02/28/2011 01:00 pm ET | Updated May 25, 2011

Demystifying Our Economic Predicament

Transcendental mystery is of a bygone era. Yet our profane secular world also contains extraordinary things that are baffling and defy logical comprehension. Economics is especially rich in these mystifying puzzles. This despite the omnipresence of the experts who declare themselves wizards of the premier social science. Here are a few bewitching mysteries that bedevil us.

Number one is the gross discrepancy between a reviving national economy and public penury. Unprecedented deficits are exacting a painful price in austerity. Budgets of states and municipalities across the land are under the knife. Libraries have become luxuries, schools stepchildren, and even police and fire departments are endangered. In aggregate, the 50 states are running deficits of $175 billion.

Cities in aggregate suffer a deficit of between $30-40 billion. In Washington, tax revenues are flat so that the deficit continues to mount despite the curtailment of stimulus spending and other austerities, e.g. a freeze on federal employee salaries. However, the numbers tell us that our stuttering recovery has succeeded in bringing GDP very close to where it was before the financial crisis broke in 2008. At that time, governments at all levels enjoyed fiscal good health. How is this possible? Doesn't GDP today measure what it measured three years ago? Aren't local and state tax rates set where they were three years ago? Haven't the one-time federal tax cuts of 2009 expired? 'Yes' to all those questions. Indeed, real estate taxes in most jurisdictions have been kept level or actually increased -- as in N.Y.C. and in Austin where they were raised by 10% despite stable housing prices.

So what's going on? Intervention by the capricious gods on Mount Olympus? Looking for an answer from the community of economists is frustrating. Rare is the specialist who addresses the question squarely. Certainly, a scouring of the financial press in a fruitless hunt for edification.

No need to consult either the Delphic Oracles or the economic seers. For there are clues that point to the solution of this mystery -- a deeply unsettling solution. One glaring truth is that those who pay taxes in a manner commensurate with income now are reduced in number relative to those who routinely elude tax by means fair or foul. That latter category includes corporations and very wealthy individuals. Warren Buffett's secretary is in a higher tax rate than the maestro of Omaha -- as he himself has pointed out.

Of the Fortune 500 companies, 123 pay less than 23% on corporate revenues even though the official corporate tax rate is 35%. (Tim Geithner urges that the nominal rate drop to 25%). Those taxable earnings themselves represent only a fraction of profits given all the dodges built into tax code that invite accounting antics to hold official profits to a minimum. Then there are the special tax breaks for the oil and gas industry. Then there are the off-shore tax havens that allow corporations to locate their fictive headquarters in places with low or no taxes, Cayman Islands. Those havens are also available to the super rich. Then there is the infinite variety of financial shenanigans that befuddle underfunded, under motivated so-called regulators. The games that have shifted so much national wealth into the accounts of the top 2% are almost all still permitted despite their having brought the global economy to the brink of the precipice.

Then there is ever more extensive outsourcing of jobs and facilities abroad. GE, whose former CEO Mr. Jeffrey Immelt is now one of Mr. Obama's chief economic advisors, cut its payroll by some tens of thousands over the past decade. Its revenues have soared over this period because more and more of its corporate activity takes place in other countries. According to the numbers, much of the ensuing GE revenues are recorded as increases in national GDP. But foreign workers don't pay taxes to the IRS (nor do they or GE contribute to FICA). The downward effect on government tax revenues if twofold: GE is in a better position to 'hide' earnings by showing the greatest profits in whichever of its locations have the lowest tax rates; and the earnings of American employees (who do file IRS returns) have become a smaller and smaller fraction of GE's corporate wage bill. A similar logic applies to the growing practice of raising 'productivity' by forcing white collar workers to work uncompensated overtime and by the reliance on part-time workers who are paid less and receive few if any benefits. Consequently, the inflation-adjusted income of the median household -- smack in the middle of the populace -- fell 4.2% between 2007 and 2010 (even worse than the 1970s, when median income rose 1.9% despite high unemployment and inflation).

GDP numbers themselves are distorted. The methodology for their calculation is a simple tabulation of transactions. Every time players in the financial money game trade 'products' of dubious value to the 'real economy,' like the notorious CDSs and Collateralized Debt Obligations (CDOs) or Credit Default Swaps (CDSs), the national cash register records the transaction as an addition to GDP. Those sorts of pseudo financial transactions have increased as a fraction of all financial dealings. The financial sector as a whole has grown to about 20% of the overall national economy and an even larger share of corporate profits. If we were to assume that 50% of financial transactions fall into the fictive category, then 10% of nominal GDP growth is also fictive. The American economy that allegedly grew at an annual rate of 2.8% in the fourth quarter may actually have grown by only 2.5%. There are other distortions of this kind that tend to overstate the rate of increase in GDP.

