The Decline and Fall of Fiscal Conservatism

Compared to the time of the beginnings of my awareness of politics — the 1980 presidential election — there has been a fundamental change in what it means to be “conservative.” For the first 22 years of my life (yes, I was born in 1958), conservatism meant two things:

• An informed skepticism about the expansion of government direction of private or market functions

• An obdurate insistence that whatever activities the government does undertake must be paid for either by fees or current taxes.

Even the most rock-ribbed conservative might relax the “pay as you go” constraint for investment in infrastructure, or in time of war, but otherwise deficits were seen as the central and most dangerous fiscal problem. Don’t forget, the accumulated debt was a big enough concern that the U.S. passed the Gramm-Rudman-Hollings Balanced Budget and Emergency Deficit Control Act in 1985. 

In case you are keeping score, the debt in 1985 was $1.75 trillion; that was 45 percent of GDP. Today it’s $21 trillion, and more than 100 percent of current GDP.

Both parts of what was once conservatism are now well and truly dead. There is no evidence that spending increases are smaller in Republican administrations, and both deficits and the accumulated debt have skyrocketed, largely to pay for current consumption rather than any kind of investment in infrastructure. And an endless war doesn’t count, unless you think that “endless deficits” are a good thing.

Traditional fiscal conservatism has been replaced by an understandable, but unfortunate, tendency to focus on short-term political advantage. Folks on the right got tired of insisting that the “generosity” of the Left must actually be paid for. The problem is that H.L. Mencken’s old saw that elections are nothing but advance auctions in stolen goods has never been truer: the Left uses other people’s money to buy votes with spending, and the Right uses the money of unborn generations to buy votes with tax cuts.

Because, like it or not, deficits are future taxes. I have long proposed that we reduce that to an acronym: DAFT. As in, “U.S. fiscal policy is DAFT: Deficits Are Future Taxes.

If you don’t cut spending, then tax cuts just move the burden around; it must still be paid for.” (Don Boudreaux explains, in some detail.)

There are only four ways to finance government spending: 

1) taxing
2) borrowing
3) printing money (or “crediting” digital money to the account of the Treasury) and spending that
4) repudiating the debt

Both (3) and (4) are stop-gap measures, at least for countries with “hard” currencies that trade at par on international markets. That leaves only taxes or borrowing. And anything we borrow has to be repaid, plus interest. The world is willing to advance the U.S. an enormous line of credit, but that’s because our tax rates, at least on personal income taxes, are moderate by the standards of the developed world, and state capacity is high enough to ensure reasonable levels of compliance.

The strong form of the DAFT argument would be “Ricardian equivalence,” the doctrine that was elaborated by Robert Barro, but attributed to David Ricardo, even though Ricardo was writing on something a bit different. In the strong form, Ricardian equivalence would mean that it literally does not matter whether government debt is financed by taxes or debt, because taxpayers and creditors smoothly update their own investment and consumption plans using the accounting identity

Spending – Tax Revenue = Deficit/Surplus

Now, “spending” must also be taken to include payments of principal and servicing interest on the debt, where debt is the accumulated deficits from previous periods. Ricardian equivalence would mean that people forecast their future tax obligations if the deficit is financed by debt, and convert that into their expectations about tax payment. (Some definitions, if these terms are unfamiliar to you.)

If Ricardian equivalence were true, in its strong form, there would be nothing to worry about. Taxpayers and debtors would recognize that selling Treasury bonds to finance current spending would have to be paid for later, by the same people now avoiding the tax, and (what amounts to the same thing) their heirs. So there is no great incentive problem, and the “multiplier effect” of Keynesian-inspired deficit spending would be negligible.

But there is little evidence for Ricardian equivalence. In fact, there is some evidence, dating to an important paper by George Mason’s Richard Wagner, that a better description would be “fiscal illusion.” Fiscal illusion is complicated, but it’s essentially the government-spending version of the old joke: “I can’t be out of money, I still have checks left.”

The DAFT claim addresses the problem with fiscal illusion, trying to restore some semblance of Ricardian equivalence. Under fiscal illusion, the accounting identity about spending and taxes and deficits still holds, but taxpayer/voters have short time horizons and little concern for the future. Yes, someone is going to have to pay future taxes, but it’s either not me or it’s a future me that I haven’t met and don’t care much about. Consequently, taxpayers prefer mixes of government financing that lean heavily on debt, deferring payment to future generations. 

If you buy the DAFT view, you realize that the much-lauded “tax cuts” of several presidential administrations were actually (future) tax increases. Tax cuts without spending cuts are always tax increases, but on future generations who can’t vote. Deficits are aggressively redistributive, in this case taking money from people who can’t vote yet, and so can make no effective protest. And we’re spending the money mostly to benefit old people, who are already much richer on average than the young people we are exploiting. My good friend Loren Lomasky gave an eloquent exposition of this problem in 2016, in his article “Fleecing the Young.” Since then, the problem has only gotten worse. 

The accumulated debt is nearly $23 trillion, and we are adding new deficits on top of that of at least $1 trillion per year as far as we can reasonably see. That’s a total debt burden of well over $125,000 for every taxpayer in the U.S. workforce. And as I said, we aren’t paying it down; we’re spending it up. That’s just DAFT.

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