John Taylor on Rules, Discretion, and First Principles
Apr 30 2012

John Taylor of Stanford University's Hoover Institution talks with EconTalk host Russ Roberts about his new book, First Principles: Five Keys to Restoring America's Prosperity. Taylor argues that when economic policy adhere to the right basic principles such as keeping rules rather than using discretion, then the economy thrives. Ignoring these principles, Taylor argues, leads to bad economic outcomes such as recessions, inflation, or high unemployment. Taylor illustrates these ideas with a whirlwind tour of the last half century of American economic policy and history. The focus is on monetary and fiscal policy but Taylor also discusses health care reform and other policy areas. The conversation closes with a look at the likelihood that economic policy will change dramatically after 2012.

Allan Meltzer on Inflation
Allan Meltzer, of Carnegie Mellon University, talks with EconTalk host Russ Roberts about the current state of monetary policy and the potential for inflation. Meltzer explains why inflation hasn't happened yet, despite massive increases in reserves created by Fed policy....
John Taylor on Inflation, the Fed, and the Taylor Rule
What's so bad about rising inflation? Why should we aim for a rate of 2 percent? Why is it a problem if interest rates are too low--and what do we mean by inflation, anyway? Stanford University's John Taylor talks with...
Explore audio transcript, further reading that will help you delve deeper into this week’s episode, and vigorous conversations in the form of our comments section below.


Greg G
Apr 30 2012 at 9:34am

Russ, I usually admire your ability to politely but firmly challenge your guests, even when you agree with them. I thought there was a glaring omission in that area today regarding the history of federal deficits.

Someone unfamiliar with economic history would come away from today’s survey of economic history with the impression that there was no significant change in deficit norms under Reagan. Reagan was lavishly praised for not indulging in stimulus spending and sticking to his principles.

In fact it was Reagan that blew out of the water any political inhibitions about deficits especially during peacetime. In Cheney’s words “Reagan proved deficits don’t matter. ”

Yes I know you had a sentence where you mentioned that the size of government expanded under Reagan. And you even managed to admit that he “didn’t cut” spending. Then you soon reverted to describing any and all deficits as Keynesian.

Keynesian influence was at a low point under Reagan having been widely viewed as being discredited in the 70’s. In any event Keynes never supported deficits in times of full employment. It is supply side economics, not demand focused Keynesianism, that has been the biggest change in economic theory influencing deficit growth in the last 50 years.

Before supply side economics, federal debt as a percentage of GDP had been paid way down from its’ postwar high and was stable. Then it exploded under Reagan. No one would know that from this podcast.

Apr 30 2012 at 8:38pm

It never ceases to surprise me how many self-proclaimed conservatives would hear Russ’ revolutionary call for the dismantlement of Medicare and SS and just nod their heads in agreement. At least Russ openly admits that he’s a status quo opposing classical liberal. I doubt The Right Honorable Sir Edmund Burke would be very happy with casually tossing aside two venerable and astonishingly well loved institutions of American political economy.

My personal opposition to that bit of reactionary politics comes from a more classically conservative point of view: Merton’s(well a bunch of people’s) law of unintended consequences; a fact not really pointed out enough is that it cuts both ways: whether we are adding 100,000 pages of legislation or removing 100,000 pages of legislation we still have no idea what the heck we are doing to the future.

Apr 30 2012 at 8:44pm


I recommend you read Hayek’s Law, Liberty and Legislation (volume 1, Rules and Order)- in which Hayek makes a key and fundamental distinction between spontaneous/emergent orders (like Burke’s conception) and legislation. It doesn’t really cut both ways.

Apr 30 2012 at 9:19pm


the problem with that argument is that after a sufficient amount of time a lot of legislatively created institutions have just as much spontaneous social accretion on them as institutions that emerge without government intervention.

There’s the legislated part of Medicare and then there’s 7 decades of society existing with that piece of legislation. Ultimately the real problem is unpredictability. Revoke Obamacare, a piece of legislation that hasn’t yet had any lasting effect on people’s behaviors and expectations, and everyone will shrug. Toss out Medicare and half the country suddenly doesn’t know up from down when it comes to healthcare.

I don’t even disagree that the program is unsustainable, but the way to deal with it isn’t to say “Privatize everything and let the market sort them out!” That approach has the same problem that Shock Therapy has had all over the world: it’s a massive, sudden context shift; people have no idea how to deal with it, individuals have no way of planning for it with any reliability; and as a result people hate it.

As far as I can tell, if you want to limit uncertainty and wild unpredictable shifts increasing taxes is way more reliable than cutting SS and Medicare. Of course the argument for a responsible reduction in benefits can be made, but it’s a whole elaborate clever thing, not just “Get rid of it.” And the more elaborate the policy the more likely, again as far as I can tell, it is to fall flat on its face.

As for Burke, his emergent order included things as disparate as markets, parliamentary monarchy, and a limited franchise. Calling him a status quo guy is a lot closer to reality than a Hayekian. Not that I like his status quo, I am merely appreciative of his arguments in favor of any given status quo.

