Leading Indicator

The arrival last month of Benjamin Friedman’s The Moral Consequences of Economic Growth immediately sent me back to have a look at his earlier book, Day of Reckoning, published in 1988.  After nearly twenty years, I wondered, what could be said about the way that book, with its chapter-head quotations from the books of Proverbs, in the Bible, and Fathers, in the Mishna, had held up?

The answer, I think, is that Day of Reckoning stands up in the present day very well indeed. It turns out that Friedman was absolutely right in 1988. He may have underestimated the gains arising in the 1980s from the conquest of inflation and the simplification of income taxes. But he was correct in his judgment that across-the-board cuts in individual income taxes in the early 1980s had almost no measurable effect on work and none on savings; correct, also, in his assessment of the how the advent of Reaganomics — “from tax-and-spend to spend-and-borrow” — had set the country on an unstable fiscal path.

The wisdom of his warning was demonstrated when the measures he recommended were adopted, not so much because he advocated them, but because their necessity came to be widely understood — first by George H.W. Bush, on the eve of the Gulf War in 1990 (“put our fiscal house in order”), then by Bill Clinton immediately after he was elected president (“my jobs program is deficit reduction”).

Something like the three percent tax increase and various spending cuts that Friedman had prescribed were transformed by politics over the next four years in an all-but-impossible-to-follow game of three-card monte. Remember Ross Perot?  But in the end, OBRA-di and OBRA-da (the Omnibus Budget Reconciliation Acts of 1990 and 1993) worked almost exactly as Friedman had predicted they would.

Deficit reduction permitted the Federal Reserve Board to push interest rates down to record lows, economic growth accelerated, tax receipts rose, Clinton and Newt Gingrich performed their cobra and mongoose act, and, by the end of the decade, the unified federal budget was balanced, with $5.5 trillion in surpluses projected for the decade ahead.

Then, of course, Dick Cheney opined that Reagan had shown that “deficits don’t matter,” and George W. Bush pushed through a return to spend-and-borrow policies on a massive scale, far what was necessary to counter a mild recession.  At least there is nothing in the current situation that we haven’t been through before.  Add mixture as before.

The Moral Consequences of Economic Growth turns out to be as timely as a cover story in the Economist.  That’s because the Economist‘s cover last week was, in fact, a leader about the desirability of further liberalizing trade, the tag line nicely summing up the point of Friedman’s book:  “Tired of globalization — and in need of much more of it.”  But instead of a tart lecture on the virtues of worldwide economic expansion, Friedman offers a sweeping, even daunting history of how two centuries of economic growth have contributed to the advance of freedom around the world.

Carefully laid out in four chapters on American history and three more on the differential experiences of Britain, France and Germany, is the proposition that economic growth has powerful side effects, notably openness, tolerance and democracy, whose import often is underestimated.  So, too, do periods of stagnation. A Harvard University professor who long ago made his reputation as an expert in monetary policy and finance, Friedman seems to have read every monograph and research paper on economic growth written in the past hundred years, from Alexander Gerschenkron’s Bread and Democracy in Germany and Simon Kuznets’ “Economic Growth and Income Inequality” to the latest debates among empirical economists on the role of various institutions in fostering growth.

Near the outset, though, he quotes the author of an earlier exploration of the nature and causes of the wealth of nations to the effect that it is “in the progressive state, while the society is advancing to the further acquisition, rather than when it has acquired its full complement of riches, that the condition of the great body of the people seems to be the happiest and the most comfortable.  It is hard in the stationary, and miserable in the declining state.” More than two centuries later, Friedman finds abundant evidence that Adam Smith was right.

The value of a rising standard of living, he says, “lies not just in the concrete improvements it brings to how individuals live, but in how it shapes the social, political and ultimately the moral character of a people.”  Worried about what that SUV says about your neighbors?  Don’t, says Friedman.  Worry about the opposite — what happens to them if they can no longer afford to buy the next generation of improved automobiles — presumably a series of fuel-saving gas/electric hybrids equipped with Internet access. Economic stagnation breeds inwardness, defensiveness and even paranoia, he says, for “where most citizens sense that they are not getting ahead, societyÉ becomes rigid and democracy weakens.”  Hence government’s basic responsibility is to further economic growth.

What exactly does that mean in the present day? To ensure that the general standard of living in the United States continues to increase, says Friedman, what’s required is not more debt-financed consumption, but rather a series of steps that involve both belt-tightening and increased public investment.

“Limiting government spending, undoing tax cuts, accelerating the increase in the Social Security retirement age, reshaping Medicare on choice-based lines, providing intensive early intervention programs for the youngest school children, encouraging more students to finish high school and enabling more to attend and finish college, restructuring primary and secondary public education to provide more choice among schools — these are all hard choices for public policy, and in some cases they  are radical choices.  But the stakes are high, and the consequences are far-reaching.”

Will there come a day, fifteen years from now, when we can look back at the years at the beginning of the 21st century, and say that, through whatever political tug-of-war was required, the United States took the necessary steps to maintain its steady growth amid growing competition from rapidly industrializing nations around the world?  Perhaps.  But it will happen only if we recognize the moral consequences of stagnation — and act