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The Costs of Reaganism

Economic Report of the President

transmitted to the Congress February 1984
US Government Printing Office, 343 pp., $8.00

Department of Defense Annual Report to the Congress, Fiscal Year 1985

by Caspar W. Weinberger
US Government Printing Office, 297 pp., $8.00

In their elated, vainglorious 1984 reports, Reagan’s advisers suggest that their economic and military policies constitute a single “spirit.” I think they are right. It is a spirit that dishonors—and may destroy—the world that Mr. Reagan proposes to lead.

America’s new strength, confidence, and purpose,” Mr. Reagan said in his State of the Union speech, “are carrying hope and opportunity far from our shores.”1 For the Department of Defense, this means that the United States has been able to “reassume a leadership role,” and that “in the military balance…in Grenada and Lebanon…President Reagan’s leadership enhanced deterrence by strengthening the confidence of our friends and allies.”2 For the Council of Economic Advisers, it means that “in 1983 a vigorous recovery, originating in the United States, began to lead the world out of recession.”3

Mr. Weinberger’s world is not Mr. Feldstein’s, and neither is more than the delusion of an insolent imagination. “The outlook is not entirely sunny,” the Economic Report concedes: that is to say, there are eighteen million people unemployed in Western Europe; unemployment rates are higher than a year ago in all the major economies except the US and Canada; and “capital flowing out of some European countries probably kept real European interest rates higher and European investment lower than they would otherwise be.” 4 In Latin America “the standard of living of most of the population, including the middle class, has deteriorated sharply”; the standard of living of the poor, that is to say, has fallen below destitution as Brazil, Mexico, and Argentina pay interest on a debt of more than $210 billion through a simultaneous recession that has cut imports almost in half.

Most of the world is invisible to the Economic Report. In the low-income countries of Africa, per capita income has been falling by 1 percent a year since 1970, and per capita food supplies are below their 1970 level.5 For Mr. Feldstein, Africa and the poor countries of Asia merit one line in his entire account of the “world economy.” This is in a reference to the multilateral lending agencies which US policies are now devastating: the World Bank’s International Development Association lends to “countries that are poor and have always been poor.”6 Mr. Weinberger is more prosy. A Soviet “global campaign of destabilization, focused on the Third World…is, and will continue to be for some time, the most prominent direct threat to US national security interests.”7 Africa, in his report, is where US forces engage in training and maneuvers with Egyptian troops, “combined operations” with the army of Sudan, and “amphibious operations” in Somalia. The US “dealt with [an] incident” in Chad, provided “major” security assistance to eleven African countries, and started to build military facilities in Egypt, Kenya, and Somalia.8

Mr. Reagan’s America is not, of course, a delusion. But the American economy is itself subject to events in the world outside, the present political obsession with domestic budget deficits notwithstanding. Americans are also subject to the moods of the spirits that Mr. Reagan has conjured: “Aye, but will they come when you do call for them?” *

It is a fairly unedifying exercise to try to understand Reagan’s successive economic policies and how they have influenced the economic recovery. Mr. Reagan will enjoy the benefit of having reduced unemployment: the official count was 9.2 million people in December 1983, down from 11.9 million in December 1982, and up from 7.9 million in December 1980. He will enjoy the benefit of having reduced inflation: with the help of a fall in energy prices, a slowdown in food price increases, and a 49 percent increase in the purchasing power of the dollar.9

The pretensions of the Reagan economists are nonetheless of some continuing importance. One of the few ways in which the Reagan administration conveys a sense of fin de régime is through its economic statesmen, their eyes fixed now quite glassily on a return to long-lost pursuits—to Regan’s stock market and Feldstein’s Cambridge and Volcker’s international financial conclaves. But there are common themes of sorts for these grim Chinese tumblers.

