Reports from the Economic Front

a blog by Marty Hart-Landsberg

Monthly Archives: November 2011

Deficits And The Military

The deficit commission failed to produce a plan to cut deficit spending by $1.2 trillion over the next ten years.  According to the ground rules of the agreement that created the commission, its failure is supposed to trigger approximately $1 trillion in “automatic” spending cuts that will go into effect beginning January 2013. 

The agreement included the following stipulations for guiding the automatic cuts:

  • Approximately 50% of the required reduction is to come from the so-called security budget (national security operations and military costs).  

  •  Approximately 32% is to come from non-defense discretionary programs (health, education, drug enforcement, national parks and other agencies and programs).  

  • About 12% is come from Medicare (reduced payments to Medicare providers and plans).   

  • The rest is to come mostly from agricultural programs.  

To be clear, these are reductions to be made in projected budget lines.  In other words, the cuts to the security budget will not produce an actual decline in security spending, only a slowdown in the projected increase previously agreed to by Congress. 

As previously discussed the failure of the commission is a good thing.  The commission was actively considering structural changes to a number of key social programs.  One was to change the formula for calculating social security payments so as to reduce them.  Another was to raise the age at which people could access Medicare. The automatic cuts, if enacted, will reduce spending on important programs, but at least they do not include steps towards their dismantling.  In fact, Social Security and Medicaid are exempt.

The next stage of the budget battle has been joined.  Political forces are maneuvering to change the formula for the automatic cuts mandated by the budget agreement.  In fact, this maneuvering began weeks before the commission formally announced its failure to agree on a deficit cutting plan.  According to a November 5, 2011 New York Times report 

Several members of Congress, especially Republicans on the House and Senate Armed Services Committees, are readying legislation that would undo the automatic across-the-board cuts totaling nearly $500 billion for military programs, or exchange them for cuts in other areas of the federal budget.

We need to enter this budget battle with our own plan.  That plan must include blocking further cuts to non-defense discretionary programs and Medicare.  It is worth recalling that the agreement that established the deficit commission already included approximately $1 trillion in cuts to non-defense discretionary programs.

It is the security budget that we need to focus on.  And we need to be clear that our aim in demanding cuts to that budget, as well as tax increases on the wealthy and corporations, is to help generate funds to support an aggressive federal program of economic restructuring not deficit reduction.

The table below makes clear just how important it is to target the security budget.  It shows the pattern of  federal spending on discretionary programs, defense and non-defense, over the years 2001 to 2010.  The big winner was the Department of Defense, which captured 64.6% of the total increase in discretionary spending over those years.  It was still the big winner, at 36.9%, even if one subtracts out war costs.   

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While the defense gains are staggering, they do not include spending increases enjoyed by other key budget areas dedicated to the military.  For example, many costs associated with our nuclear weapons program are contained in the Energy Department budget.  Many military activities are financed out of the NASA budget.  And then there is Homeland Security, Veteran Affairs, and International Assistance Programs.  It would not be a stretch to conclude that more than 75% of the increase in spending on discretionary programs over the period 2001 to 2010 went to support militarism and repression.  No wonder our social programs and public infrastructure has been starved for funds.

There is no way we can hope to reshape our economy without taking on our government’s militaristic foreign and domestic policy aims and the budget priorities that underpin them.  

The Super-Committee: Root For Failure

The Congressional deficit commission (also known as the super-committee), which is charged which recommending ways to reduce the national deficit by some $1.2 trillion over the next ten years, appears headed for failure.  And that is a good thing.  

The commission has until Monday, November 21, to submit a plan to the Congressional Budget Office for evaluation.  The plan must then go to the full Congress for an up-or-down vote no later than Wednesday November 23.  Anything can happen but the reports suggest that the six Republicans and six Democrats remain deeply divided, with the Republicans demanding that deficit reduction be achieved only through spending cuts and the Democrats demanding that tax increases be a part of the plan.