All of this could be inferred from the stubbornly high rate of unemployment coincidental with record corporate profits. Too, those profits are coincidental with a continuing decline in mean hourly wages for American workers -- another telltale sign. Moreover, connivance with the 1990s reformulation of unemployment measures masks the fact that today's unemployment as stated in 1980 terms is more like 15% than the official 9%. These disparities are incomprehensible if we insist on taking at face value the numbers that are thrown at us about the state of the national economy.

A related mystery in embedded in the headline stories about the dire budgetary straits in which the country finds itself. The 'age of austerity' has become a commonplace in our public discourse on why America can no longer afford this, that or another thing. The concrete referents are everything from social services for the poor and elderly, to school counseling services, to public transportation on par with any other reasonably prosperous country, to unemployment benefits, to decent health care.

By any logical standard this is literally nonsense. The United States today is as rich as it ever has been -- according to the numbers. And far richer that in earlier periods when we could afford most of those things -- not to mention that other developed countries can afford them. Yet our political life accepts these apocalyptic assertions as Gospel Truth.

Indeed, the economics priesthood provides the added reassurance of a scientific laying on of hands. Some of its luminaries actively proselytize in promotion of this creed. They are the intellectual mainstays of think tanks that go a step further to send forth the Word that we cannot even afford some basic things that we've had for 75 years -- like Social Security. These numerologists are so deft that the obvious is cast into oblivion and the unreal is sealed in supposedly incontrovertible algebraic equations. The cultural equivalent of shamans speaking in tongues.

The United States does not pay for things of social value because IT chooses not to -- not because it cannot afford them. IT has multiple antecedents: society as a whole; elected representatives; government officials; political parties; all those powerful interests that distort the process in every facet to their own advantage. The choices made in recent years include expending $1 trillion to $2 trillion to hunt spectral terrorists in the far corners of the globe to little effect. It includes the $87 billion spent annually on our intelligence agencies. It includes the huge tax breaks given by the Bush administration concentrated on those in the upper 2% income bracket. Between 2002-2010 that diverted approximately $2.7 trillion dollars out of the Treasury into the pockets of the wealthy (adding the debt servicing of resulting deficits).

Barack Obama's ready acquiescence in their extension means that over the next decade another $3.1 trillion will be similarly diverted. As someone said, "a trillion here, a trillion there, and soon you're talking about real money." $7-8 trillion could pay for all the state/municipal budget cuts, the rebuilding of the country's infrastructure, a serious energy program, environmental clean-up, aid to the elderly. (As for health care, we could pay for first rate coverage of every citizen at a cost one-third lower than what we now spend were we to switch the kind of single payer system that works nearly everywhere else in the developed world -- freeing another trillion or so for other purposes).

Think of higher education. When I began graduate school at Berkeley, I paid $105 per annum. That was not even tuition; it was a fee that covered maintenance of the student union and the pool complex in Strawberry Canyon. My total debt after receiving my PhD was $300 owed to the federal government for an interest free loan that I wisely invested in a vintage Pontiac convertible. Today, students at state universities pay tuition of between $10,000-16,000 per annum. They accumulate heavy debts on which they pay market rates. The Obama administration now has declared that Perkins Loans grants will start accumulating interest from day 1 rather than upon graduation -- adding to students' financial burden. No wonder that the percentage of American high school graduates attending college is declining to the point where we rank below most developed countries. This did not happen because of 'hard times' or inexorable economic forces. Rather, it is due to social choices that the country has made.

This also is why the last subway system of any consequence in the United States was built when Nixon and Ford were presidents (D.C. and the San Francisco Bay area). So we suffer dilapidated transport while the residents of better endowed places ride efficient, clean trains in Calcutta, New Delhi, Recife (Brazil), Medellin (Columbia), Cairo, Baku (Azerbaijan); Tashkent (Uzbekistan), Yerevan (Armenia), Busan (South Korea), Izmir and Yekaterinburg -- not to speak of the state of the art systems that speed on their way residents of every major city in China. It is concrete realities like this, and those noted above, that should be the starting point for serious intellectual and political discourse about the American economy -- not the supposed economic verities that require 'fiscally responsible' government officials to make draconian teacher layoffs and to deprive the aged of a decent life.

Reality based assessments of the United States' economic predicaments should begin with a set of bedrock questions. What is the country's actual wealth? How is it distributed? Why is it distributed in this way? What is the role of government in producing that distribution? What are the consequences of that distribution? What are the reasons for a possible reallocation of national resources? How might it be done? Is that a desirable or undesirable goal? How could the transitions be made at minimal cost while maintaining a smooth functioning of the economy? Some economic tools are useful to refine the answers. Most of the rest is ritual, theoretical filigree for scholarly archives or mere distraction?