Mr. Reagan says that he came to Washington to restore American vitality by reducing regulations, cutting taxes, and reducing government spending, and that the results of his reforms are “already visible in the current recovery.”10 This attack on the role of government in the economy is what the most radical and the most conservative of his economists have in common. It receives little support from events between 1981 and 1984, or indeed from earlier events. If government were the cause of the desuetude of the pre-1981 American economy, its effects have been felt only after a prolonged lag. The share of the government “industry” in gross national product reached a (postwar) maximum in 1971; the share of government purchases in 1968; and the share of government expenditures in 1975. 11 Only in 1982 and 1983 did the share of government spending in gross national product reach a new high.

Tax cuts have been a central feature of the Reagan policies. They were expected to encourage savings, labor force participation, and other manifestations of free market behavior. They could also help to redistribute economic well-being from the poor to the rich: the present Economic Report expresses this hope felicitously when it observes that “some taxes are more harmful than others…. Taxes do more harm when levied on individuals or activities that are more responsive to tax rules.”12

The Reagan economists have some difficulty in demonstrating that taxes were destroying the pre-1981 economy. Federal, personal, and corporation taxes together took a smaller share of GNP in 1980 than in 1955.13 The increase in indirect and social security taxes could, of course, have sufficed to distort the economic behavior of the American people. But their savings were least affected: personal savings accounted for 7.1 percent of disposable personal income in the 1970s, 6.7 percent in the 1960s, and 6.8 percent in the 1950s.14 Reagan’s own tax (and other) policies have in any case had the directly opposite effect to that anticipated. In 1983 the personal savings rate fell to 4.8 percent, compared to 8.7 percent in the four quarters following the trough of the 1975 recession. The savings rate in Mr. Reagan’s “age of freedom” has been below that for any three-year period since the recovery of personal consumption in the late 1940s.15

A second possible connection between the Reagan policies and the Reagan recovery has to do with the stimulating effects of military spending. The Reagan economists themselves minimize the economic benefits of militarism, and they are right. (Mr. Weinberger has not, however, abandoned the view that “the effect on the deficit is small…because of the contribution of defense spending to GNP and employment.”16 ) In the period of maximum fiscal stimulus, from the last quarter of 1981 to the last quarter of 1982, defense expenditure increased by $24 billion; the federal deficit increased by $112 billion. In 1983, the deficit increased by $4 billion at an annual rate, and defense expenditure by $7 billion.17 This was hardly a recovery dominated by the military.

The immediate effects of defense expenditure on employment were moreover reduced because of a dramatic change in the composition of spending. When the Reagan military boom got under way in the last quarter of 1981, 40 percent of defense spending went to pay soldiers and other government employees, i.e., for the functions that create most jobs. Since then, spending on compensation has increased by $5.5 billion, while other military spending (on such things as bombers or missiles or research contracts) has increased by $29 billion. By 1985, the administration expects that compensation will account for no more than 31 percent of military outlays.18

The debate over the economic effects of military spending is one of the most ignominious elements in the current mood of American self-obsession. The Defense Department in its new budget demands one hundred MX or Peacekeeper intercontinental ballistic missiles on the ground of “a disparity between our capability and our military requirements” with respect to “hardened targets.” It proposes to ensure “the absolute certainty of nuclear deterrence.” It is building a new satellite system for “continued availability in a nuclear war” and has started a “major new initiative” of ballistic missile defense and “operational antisatellite” offense. It will buy 1,249 air-, sea-, and ground-launched cruise missiles in the years 1983–1985. It plans “a vigorous exercise program in Latin America and the Caribbean.” It is considering seven new short-range nuclear weapons systems, and two new chemical weapons systems.19 Faced with this expansion of terror that threatens the poor and the rich, the US political opposition so far has had little more to say than that it costs too much.