May 1 2012 at 5:08am

I studied physics at the university, not economics. When a physicist claims to “know” something, it’s usually clear what she means. There’s generally a mountain of unambiguous experimental data behind her position.

It’s still not clear to me exactly what an economist is saying when he claims to “know” something. I’ve read Smith, Keynes, Hayek, Friedman, Samuelson’s textbook, and I’ve still never been able to shake the feeling that the stuff that passes for knowledge in the field of economics is a fundamentally different sort of stuff from that which passes for knowledge in the physical sciences.

And so it’s always odd to me when I hear a John Taylor or a Paul Krugman criticize policy on the grounds that “we know better”. Gentleman, if we truly “knew better”, there would be no basis for debate! Physicists KNOW that quantum mechanics works. They know that Newton’s laws are valid for a very wide and well-defined range of phenomena. There is no debate.

I don’t see how economics could ever hope to attain that degree of certitude. Perhaps economists should replace the use of the verb “know” with the verb “believe”. Wouldn’t it then be less mystifying to someone like Taylor when politicians return to policies that he “believes” have been discredited in the past? It is, after all, difficult in the modern world to be mystified by the fact that there are people whose beliefs don’t coincide with your own.

May 1 2012 at 1:13pm

Russ, Thanks for EconTalk. It is my favorite podcast.

That said, I thought this episode was lacking . The evaluation of monetary policy should not be based on the economic results caused by other things. As another commenter said, Reagan had tremendous deficit spending, plummeting oil prices, the S&L bubble, and a decade of pent-up demand. Of course the economy did well. The question is about the application of rule-based monetary policy and it was not properly addressed.

Also, the big debate today is about NGDP targeting and it would have been nice to hear a discussion of current policy v. Taylor rule v. NGDP….

May 1 2012 at 2:01pm

@ Floyd,

I come from a chemistry, statistics, and legal background and find that when scientists claim that they “know” something they don’t have the basic process of the scientific method down.

Rather they are making an unwarranted leap of faith and persuasion and ignore the assumptions they have made. Moreover the weight of the status quo means very little if that refers to applying that weight of human agreement to something which is not dependent on that agreement, such as the determination of what is not true (aka science) versus the perception of “facts” and beliefs (aka inferring belief/intent/action/causation/injury via the jury system and narrowing it down by perceived possibilities). One is not the other.

To put it more clearly, the day people stop debating about a scientific “facts” or “laws” and attacking them in a methodical reproducible (etc) way is the day science is dead and a belief system is born. I for one would rather listen to a person who is actually skilled with debating beliefs and recognizing what they are doing (philosophers etc.), rather than listen to people purporting to be scientists at that point. At least the former tells the truth about what they are doing, and achieves clear (and at times proper) aims when appealing to the status quo.

May 1 2012 at 6:04pm


“I know that the earth revolves around the sun.”

This is an example of the use of the word “know” by a physical scientist. I think most would agree that there is a very small probability of a serious experimental challenge to this statement. All claims to knowledge by scientists are statements about probabilities. When a physicist or a chemist says he “knows” X, he’s actually saying something like “X has been experimentally verified a million times. I believe the probability that X will be refuted by the million and first experiment is so small that it is negligible. It is not absolutely zero, of course, but very close.”

Scientific consensus is built on the basis of experimental evidence, not on the basis of “leaps of faith and persuasion”. If you can demonstrate experimentally to me that wood is a better conductor of electricity than silver, I will immediately change my position. I must.

My feeling is that it doesn’t quite work this way in social sciences like economics. It’s much harder to get people to change positions in these fields because the positions themselves are based on something much fuzzier than a gazillion careful, repeatable experiments demonstrating that silver conducts electricity more efficiently than does wood. What Galbraith said seems to apply:

Faced with the choice between changing one’s mind and proving that there is no need to do so, almost everyone gets busy on the proof.

I agree with you wholeheartedly that science would be in a sorry state if individuals stopped challenging the status quo. There’s no need to worry about that at present, though, because the incentives are there. Absolutely nothing in science brings greater professional and personal glory than a successful challenge to the status quo.

BUT. There is a very high probability of failure for anyone who challenges the scientific status quo, simply because the scientific status quo is no house of straw. It is invariably based on mountains of experimental evidence and millions of hours of painstaking, careful research by a great many brilliant people. Almost all who challenge the scientific status quo are simply wrong. They have not understood the data, they have made an elementary error, they have reasoned circularly, etc. Generally, betting against the scientific status quo is like playing the lottery. Yes, you may win, but that is not the most likely outcome.

I don’t believe this is the case in fields like economics, sociology, psychology, where the status quo is made of flimsier stuff.

May 2 2012 at 7:41am


1 / This is not because “economists” can not agree among themselves on certain issues that there are no real economic laws. The problem is that economic theories determine economic policies and economic policies have major consequences on people’s lives. Accordingly, on the one hand, the economist is subjected to various pressures and what he says may affect his career and, secondly, he may not want to accept these economic laws for ideological reasons (Some economists are more politicians than economists!). Regardless, it’s up to you to make your own opinion by reading all the theories, studies and analyzes in the field of Economics. In my case, unlike you, I am convinced that some current theories are more accurate than others (for logical reasons). Also, I think that we can make accurate predictions in economics but to some extent and for a certain period because the system is changing.

