This document summarizes key questions that policymakers in Washington DC need help answering from academics, including: - The effectiveness of Keynesian stimulus policies. - The relationship between budget deficits, crowding out of private investment, and interest rates. - Whether supply-side tax cuts pay for themselves through increased economic growth. - Why rising income inequality may be problematic and what can be done to address it. - The role of full employment in reducing inequality and increasing economic opportunity and mobility.

1. DC to Cambridge: Help!
Big Questions DC Wonks Need Academics to Help
Answer
Jared Bernstein
Center on Budget and Policy Priorities
3/21/12
bernstein@cbpp.org

2. And this is just the tip of the iceberg:
• Keynesian Stimulus
• Budget Deficit and Crowding Out
• Supply-Side Tax Cuts vs. Need for Revenue
• Income Inequality: Why is It a Problem?

4. From Romer, 2011, Hamilton College Remarks

5. CBO Modeling
5

6. Cost of Getting This Wrong
6

7. Crowding Out?
• Literature is mixed; you can find the result you seek.
• Certainly makes sense, but lots of moving parts, including
increased access to global capital (US current acct
imbalance fractional in early 70s; much higher now).
• China currency peg
• Cycle, flight to safety dominates
• Fed offsets
• Better argument is simply “sustainability”—eventually, you
have to pay for what you spend.
• Key word is “eventually”—temporary Keynesian spending is
not the problem!
• But Congress does badly with “eventually…”

8. No correlation between budget deficits/GDP and 10-yr T-bill rates
14
14
12
12
10
10
TENYR_TREAS
TENYR_TREAS
8 8
6 6
4 4
2 2
-12 -10 -8 -6 -4 -2 0 2 4 -12 -10 -8 -6 -4 -2 0 2 4
DEF_GDP DEF_GDP2
(Wrong slope, but not significant)
--Orszag/Gale find positive correlation using “forward 10-year rates” and projected deficits
as share of projected GDP (see next slide) but James Galbraith points out that their
regressions are not very robust to the use of actual interest rates.

9. Gale, Orszag, 2004: Budget Deficits, National Saving, and Interest Rates

11. Supply-Side Tax Cuts
• No one finds elasticities large enough for supply-
side cuts to pay their way.
• Impacts tend to be on taxable income—
Romer/Romer: 0.2%;
• Saez et al estimate optimal tax rates on top
earners MUCH higher than current rates.
• Need for revenues; many supply-siders embrace
Bowles-Simpson
• 1986 moment (lower rates, broaden base)?

12. Saez et al: Lowering Top Marginal Tax Rate Associates with Greater
Ineq, Not Faster Growth
Source: Piketty, Saez, Stantcheva, 2011 12

13. Income Inequality
• What’s wrong with it?
• Newer evidence: Blocks opportunity/mobility?
• Significant role for full employment but how
to achieve?

14. Inequality Hits Middle and Low Incomes
• Inequality has gone up and that has contributed to higher poverty and
stagnant growth in middle-incomes.
Full employment
14

15. 15

16. The Lower Your Income, the More Full
Employment Helps You

17. These dynamics have led to diminished opportunities
for less advantaged households.
17
Source: Whither Opportunity, Russell Sage

18. Enrichment Expenditures: music and art lessons, books, sports, tutoring.
Source: Whither Opportunity? Russell Sage 18

19. Dif=0.45
Dif=0.31
From Baily, Dynarski, Chapter 6, Whither Opportunity 19

20. Has the Rate of Mobility Declined?
Sources: Katherine Bradbury, 2011 20

21. Is this Brynjolfsson/McAfee’s Race Against the Machine—acceleration of capital
intensivity?