The History of the Deficit Commission

The deficit commission was established in August as part of the deal that secured an increase in the national debt ceiling, giving the Treasury authority to borrow enough money to cover approved expenditures through fiscal 2012.  Republicans and Democrats both agreed that projected future deficits had to be reduced but then, as now, the Republicans wanted to achieve that goal only through spending cuts while the Democrats wanted some tax increases in addition to the spending cuts.  

In order to win Republican support for an increase in the debt ceiling and avert a federal default a compromise was struck.  The two parties agreed to reduce spending by some $1 trillion, with 35% of the spending reduction coming from security related budgets (military and homeland security) and the rest coming from non-security discretionary budgets (infrastructure, clean energy, research, education, as well as programs that help low income people with child care, housing, community service, etc.).  The compromise also included the creation of the deficit commission, which was given the charge of recommending ways to reduce future deficits by an additional $1.2-1.5 trillion.  

What made the commission especially dangerous is that both Republicans and Democrats agreed that the committee would be free to consider a full range of options, including permanent changes to Social Security, Medicare and Medicaid programs.  In fact, Democrats made clear that they would support cuts in those programs if Republicans would only accept some tax increases on the wealthy and corporations. 

If the commission failed to agree on a plan, which required only majority support, Congress would have until January 15 to approve its own plan.  And if they failed, automatic spending cuts would be triggered, with approximately half of the reduction coming from security budgets and the other half from non-security discretionary budgets.  Significantly, the automatic budget cuts would not take effect until fiscal 2013, meaning not until after the next presidential election.

A False Crisis

The premise underlying the creation of the super-committee is that federal spending is out of control, especially on social programs, and that if real deficit reduction is not achieved we face economic chaos.  More recently some supporters of deficit reduction point to European government debt problems as an omen of what awaits us if we don’t act quickly and decisively. 

The fact of the matter is that social spending is not driving our deficit and debt problems.  The primary drivers are our military spending, including our wars in Iraq and Afghanistan; the Bush-era tax cuts; and our economic crisis.  If we truly want to stabilize our national finances we need to halt our wars, raise taxes on the wealthy and corporations, and engage in serious public spending to generate equitable and sustainable economic growth.

 Moreover, there is no reason to believe that we are facing a debt crisis.  The ratio of public debt to GDP is predicted to remain comfortably below the 100% level for at least a decade, the level that some experts claim marks the danger zone.  The U.S. government has no trouble borrowing money to fund its operations.  Actually, investors throughout the world want U.S. Treasures because of their safety.  Moreover, as Paul Krugman points out, even high debt ratios are not automatically dangerous if countries are able to borrow in their own currency, which is the situation for the U.S. government:  

You hear that claim all the time. America, we’re told, had better slash spending right away or we’ll end up like Greece or Italy. Again, however, the facts tell a different story.

First, if you look around the world you see that the big determining factor for interest rates isn’t the level of government debt but whether a government borrows in its own currency. Japan is much more deeply in debt than Italy, but the interest rate on long-term Japanese bonds is only about 1 percent to Italy’s 7 percent. Britain’s fiscal prospects look worse than Spain’s, but Britain can borrow at just a bit over 2 percent, while Spain is paying almost 6 percent.

What has happened, it turns out, is that by going on the euro, Spain and Italy in effect reduced themselves to the status of third-world countries that have to borrow in someone else’s currency, with all the loss of flexibility that implies. In particular, since euro-area countries can’t print money even in an emergency, they’re subject to funding disruptions in a way that nations that kept their own currencies aren’t — and the result is what you see right now. America, which borrows in dollars, doesn’t have that problem.

Why “Failure” Is A Good Thing

Our biggest danger is not runaway debt but austerity.  And that brings us back to the deficit commission.   