There are immensely serious economic costs to the present military buildup. Its function of justifying federal deficits during a world recession is hardly the most ominous. What, for example, does it mean for America’s economic relations with the rest of the world that in the 1985 budget “security assistance” accounts for 66 percent of foreign aid authorizations, compared to 36 percent in 1981?20 What does it mean for America’s future economic growth that 69 percent of federally supported research and development is for military purposes, an increase since 1981 of $18.1 billion in the military function and of $0.6 billion in nonmilitary functions?21

Does it matter for the character of America’s scientific institutions that the Defense Advanced Research Project Agency’s new “strategic computing” program is in the process of transforming academic computer science?22 Does it matter for American competitiveness that Japan’s ten-year program on the cognitive, linguistic, and engineering foundations of computing will be civilian, while America’s will be concerned with robot reconnaissance vehicles, radiation-resistant wafers, and missile defenses, with “speech recognition” in the “high-noise, high-stress environment [of] the fighter cockpit,” and with “voice distortions due to the helmet and face mask?”23 Mr. Reagan’s principal opponents are not asking these questions; they are questions about the militarization of the political life, the scientific potential, and the economic society of the richest country in the world.

The third possible connection between Reagan and his recovery is spiritual. The increase in domestic employment and investment may indeed be a consequence of capitalist renewal, of the new confidence of Americans in America. In this recovery, less than 20 percent of young black Americans are employed.24 Of the more than nine million people unemployed late in 1983, less than 30 percent received benefits from federal and state unemployment insurance programs, compared to almost 60 percent in January 1981.25 Every night in New York City, 6,300 homeless people sleep in municipal shelters.26 The Department of Agriculture has introduced “verification procedures” to investigate the incomes of children applying for free or reduced-price school lunches.”27 The administration seems to believe that this sort of America inspires confidence in the economic future.

The confidence of foreigners is even more important. It is also easier to quantify. In 1983, the US financed its current account deficit—the difference between what it buys from abroad and what it sends abroad—with an inflow of foreign capital amounting to about $40 billion. In 1984, the Reagan administration predicts a capital inflow amounting to $75 billion, or the equivalent of 40 percent of the expected federal budget deficit.28 This feast of foreigners’ savings should have kept US interest rates lower than they would otherwise have been, and US investment higher.

The strength of the dollar and the charm of dollar investments to foreigners must in part be explained by some “residual” or extra-economic spirit of strategic confidence. It is true that foreigners are attracted by high US interest rates. But virtually any combination of economic circumstances can be seen as the source of high interest rates: the expectation of tight monetary policy, or the expectation of monetary expansion leading to high inflation; the expectation of economic growth with increased private borrowing, or the expectation of recession with increased public borrowing; the insecurity of dollar investments, or their security in a stormy world. Mr. Feldstein and Mr. Regan disagree about the laws of supply and demand, and both are peering at (and influencing) a market whose scope exceeds the collective experience of economists and investment brokers. Feldstein’s Economic Report provides a glimpse of this market when he tries to explain the futility of government intervention—in this case, selling the dollar—to alter exchange rates:

The 1983 summer intervention amounted to $254 million on the part of US authorities. This was only 1 percent of the flow through the US interbank foreign exchange market on a typical day in 1983. It was even less significant relative to the trillions of dollars in funds that investors around the world can commit to the foreign exchange market.29

American federal deficits have become the obsession of domestic economic and political life. But their principal significance is a consequence of the US position in the international economy, the international financial system, and the foreign exchange market. Present government deficits—amounting to 4.0 percent of GNP in 1983—are no higher than deficits in 1975, or than the recent deficits of such countries as Japan and Canada.30 The administration (and the market) are rather concerned with future deficits, and in particular with the “structural” or “cyclically adjusted” component of future deficits—i.e., according to the Economic Report, the part of the deficit that would remain even when unemployment falls below its “inflation threshold” of 6.5 percent and the US approaches “full employment.”31

There are, of course, costs associated with such deficits, and with the deleterious effects of government borrowing on private investment. 32 But such costs could be avoided if the late 1980s are as prosperous as the report projects. The US desperately needs to increase taxes—including personal and corporation taxes—in order to pay for the health care and income support and city streets that its society needs. If there were full employment, an increase in taxes to the point where government receipts took, for example, 36 percent of GNP (the level of Canada in the early 1970s, or of West Germany in the early 1960s), would be unlikely to destroy the spirit of American capitalism.33

