No Balanced Budget Without Independence From Wall Street

07/24/2011 07:43 pm ET | Updated Sep 23, 2011

"We need to balance the budget in order to grow the economy." In the midst of the federal debt-ceiling food fight, this may be one of the only ideas both political parties can more or less agree on. And coincidentally, it may also be one of the best examples of just how completely out of touch with economic reality both parties are.

Commentary on the so-called balanced budget amendment from an array of ideologically disparate economists points out why.

CNN Money quoted Norman Ornstein of the arch-conservative American Enterprise Institute as saying of the proposed Balanced Budget Amendment or BBA:

It is about the most irresponsible action imaginable... It would virtually ensure that an economic downturn would end up as a deep depression, by erasing any real ability of the government to pursue countercyclical fiscal policies and in fact demanding the opposite, at the worst possible time.

Then there's the head of the Congressional Budget Office who recently told Congress:

By requiring a balanced budget every year, no matter the state of the economy, such an amendment would raise serious risks of tipping weak economies into recession and making recessions longer and deeper, causing very large job losses. That's because the amendment would force policymakers to cut spending, raise taxes, or both just when the economy is weak or already in recession -- the exact opposite of what good economic policy would advise.

If you're careful enough to read between the lines here, you'll discover a pretty stunning admission. What these experts are essentially saying is that the federal government's inability to maintain a balanced budget isn't rooted in excessive spending or the near impossibility of passing major revenue hikes; it emerges from the reality of a growth-focused economy that is designed to produce "business cycles" (i.e. economic bubbles and downturns) as part of its basic functioning, and that requires government bailouts and interventions to keep from seizing up after downturns occur.

In other words, what makes this idea of limiting debt to grow the economy so mindbogglingly absurd is that a growth-focused economy requires increasing debt in order to function. And the debt that's necessary to keep our economy growing at the rate mainstream economists consider "healthy" isn't the kind your grandfather would recognize. It isn't supported by real investments from people creating socially useful products through honest labor. It isn't backed by actual capital reserves or bank deposits. Not even close. Maintaining 3 percent annual GDP growth requires the issuance of gargantuan levels of debt that exceed lender equity by unconscionable ratios. We're talking trillions of phantom dollars generated out of thin air each year by private banks using nothing but a few "creative accounting" strokes.

The result is a money supply that greatly exceeds the size of the real economy -- i.e. the production of real goods and services, or real tangible wealth. And given that money is actually a measure of debt (i.e. the amount of real goods and services I can demand for my money) our finance-dominated, growth-focused economy is essentially a system of permanent indebtedness -- one where demands on real-economy goods and services will always exceed supply.

The only corrective to this problem that our current economy can provide is a devaluation of all that phantom paper wealth, otherwise known as an economic crisis.

Of course, the culpability for this ridiculous system doesn't just lie with some unscrupulous Wall-Street bankers or hedge-fund managers. On the macro level, few players do more to help promote the debt that drives the economy than the Federal government's very own banker, the Federal Reserve. Not only does the Fed help fuel debt bubbles like the mortgage bubbles by slashing interest rates to promote borrowing (and hence debt-fueled growth), but as we've seen when the debt bubble pops the Fed only helps generate more debt by stepping in to bail out the banks.

With all this in mind, when we look back at the foregoing balanced budget amendment critiques, we can see a big hole in the reasoning behind them. We see that, in contrast to what those economists claim, there's nothing inherently stupid about requiring that the government keep its fiscal house in order; what makes it stupid is the stupid design of our economic system -- a design that actually necessitates budget imbalances through its focus on growth and generating phantom paper wealth.

So the very desirable goal of creating a more or less permanently balanced budget could be achieved and should be pursued, but it's not going to be achieved by a balanced budget amendment or increased taxation and decreased spending; it can only be achieved by a complete overhaul of the design of our economy. And a good place to start this overhaul is with the money system itself.

A recent report by the Institute for Policy Studies' New Economy Working Group, provides a nice framework for what such an overhaul might entail. Entitled How to Liberate America from Wall-Street Rule the report offers six key recommendations, as described by David Korten on the NEWG blog:

  1. Break up the mega-banks and implement tax and regulatory policies that favor community financial institutions, with a preference for those organized as cooperatives or as for-profits owned by nonprofit foundations.
  2. Establish state-owned partnership banks in each of the 50 states, patterned after the Bank of North Dakota. These would serve as depositories for state financial assets to use in partnership with community financial institutions to fund local farms and businesses.
  3. Restructure the Federal Reserve to function under strict standards of transparency and public scrutiny, with General Accounting Office audits and Congressional oversight.
  4. Direct all new money created by the Federal Reserve to a Federal Recovery and Reconstruction Bank rather than the current practice of directing it as a subsidy to Wall Street banks. The FRRB would have a mandate to fund essential green infrastructure projects as designated by Congress.
  5. Rewrite international trade and investment rules to support national ownership, economic self-reliance, and economic self-determination.
  6. Implement appropriate regulatory and fiscal measures to secure the integrity of financial markets and the money/banking system.

The upshot here would be an economy where the money-system is designed and operated like a well-regulated public utility whose purpose is to help generate real, tangible wealth that serves the interests of Main Street and not Wall-Street.

In addition to creating a more stable, equitable, less debt-dependent economy, this approach to economic restructuring is critical to helping us deal with a different type of growth-driven debt that can never be forgiven or devalued: ecological debt.

Since the late 1980's we've been overshooting our sustainable natural resource budget every year, and running up enormous ecological debt. According to the Global Footprint Network, our global economy currently operates at 140 percent of sustainable global carrying capacity. That means every year, our use of ecological resources and services is 40 percent higher than what the global ecosystem is able to regenerate or assimilate. The situation is a lot like government over-spending but a lot scarier, because on a finite planet there's a real physical limit to how high we can raise the ecological debt ceiling before it all comes crashing down.

To balance the ecological budget and keep future generations from paying for our over-spending we need to move to a steady-state economy. That means establishing a system where we operate our economy within a set, stable our ecological budget and do not undermine future -economic and social health by over-consuming our natural capital reserves today.

In other words, our economic redesign has to involve a shift away from growing GDP to growing the real indicators of social and economic well-being: real, meaningful employment, economic opportunity, education, healthcare, strong communities, food security, cultural capital, a healthy, beautiful resilient environment, and so forth.

Of course, when our politicians can't even get real or courageous enough to admit that we need to seriously raise taxes on the wealthy or slash military spending it would seem more than a little far-fetched to imagine they would embrace this kind radical system redesign. The growth dogma is the holiest of holies and occupies a completely sacrosanct, inviolable political zone that no politician would dare trespass upon.

So for the time being the federal food fight is bound to continue, as will the pursuit of false solutions based on the absurd "balanced budget = economic growth" reasoning. We'll maintain our debt-based, growth-focused economy until the laws of nature and math bring the debt ceiling crumbling down on our heads.

But we shouldn't just sit back and wait for this to happen. While proponents of the status quo try to delay our rendezvous with reality, advocates of real solutions have to stay active and vocal in promoting the real solutions. The world needs us to vigorously educate and advocate around those solutions now so that when the first major chunks of that ceiling start to fall, we'll have a plan to keep our civilization from being permanently flattened.