Nothing good can possibly come out of the work of the deficit commission.  If an agreement is reached it will include proposals to reduce the deficit through significant spending cuts and as a consequence we can expect two bad outcomes.  First, the cuts will weaken our economic recovery, and a weaker economic recovery will worsen the budget deficit, triggering demands for further spending reductions.  Second, the cuts will include damaging changes to our social programs, including Social Security and Medicare, which will be hard to undue.  And there is no need to weaken either program.  In fact, there are many reasons for increasing Social Security payments and expanding Medicare.

If the deficit commission fails to agree on a plan, we can be reasonably sure that Congress will do no better, and the automatic cuts will be triggered.  But, these automatic cuts will have only limited effect on our social programs.  For example, Social Security cannot be touched.  Most importantly they will not take place for over a year, giving us time to demand new policies. 

In short, we must resist the media’s attempt to panic us into rooting for a bad deal.  We don’t face any budgetary crisis.  The collapse of the deficit commission is our best possible outcome given the current political environment.  The occupy movement is beginning to influence our national dialogue and that means growing power to change our choices. 

Our demands must remain focused on economic transformation.  We need more and better directed government spending, spending that doesn’t just support our existing economic structure but is designed to reshape existing patterns of employment, production, and investment.  And that spending needs to be financed by slashing our military budget, changing our foreign policy, and boosting taxes on the wealthy and corporations.  Someday maybe we can have a super-committee that will be charged with recommending the best way to accomplish those goals. 

Transnational Dominance

Although Republicans and President Obama are said to disagree about economic policies, there is one initiative that they both enthusiastically support: free trade agreements.  President Obama single-handily resurrected the free trade agreements with Korea, Panama, and Colombia from political oblivion; they were ratified by the U.S. Congress in October.   

Now, he is eagerly pursuing a new multilateral agreement known as the Trans-Pacific Free Trade Agreement (involving Australia, Brunei Darussalam, Chile, Malaysia, New Zealand, Peru, Singapore, Vietnam, and the United States).  Significantly, as Public Citizen reports, “a leaked document revealed that the Obama administration signed a special pact to keep all documents relating to the Trans-Pacific Free Trade Agreement negotiations secret.” 

One might ask why the leaders of so many countries are anxious to sign such agreements, agreements which not only lower tariffs but also strip away the powers of governments to regulate international investment, production, and capital flows.

One answer is the enormous economic power of transnational corporations (TNCs), the main beneficiaries of these agreements. According to the United Nations Conference on Trade and Development:

TNCs worldwide, in their operations both at home and abroad, generated value added of approximately $16 trillion in 2010, accounting for more than a quarter of global GDP. In 2010, foreign affiliates accounted for more than one-tenth of global GDP and one-third of world exports.  

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The largest transnational corporations are from developed capitalist countries.  These corporations also tend to be among the largest and most powerful firms in their respective home countries.  At the same time, as the table below shows, their international operations now account for a majority of their assets, sales, and employment.  Looking at all TNCs, the United Nations reports that the value added by their foreign affiliates generated approximately 40% of their total value added in 2010, up from 35% in 2005.

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The estimates of TNC production cited above, although impressive, actually understate transnational control over global economic activity.  At one time, TNCs only engaged in international production through establishment of foreign affiliates.  In some cases, the parent company and its foreign affiliates operated relatively independently, each serving a different market. 

Now, transnational corporations generally rely on complex cross border production networks that involve the linking of production across many countries, with final sales often taking place in still other countries. Most importantly, these networks often include “independent” partner firms that undertake various activities according to an overall transnational corporate strategy.  While some of the partner firms may themselves be transnational corporations, many are not, which means that TNC controlled activity is greater than the combined activities of parent and affiliate firms. 

Transnational corporations use a variety of so-called “non-equity modes” (NEMs) of control to direct the operations of their partner firms, with contract manufacturing and service outsourcing among the most important. Cross border activity involving NEM relationships is conservatively estimated to have generated over $2 trillion of sales in 2010.  The United Nations reports that some 18–21 million workers are directly employed in firms operating under NEM arrangements. Around 80 per cent of NEM-generated employment is in developing and transition economies.