The serious consequences of deficits are above all international. To the extent that the expectation of future US deficits increases interest rates, it pushes developing countries deeper into recession. In Latin America, the average interest rate on private debt is 14.2 percent, and two-thirds of all debt is at interest rates that vary with market conditions.34 For countries smaller than the US, the consequence of current account and government deficits is a declining currency. For the US, it has been a rising dollar and high interest rates. Foreigners save, lending their savings to be used for investment (or consumption) in the US. “In effect,” the Economic Report concludes, “the low US rate of private and public saving is crowding out investment not just in the United States, but in the rest of the world as well.”35

This picnic of foreign savings is the most substantial achievement of the Reagan economic policy. Two years ago, in their first Economic Report, Reagan’s advisers suggested that without enough domestic funds for investment, “some saving could also come from abroad.” They were concerned about the effects of government borrowing: “If international credit flows respond sufficiently to only slightly higher interest rates, significant crowding out of US private investment may be prevented.”36 We observed at the time that this ingenious solution was “not likely to endear the administration to America’s allies,” and that the “flow of foreigners’ savings would presumably be offset—as the report does not point out—by an increase in US imports of goods and services.” Now, through fierce resolve and a combination of expansive fiscal and intermittently restrictive monetary policies, the administration has met its own expectations: a deficit on merchandise trade of $110 billion expected in 1984, a growing current account deficit, and a surfeit of “international credit.”

Reagan’s policies for military security may also have contributed to the destiny of the US current account. The “residual” or spiritual element in international financial markets is no doubt geopolitical: as Reagan’s advisers suggest (with differing insistence) dollar investments are a “safe haven” for Latin Americans, Europeans, and the rest of the wretched of the earth. We need not expect that a Danish investor in dollar securities (let us say) is notably swayed by Mr. Reagan’s determination to buy a few hundred more sea-and air-launched cruise missiles or a few more military exercises in Honduras. But the strength of the dollar is the weakness of other currencies, and of America’s allies. The worldwide turbulence of the Reagan years has made New York seem safe for investments.

Security, in the present US view, is to be bought with military force in general and with nuclear weapons in particular. This vision—and the pursuit over three years of a frenzied military competition between the US and the Soviet Union—is antagonistic to the interests and the future of America’s allies. It is antagonistic, above all, to the interests of the Federal Republic of Germany. The riddle of the strong dollar was to a great extent a riddle of the weak Deutsche mark. That weakness is political as much as economic. The rise of the Deutsche mark has been deferred and deferred: for the fall of Schmidt and the 1983 elections; for the deployment of Pershing II and cruise missiles; for the little local inconveniences of the Kohl government. For a time, in 1984, the strength of the dollar rested on the reputations of Count Lambsdorff and Mr. Wörner and General Kiessling.

Reagan can properly take credit, economic and geopolitical, for the value of dollar investments. But it is a poisoned asset. Americans may close their eyes to the economic suffering of their allies in Europe and their clients in Latin America and their fellow human beings in Africa. They may assume, along with the Economic Report, that “the United States is acting as an engine of growth in the world economy.”37 They should not ignore the power of the dreary outside world to destroy their own recovery.

The omens of a dollar collapse loom over Feldstein’s report: “The real value of the dollar is widely expected to fall back,” and “the decline could start in 1984.” “The market regards the dollar as currently being about 32 percent above its long-run real value,” and “the Europeans can look forward to” a dollar decline. Would a “prospective world portfolio shift out of dollars [be] accompanied by a portfolio shift into marks”? Such a decline would lead to an increase, perhaps sudden and sharp, in the price of imports and in US inflation. It could bring a drop in the value of US investments. It could be slow or it could be dizzyingly swift. The dangers of the dollar decline could have been limited by policies to reduce US interest rates, including through monetary expansion; to reduce the differences between interest rates in different countries (such as through an “interest equalization tax”); and to reduce the flow of capital into the US. But these exercises are outside the universe of the Reagan group: “The Administration is opposed to capital controls as a matter of general principle.”38

Reagan suggests that he has released an economic spirit and a military spirit. In his economic policy, he relies for domestic and international recovery on “the market”—on a process of adjustment through economic misery descended from that practices during the 1930s. In his security policy, he relies on the threat or the use of military force as a solution to international differences. The criteria for security and influence are purely military; the criteria for recovery are purely economic.

