Curse Dean Baker! Not only did he mislead (through the amplification by Paul Krugman) millions of people about the danger of government deficits, but then he went and posted again on the topic. This allowed me to skirt my earlier pledge to not post anything else on this.
If you can stand it, over at Nick Rowe’s blog (which I think he shares with some other Canadian[s]) we are very close to achieving total consciousness in the comments. If I may be so bold, I believe my skills now exceed that of my master. (If you have time for just one, try this.)
First, some related posts of interest, and then I will offer a completely fresh approach to illustrate what’s going on:
* This guy’s a philosopher or something, but he thinks I’m funny so he’s A-OK in my book. In this post, he illustrates the mechanism by considering per capita tax burdens and bond payments, before and after the next generation is born, and depending on whether the parents share their bonds or hold on to them. This perspective might make it click for some of you.
* This guy has a funny summary of the whole debacle too, but he has dumped my role down the memory hole. So I don’t like him as much as my new friend, the philosopher.
* Given the timing of this post, I can only conclude that Brad DeLong saw that his Keynesian allies had driven right into quicksand. Rather than risk falling in himself, DeLong kept his remarks curt and merely threw them a rope with which they might pull themselves out.
OK but now on to a new way to think about this. Forget government debt for the moment. Think of the beautiful, pristine, laissez-faire economy. I’m going to talk about one of its virtues that I have never seen discussed by pop writers.
Suppose there is a scientist who realizes that a certain, small asteroid has (say) $10 trillion worth of very easily extractable metals, even adjusting for the drop in the price of the metals with the increased supply. Only this scientist knows the exact trajectory of the asteroid. Given the technology of private spacefaring at the time of his discovery, it would cost (say) $10 million to send a nuclear bomb out into space to detonate at just the right spot to make the asteroid land on Paul Krugman’s house. (Thus we achieve both private and social benefits.)
Seems like a no brainer, right? We further assume that there’s no problem with property rights and that kind of stuff. The scientist gives the engineers the precise coordinates, and BOOM it’s a simple operation to bring that baby in, and shower $10 trillion in wealth into his estate. Since it only costs $10 million to execute the plan, duh, of course he’ll do it, as if led by an Invisible Hand. He just needs to explain the situation to some venture capitalists, they will understand all the details (perfect capital markets), and boom, there ya go.
Oh shoot–there’s a hitch. The asteroid is really far away, and it won’t actually smash into the area currently occupied by Krugman’s house, until the year 2112. Will the scientist and venture capitalists still go ahead with the scheme?
Well, if they care about their kids and grandkids, sure they will. What better inheritance to bequeath, than the property rights to the $10 trillion in metals that will land on Earth in 2112?
Oh shoot–these guys are all eunuchs. Even worse, they are misanthropic eunuchs. They don’t care about future Earthlings.
Well that’s that, I suppose. Another market failure to add to the next edition of Krugman & Wells….
Wait a tic! What if the scientist and the venture capitalists auction off their property rights to some other investors? For example, at a 5% discount rate, the looming $10 trillion jackpot in 2112, is worth about $76 billion today. (I think I did that right. It’s 2am my time, if not.) So the venture capitalists put up the $10 million to fund the launch of the nuclear bomb, then they auction off the property rights in the asteroid (when it crashes in 2112), for $76 billion. They split up the sizable surplus with the scientist in a mutually agreeable way.
But wait a second, who would be so stupid as to buy that property claim? People who are neither eunuchs nor misanthropes?
Well maybe; that would solve the problem right there. But even investors who were also eunuchs and misanthropes would be willing to do it. Let’s say they are 40 years old right now. (You’d have to be at least 40, to have accumulated $76 billion to put up for such a project.) They put in their $76 billion today, then sell the property right for about $257.5 billion when they’re 65 and want to retire. It was a sure-fire way to earn 5% per year on their money, so that’s why they did it.
At that time–the year 2012+25 = 2037–a new batch of 40-year-old investors grabs the torch. They carry it for another 25 years (i.e. till 2062), then sell it for about $872 billion to another group of investors. They in turn sell it (in the year 2087) for about $2.95 trillion to another group. These guys in turn hold it for the remaining 25 years, and when the asteroid crashes into Krugman’s great-grandkids’ house, they sell the metals for $10 trillion, thus earning 5% per year on their retirement fund.
When you step back and think about what happened, it’s quite beautiful. Even though the planet didn’t have physical access to the cornucopia on the asteroid until 2112, in a very real sense the earlier generations “consumed” that wealth. In particular, the scientist and venture capitalists who made it all possible got the lion’s share of the benefits. They got to consume $76 billion of goods and services in their retirement years, and nobody was hurt by it. Where did this massive bout of consumption come from? Well, from the asteroid. But you have to think through the overlapping generations to see exactly how it was “passed backward” through time, metaphorically.
OK now that we’ve got that one under our belt, consider a new one: A politician in the year 2012 says to a bunch of venture capitalists: “Hey! I have just discovered a way to give $10 trillion to the holder of a particular property right in the year 2112! There is this technology called ‘guns, prisons, and a docile population who will report on tax cheats.’ What do you guys say? If you lend me $76 billion, I’ll sell you this piece of paper entitling the bearer to get the $10 trillion our government will tax in the year 2112.”
So the logic is the same as in the asteroid case. People in the year 2012 enjoy $76 billion worth of consumption (assuming that’s how they use the raised funds–it’s possible they spend it on finding a cure for cancer). Where does it come from? Why, out of the hides of the indentured servants who work for the taxman in the year 2112. The bond markets and overlapping generations allow that slave wealth* to be passed backward through time, metaphorically.
* Purists such as Gene Callahan will object to the term “slave.” If he has a better term for one group of people using force to extract wealth from workers who had absolutely no say in the decision–they weren’t even alive when the process was set in motion–I will consider his suggestion.
UPDATE: Two important things.
#1: Of course I’m kidding about blowing up Krugman’s house.
#2: Notice that in the second scenario, the people in 2112 “owe the government debt to themselves.” The government at that time is taxing money from some of the great-grandkids, to hand over to other great-grandkids. Clearly it’s just a distributional issue at that time, and it would be nonsense to somehow think that the people consuming the $76 billion of goodies in 2012 were in any way living at the expense of the people living in 2112….right?