GOP Seeks Lower GDP

Sen. Rand Paul

Sen. Richard Shelby (R-AL) feels we can cut 30% across the board. Or maybe 10%. According to Ben Armbruster of ThinkProgress, "It is unclear which reduction figure, 10 percent or 30 percent, he is officially advocating." On ABC's "Top Line", Rep. Michele Bachmann (R-MN) says that she's found "about $450 billion worth of cuts." That'd be around 12%. Sen. Mike Lee (R-UT) has talked about cutting the budget by 40%. Sen. Rand Paul (R-KY) strikes it at a balanced budget, which means roughly 33%.

As previously detailed, when we cut the budget to avoid borrowing, those cuts don't come from nowhere. They come out of spending, reducing demand, lowering our nation's GDP. In good times, that's fine. When GDP growth is high enough, we can afford to cut. But we can't afford to drop our growth below around 2.5%. Otherwise we get rising unemployment. One would hope that these members of Congress understand national budgets, have done the math, and wouldn't propose a drop that would take us below 2.5% GDP growth, right?

So what would each of those figures mean? We can plug these into a rough formula. Some of the lower estimates figure the government around a 25% share of GDP. To give these members of Congress the most benefit of the doubt, we'll go with this low estimate. So when you cut government spending by a percentage, you effectively cut the GDP (or more precisely lower the percentage change in GDP) by roughly 1/4 of the percentage by which government spending was cut. Applying Okun's Law (or Okun's Rule of Thumb), we can expect roughly a 1% drop in employment per 2% reduction of the GDP growth below 2.5%. It's a rough figure, but it tells us more or less what we should expect.

Govt budget cut % / 4 = -% GDP impact

Our baseline is 3%. Why? That's a typical estimate for our GDP growth for 2011. Since the stable point for unemployment is around 2.5%, we might theoretically be able to take about a 0.5% drop in GDP without adding more to the unemployment roster and reducing our payroll tax revenue (thus increasing the deficit).

Let's start with the most modest of these, Sen. Shelby's 10% (assuming he didn't really mean 30%).

10% budget cut / 4 = 2.5 % GDP impact

est. 0.5 % GDP meaning 1% added to unemployment rate

Well, that's not very pleasing. So what do we get from the others?

Rep. Backmann's 12%:

12% / 4 = 3%

est. 0% GDP meaning 1.25% added to unemployment rate

Sen. Paul's 33%:

33% / 4 = 8.25%

est. -5.25% GDP meaning 3.875% added to unemployment rate

Sen. Lee's 40%:

40% / 4 = 10%

est. -7% GDP meaning 4.75% added to unemployment rate

So just how much unemployment do they suppose we can handle? Either the answer is above, or they just don't realize that their slash and burn plans would raise unemployment. Even the most modest of them would cause unemployment to rise at this point of not particularly fast growth.

Meanwhile, each of these increases in unemployment would mean fewer people on payrolls. That means less income tax revenue. Since a drop in revenue doesn't generally cause our costs to drop, that means that assuming we went with Sen. Paul's balanced budget, we'd build ourselves a brand new deficit because of that extra almost 4% tacked onto the unemployment picture. So to use Sen. Paul's "ironclad" balanced budget rules, we'd have to make further cuts. Assuming nothing else rescued our GDP from outside, that'd mean a further drop in GPD and more unemployment. Let's not do that. Not now. Not while we don't have enough growth to afford cuts.