During the last three years, the United States has turned away from the policies for social protection which it and other rich countries invented after the depression of the 1930s. It has turned away from the institutions of international solidarity and respect for international law which it helped to create after World War II. But even America is vulnerable to a world of unfettered force: the force of military terror and social despair and “trillions of dollars in funds around the world.”

The postwar institutions were in the interests of the rich countries. Reagan is not the only world leader whose efforts have deepened the present crisis in those countries and others. Thatcher and Kohl and even Schmidt have pursued policies of single-minded deflation, refusing the possibility of cooperation for economic recovery. Mitterrand—for whom “la pièce maîtresse de la stratégie de dissuasion en France, c’est le chef de l’Etat, c’est moi,” or, in rough rendition, “deterrence is me”—has contributed to the glorification of military force and nuclear weapons.39 But the United States bears a peculiar responsibility, military and economic, for the destruction of hopes which could bring the crisis to an end.

In this grim election year, Reagan can be expected to point to his economic successes rather than to his foreign tribulations. The Emperor Nero chose a moment of domestic tension to invest the Parthian Tiridates with the crown of Armenia: “with public curiosity diverted to foreign affairs, domestic crime might be thrown into shadow.”40 Reagan could adopt the opposite strategy, using unemployment or inflation statistics to divert attention from his foreign interests in Parthia and Armenia and El Salvador. The horror and the dishonor are the same.

  1. 1

    Message from the President on the State of the Union,” The New York Times, January 26, 1984.

  2. 2

    Caspar W. Weinberger, Annual Report to the Congress, FY 1985, pp. 3-4.

  3. 3

    Economic Report of the President, transmitted to the Congress February 1984, p. 42.

  4. 4

    Unemployment rates for December 1983 and December 1982 from The Economist, February 4-10, 1984.

  5. 5

    World Bank and Food and Agriculture Organization estimates.

  6. 6

    Economic Report, p. 81.

  7. 7

    Annual Report, p. 54.

  8. 8

    Annual Report, pp. 203-224.

  9. *

    GLENDOWER: I can call spirits from

    the vasty deep.

    HOTSPUR: Why, so can I, or so can

    any man;

    But will they come when you do call

    for them?

    Shakespeare, King Henry IV, Part I, 3.1. 53-55.

  10. 9

    The multilateral trade-weighted value of the dollar increased from 87.4 in 1980 (where its March 1973 value is taken as 100) to 130.2 in the fourth quarter of 1983 (Table B-98 in the Economic Report). Between 1972 and 1982, the consumer price index for food increased. at an annual rate of 8.7 percent per year and the consumer price index for energy at 13.8 percent per year. Between June 1982 and December 1983 the annual rate of increase for food prices was 1.4 percent, while energy prices actually declined (Economic Report, Table B-54).

  11. 10

    Economic Report, p. 3.

  12. 11

    National Income and Product Accounts (NIPA) Tables 3.1 and 6.1 (Survey of Current Business, July issues and September 1981 supplement). The product of the government “industry” is defined in national accounts as the compensation of government employees; “purchases” here exclude employee compensation.

  13. 12

    Economic Report, pp. 32-33.

  14. 13

    NIPA Tables 1.1 and 3.2.

  15. 14

    Economic Report, Table B-23.

  16. 15

    Economic Report, Table B-23. The “troughs” of the 1974–1975 and 1982–1983 recessions are identified on p. 176. Quarterly savings data for 1975–1976 from NIPA Table 2.1.

  17. 16

    Annual Report, p. 70.

  18. 17

    NIPA Table 3.2.

