The proper role of the U.S. government in the economy A constitutional and Ideological debate.

The proper role of the U.S. government in the economy

A constitutional and Ideological debate

The Question

What is the proper role of the U.S. government in the American Economy?

In your opinion, should the government help stabilize the economy, create jobs and help the people during a recession or should it allow the market fix itself through the business cycle

• 1) government should help

• 2) market should be left alone

THE DEBATE

• The Business cycle, or the regular ebbs and flows of the market are naturally occurring. Left alone, it leads to regular cycles of recessions and prosperity.

Is it constitutionally proper for the government to regulate economic activities? How does economic stabilization work? Is it economically wise to regulate the economy?

The Business Cycle

Two Debates:

1 ) The constitutional debate: Strict Construction vs. Loose Construction 2) The ideological debate: Progressivism or big government vs. Laissez Faire or small government (free market)

Historical Review

• Jefferson versus Hamilton debate concerning the1st bank of the United States

• Strict construction: If the constitution does not say yes it means no

• Loose construction: if the constitution does not say no it means yes.

• Enumerated versus implied powers

Constitutional basis for strict construction

The Tenth Amendment:The powers not delegated to the United States by the Constitution, nor prohibited by it to the States, are reserved to the States respectively, or to the people.

Constitutional Basis for Loose Construction

• General welfare clauses: • The Congress shall have Power To lay and collect Taxes, Duties, Imposts and Excises, to pay the Debts

and provide for the common Defense and general Welfare of the United States; but all Duties, Imposts and Excises shall be uniform throughout the United States;

• preamble• We the People of the United States, in Order to form a more perfect Union, establish Justice, insure

domestic Tranquility, provide for the common defense, promote the general Welfare, and secure the Blessings of Liberty to ourselves and our Posterity, do ordain and establish this Constitution for the United States of America.

• Necessary and Proper clause: • The Congress shall have Power - To make all Laws which shall be necessary and proper for carrying into

execution the foregoing powers, and all other Powers vested by this Constitution in the Government of the United States, or in any Department or Officer thereof

• The Commerce Clause:• The Congress shall have Power To regulate Commerce with foreign Nations, and among the several

States, and with the Indian tribes

Strict construction/ Laissez Faire in action•  President Grover Cleveland once told a

friend that he saw his chief legislative duty to be stopping bad bills from becoming law, One of Cleveland’s most famous vetoes was his veto of the Texas Seed Bill in 1887.

• A long and severe drought had stricken areas of Texas. Congress authorized a special appropriation to send seeds to the drought-stricken farmers. The amount ($10,000, or approximately $223,000 in today’s dollars)

• “I can find no warrant for such an appropriation in the Constitution, and I do not believe that the power and duty of the general government ought to be extended to the relief of individual suffering which is in no manner properly related to the public service or benefit. A prevalent tendency to disregard the limited mission of this power and duty should, I think, be steadfastly resisted, to the end that the lesson should be constantly enforced that, though the

people support the government, the government should not support the people.”

• Furthermore, Cleveland said, it would weaken the “bonds of a common brotherhood” for the government to provide assistance to individuals where individuals, families, communities and private charities otherwise would.

•

What do you think of Cleveland’s policy ?

1. It was cruel unwarranted by the constitution and unwise

2. It was appropriate reading of the constitution but socially unwise

3. It was appropriate reading of the constitution and both socially and economically wise.

Loose Construction and big government in action

• 1900-2011: • The Progressive Era• The Great Depression and the New Deal • The Great Society• Universal Health Care and the Stimulus

Fiscal and Monetary Stabilization Policies1) Monetary Policy

• The monetary policy is the act of regulating the money supply by the Federal Reserve Board of Governors. One of the main responsibilities of the Federal Reserve System is to regulate the money supply so as to keep production, prices, and employment stable.

• The "Fed" has three tools to manipulate the money supply. They are the 1)reserve requirement, 2)open market operations, and 3)the discount rate

2)Fiscal Policy

• The second way to influence the money supply lies in the hands of the government with the Fiscal Policy. The fiscal policy consists of two main tools. The changing of tax rates, and changing government spending. The main point of fiscal policy is to keep the surplus/deficit swings in the economy to a minimum by reducing inflation and recession.

In summary:

• Fiscal Policy is performed by Congress, President, Department of the treasure, Office of management and budget.

• Monetary policy is performed by a relatively independent bureaucracy called the Federal Reserve Board.

Fiscal Policy

Pie chart of discretionary part of the budget

Summary

• Fiscal Policy involves changing government spending and taxation. It involves a shift in the governments budget position. e.g. Expansionary fiscal policy involves tax cuts, higher government spending and a bigger budget deficit.

• Monetary policy involves influencing the demand and supply of money, primarily though the use of interest rates. It can also involves unorthodox policies such as open market operations and quantitative easing

Fiscal and monetary policies during recession/inflation

Market condition/ideology Progressive/loose construction/keynesian

Laissez faire/strict construction/ conservative

Recession/unemployment Fiscal policy: Increase the budget, run deficit, stimulusMonetary policy: lower discount rate, lower reserve requirement, buy back government bonds

Fiscal Policy: lower taxesMonetary policy: lower discount rate, lower reserve requirement, buy back government bonds

Inflation/ overheated market

Fiscal policy: increase taxesReduce spendingMonetary policy: Increase discount rate, increase reserve requirement, sell government bonds

Fiscal policy: cut the budget reduce government spending as part of GDP.

Monetary policy: reduce the money supply, increase discount rate, increase reserve requirement, sell government bonds

Problems with Fiscal/Monetary

• Problems with fiscal policies and monetary policies: • Federal reserve is an independent bureaucracy,

congress is ideologically politically motivated. They may pursue contradictory policies:

• During recession, the fed may lower interest rates and buy bonds, while congress may run a deficit stimulus which requires borrowing money by selling bonds and raising interest rates.

• Tomorrow: Keynesian demand side vs Arthur Laffer supply side vs Milton Friedman Monetarism

Homework

• Synthesis level analysis: Imagine you were an advisor to President Obama, write a policy program advising the president how to end the recession. Make sure you properly address the debate and use the fiscal and monetary policy tools

Which policy would you pursue during recession?

1. Congress expands the budget through stimulus, Fed reduce interest rates, buys back government bonds.

2. Congress cuts the budget contracts economic policy. Fed reduces interest rates and buys back bonds.

3. Congress lowers taxes, cuts the budget, fed lowers rates, buys back government bonds

4. Congress increases taxes, passes stimulus, fed buys back bonds

5. Congress lowers taxes, Fed expands money supply by printing money