add to rather than deplete your wealth. So lots of people-and not merely ball players have lots of money.

The supply-side theory, to which the President pledged continued devotion the other night, contemplates that the rich, thwarted in their struggle to consume their income, will invest it. But when 20 per cent or more of the economy’s productive capacity is lying unused, the possibilities of prudent new investment are severely limited. What to do? Nothing for it but to take a flyer in the market. At the same time, the rich of the rest of the world have the same problem-and the same solution. Add to all this the mutual funds, the pension plans, the educational and charitable endowments, the insurance reserves, and the unabashed speculations, and you have a lot of money chasing a limited number of shares of stock.

Ingenious men have worked very hard to increase the number and kinds of paper to buy and sell. Two ways have especially recommended themselves: the development of the stock futures markets, and the computerization of Wall Street. The first created new products (as the brokers call them) out of nothing but the eagerness to speculate; the second, by enabling an increased velocity of trading, increased the opportunities to speculate, just as an increase in the velocity of money in effect increases the money supply.

There was also a partially contrary movement. Takeovers and buyouts, which generally substituted debt for equity, reduced the number of shares of some stocks available for speculation while simultaneously greatly enhancing the taste for speculating.

THE MOST elementary fact about a bull market is that it absolutely and unceasingly depends on sucking more money into it. If there are 100 shares of stock, and $100 available for investment, the price of each share will fluctuate narrowly around a dollar, no matter what incantations are uttered by market analysts and government officials. If the number of available shares is reduced, or the number of available dollars increased, the price will rise proportionately. But all who anticipate a further increase in available funds will become more eager in their bids, in the expectation of quickly and profitably selling what they buy to the holders of the new money. Thus Holland’s Tulipmania was sustained, and thus the Great Bull Market of the ’20s, and thus the Reagan-Thatcher-Nakasone market that has now crashed.

Because one way or another the number of pieces of paper to speculate in has greatly increased, the number of dollars to sustain the recent bull market had to be increased still more, and this has been done in two ways: the shift of trust and endowment funds out of the bond market and into the stock market, and the supply-side tax cuts for the wealthy. The former was substantially effected a couple of years ago, and the latter has gone about as far as it can go with the new tax law’s reduction of the top rate to 28 per cent. There is still a fantastic amount of money around, but it is no longer being increased rapidly. The kissing had to stop.

The trade deficit is said to have joined with the budget deficit in scaring foreigners out of our market. This explanation of the crash overlooks what is ordinarily insisted on: the global interdependence of financial markets. It wasn’t Wall Street alone that laid an egg. Eggs were laid in Tokyo and Hong Kong and Sydney and London before the New York market opened on Black Monday. You might say that all over the world bull markets that had known no boundaries were suddenly fenced in.

Just as the reason for the crash is grievously misunderstood, the policies proposed for dealing with it are grievously misconceived. Since what happened was caused by a large number of people having more money than they knew what to do with, it follows that it is counterproductive to resist taxing some of that money and applying it to public purposes, not excluding deficit reduction. The supply-side tax cuts were a disaster. Since the wealthy couldn’t find enough new productive investments for their surplus funds, it follows that there hasn’t been enough effectual demand (as Adam Smith would have said) to keep our existing productive capacity busy; so the enthusiasm devoted to union busting, entitlement shaving, welfare restricting, and real-wage reducing-all of which reduce effectual demand-has been disastrously misdirected.

Our pundits seem able to behold the mote in German and Japanese eyes but not to consider the beam that is in ours. If the world economy would be strengthened by increased consumption in those lands (and it would), it can scarcely make sense to decrease consumption in ours. Over the past 15 years the income share of the poorest 20 per cent of our families- those who have to spend their incomes-has fallen 10.8 per cent. An economy that reduces its aggregate demand in that way-and seems determined to do more-is not fundamentally sound.

The New Leader