  19. 18

    Figures for the composition of defense spending from NIPA Table 3.7B; for the expected composition of defense outlays in fiscal year 1985 from “Special Analyses,” Budget of the United States Government, FY 1985, p. B-8. Overall federal expenditures as counted in NIPA data are about 2 percent greater than federal outlays as counted in the federal budget (“Special Analyses,” p. B-23).

  20. 19

    Annual Report, p. 186 (MX); p. 38 (certain deterrence); pp. 193 and 199 (missile defense and satellites); p. 221 (hemispheric exercises); pp. 201 and 275 (shortrange nuclear and chemical weapons). Cruise missiles are counted in “Program Acquisition Costs by Weapon System” (Department of Defense, February 1, 1984), pp. 71, 80, 81.

  21. 20

    Figures for 1985 budget authority from Budget of the United States Government, FY 1985, p. 5-22; for 1981 from the FY 1983 Budget, p. 5-22.

  22. 21

    Special Analyses,” Budget, p. K-30.

  23. 22

    The program is described in Weinberger’s Annual Report, p. 263, and also in the Defense Advanced Research Projects Agency’s own study “Strategic Computing” (DARPA, October 28, 1983). In this study DARPA explains that it intends to use contract personnel from industry as well as university researchers, in order to “avoid a dangerous depletion of the university computer science community”: “The magnitude of this national effort could represent a very large perturbation to the university community” (p. 64).

  24. 23

    DARPA, “Strategic Computing,” pp. 34-35.

  25. 24

    Economic Report, p. 188.

  26. 25

    Figures for unemployment in November 1983 from Economic Report, Table B-30; for weekly average insured unemployment, from Table B-36. January 1981 figures from the 1982 Economic Report, same tables.

  27. 26

    Sydney H. Schanberg, “Reagan’s Homeless,” The New York Times, February 4, 1984.

  28. 27

    The New York Times, September 17, 1983.

  29. 28

    These predictions—for the 1984 fiscal year beginning October 1, 1983—are given in the Economic Report, pp. 36 and 56.

  30. 29

    Economic Report, p. 60.

  31. 30

    Figures for the deficit of total government—federal, state, and local—in 1983 and 1975 from the Economic Report, Table B-75. Figures for “general government financial balances” of fourteen OECD countries given in OECD Economic Outlook, December 1982, p. 23. Japan’s government deficits averaged 4.3 percent of GNP in 1978-82, Canada’s 3.0 percent, and West Germany’s 3.3 percent.

  32. 31

    Economic Report, pp. 35-36. The full-employment inflation threshold is, in the words of a recent US government study, “an extraordinarily difficult concept to quantify.” Frank de Leeuw and Thomas M. Holloway, “Cyclical Adjustment of the Federal Budget and Federal Debt,” Survey of Current Business, December 1983, p. 27.

  33. 32

    See, for example, de Leeuw and Holloway, “Cyclical Adjustment of the Federal Budget and Federal Debt,” pp. 34-37, on the ways in which growth of federal debt might affect growth of capital stock.

  34. 33

    In 1983, all government receipts amounted to 31.4 percent of GNP in the US (Economic Report, Tables B-1 and B-75). Comparable figures for other OECD countries given in OECD Economic Outlook, December 1982, Table R9.

  35. 34

    The World Bank Annual Report, 1983.

  36. 35

    Economic Report, p. 63.

  37. 36

    1982 Economic Report, p. 101. Quoted in Emma Rothschild, “The Philosophy of Reaganism,” The New York Review, April 15, 1982.

  38. 37

    Economic Report, p. 85.

  39. 38

    Economic Report, pp. 53, 61-64.

  40. 39

    La pièce maîtresse de la stratégie de dissuasion en France, c’est le chef de l’Etat, c’est moi; tout dépend de sa détermination. Le reste, ce sont des matériaux inertes….” Le Monde, November 18, 1983.

  41. 40

    Tacitus, Annals, Book XVI, xxiii, translated by John Jackson (Harvard University Press, 1969), p. 373.

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