As the following figure reveals, cross border production activity anchored by NEM relations now dominates a number of key export industries.  For example, NEM production now accounts for more than 50% of all toy, footwear, garment and electronics exports.

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The production of the iPhone offers one of the best examples of the logic and operation of these transnational corporate controlled cross border production networks.  As the Asian Development Bank explains:

iPhones are designed and marketed by Apple, one of the most innovative U.S. companies. Apart from its software and product design, the production of iPhones primarily takes place outside the US. Manufacturing iPhones involves nine companies, which are located in the PRC, the Republic of Korea (hereafter Korea), Japan, Germany, and the US. The major producers and suppliers of iPhone parts and components include Toshiba, Samsung, Infineon, Broadcom, Numunyx, Murata, Dialog Semiconductor, Cirrius Logic, etc. All iPhone components produced by these companies are shipped to Foxconn, a company from Taipei,China located in Shenzhen, PRC, for assembly into final products and then exported to the US and the rest of the world.

Not surprisingly, the division of profits, as shown below, reflects the overall hierarchy that structures this and other cross border production networks.

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The importance of cross border production networks to transnational corporate profitability helps to explain why these corporations are such strong supporters of free trade agreements.  And, although I have focused on manufacturers, transnational retailers which sell the products produced by these networks and financial service companies which underwrite both the production and consumption of these products are also major beneficiaries and therefore powerful advocates. 

The operation of these networks, the majority of which are centered in East Asia, have greatly contributed to the growth of global imbalances, marked by East Asian trade surpluses and U.S. trade deficits.  These imbalances were papered over, and global capitalist accumulation sustained only because of the debt-driven housing bubble which financed U.S. consumption. 

The collapse of the bubble has led many analysts to call for a rebalancing of Asian and U.S. economies. However, rather than address this need, governments throughout the world, responding to dominant capitalist interests, continue to pursue new free trade agreements, a pursuit that if successful will only intensify existing economic and social problems and make needed changes harder to achieve.   

Inequality: Class And Race

The Occupy Movement has clearly transformed conversations about the economy.  It is now inequality–in particular, the gap between the top 1% and everyone else–rather than the national debt that dominates the news.

This gap is real, as the following charts from the Economic Policy Institute make clear.  This first one shows the percentage increase in household income over the period 1979 to 2007 by income group.  While the top 1% enjoyed income gains of 224% over the period, the gains enjoyed by the bottom 90% were far more modest–5%.  Equally striking is the fact that the household income of top 0.01% shot up an astounding 390%.

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The second illustrates the fact that the top 1% of households captured approximately 60% of the total income growth over the years 1979 to 2007.

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The third illustrates the fact that the top 1% of households also captured 86.5% of the total growth in capital income (defined as dividends; interest payments; realized capital gains; and other business income,  which includes partnership income, income from S corporations, and rental income).  Strikingly as the Economic Policy Institute explains, “This figure departs from the convention of the other charts in not isolating the bottom 90% because their average capital income fell between 1979 and 2007, registering as negative capital income growth, which is hard to depict in a pie chart.”

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Unfortunately, there is another income gap that has not received nearly as much attention.  It is the white-nonwhite gap.  The Portland, Oregon based Coalition of Communities of Color recently published a report on the socioeconomic situation of people of color in Multnomah Country (which includes Portland) and Oregon. 

As the chart below reveals, the mean income of families of color in the top decile actually declined by $6,002 over the years 1979 to 2007.  By contrast, the mean income of white families in the top decile rose by $122,591.  White families and families of color in the bottom half of the distribution all suffered losses.

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The following two charts show the mean earnings of each group by decile and their change between 1979 and 2007. 

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This last chart shows poverty rates by color.  Clearly, as we work to create a more equitable society, our efforts must also be guided by awareness of the existence of serious racial and ethnic inequities.    

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