2 / I am not convinced that physical science is so different from social science like Economics. No physical theory is valid forever. There are also debates in physics. I know a few “physicists” who do not agree with the theory of Relativity. Did Einstein not demonstrate that Newton was wrong about space and time? Are Quantum physics and Relativity not compatible? Models and Theories in physics are changing too. And are we sure that there are fixed laws in the universe? We can not predict the orbit of the moon around the earth beyond a certain time! Also, remember that Economics is much more recent than Physics, which may explain some things.

May 2 2012 at 5:07pm

You go Floyd!
I find it hard to believe that people would think economics is a science like physics. Physics lives in a world of probabilities but it has a very high standard – one in 3.5 million.

Economics is more like psychology and the social “sciences”.
Economists can’t agree on definitions to basic terms in order to have a productive conversation, it is interesting but hardly productive. Try getting agreement on what a “free market” is.

I find economics and philosophy fascinating but I would hardly take them as facts.I believe economics is interesting.

My question is how do we get economics to be productive i.e., when will it predict economic collapses that almost all economists missed in 2008.

May 2 2012 at 6:57pm

“Economics is great at predicting everything that no one cares about.” (me, right now)

Economics is great at extrapolating current trends. Not so much at predicting when the current trend breaks.

The problem with social science is that it has an INSANE observer effect. Social science studies people’s behaviors. People’s behaviors changes depending on what social science discovers. Inevitably social science now needs to study people’s behavior, GIVEN what people nowadays know about social science. It’s like working with quick sand, the more you find out the deeper you sink.

Physics is nothing like that. The subject matter of physics just doesn’t change. Toss an apple from a tree today and it will fall down just as it did 1,000,000 years ago. Ask 50 people today to form a government and you’ll get a hell of a different constitution/government than you did 100 years ago. Just look at the constitutional process in South Africa, the things that they prioritized and the things that the Founding Fathers cared about. Or the things that the ancient Romans cared about. Values change over time. There are no, as of yet, absolutely universally applicable standards of morality.

I’d love to BELIEVE that all we need is the government to get out of the way. But that’s just not true. If the ethical make-up of the citizens of a country is not of a certain sort a weak central government doesn’t mean capitalism it means civil war, corruption, and societal collapse.

May 3 2012 at 10:15pm

In reading the posts about science and beliefs etc. above, I can’t help but wonder if some have stopped to look at the history being discussed in the podcast. Stagflation was real, we “know” it existed, and we know what happened to resolve the problem. What seems to be forgotten is that these circumstances are not just economic aggregates; they involve REAL people, their lives and families. You can’t simply run an experiment – as in medicine, sometimes the experiments have to be stopped because they violate the first principle, “Do no harm.”

History is often as good as it gets when creating policy. Ignoring history, or worse, fabricating history, will only lead to the repetition of error. Proof may lie not in new experiments but in changing your perspective. The experience of individual states and other countries are also available as evidence for economic policy (Greece for example).

If you have to reinvent the wheel each generation, real people suffer.
These issues are not about ivory tower economists speculating in a void, they are about YOU and your family and our future.

We work from the baseline of the Founders, the Constitution, which is really a document on political economy given what government powers it leaves out. That has produced the greatest economic engine in history – a tangible fact. We should make policy that meets that criteria and maximizes economic liberty and growth. Arguments about the status quo should begin there. Some of what is stated in above posts is obfuscation akin to that concerning Judicial activism. Choosing your own personal favored status quo is not how it works. There are preexisting criteria that must be met.

LIMITED GOVERNMENT is the cure for our economy in the short run, and will secure our economic and personal freedoms in the long run. That is good economic policy.

May 3 2012 at 10:27pm

@Ralph: The history of ancient Greece shows that democracy devolves into tyranny. The history of the USSR shows that even a constitution very respectful of liberties can leave you in an authoritarian state.

Better restore the absolutist monarchy, since that’s the best kind of tyranny we can hope for! Hey at least it limits the damage done by the struggle for absolute power(except of course it doesn’t).

Laws form a structure in which people function. Every legal structure we could imagine has failed at some point, somewhere, for some population of individuals that had certain morals and motivations. Plenty of countries have tried to emulate the US constitution and failed because their citizens weren’t US citizens. You can’t pretend that all you need to do is get the rules right, the rules only matter to the degree that the people in the game follow them(are they ignored, partially, or fully respected?).

Rules, constitutions, and laws influence behavior. They do not determine behavior. And they can influence the behavior of two different populations in two different ways(could abolishing the army work out as well for the US as it did for Costa Rica?)

The point is not to ignore history, but to accept that the people operating under a set of rules change over time. It’s one thing to set up the laws of a rural, frontier society; it’s another to set up the rules of an urban post-industrial society. Why? Because the people in those two societies care about different things, have different lives, and different material concerns.

May 5 2012 at 8:17pm


Your argument is that Americans no longer deserve the freedom described in the Declaration and Constitution?
That since we have strayed from the original intent, it’s best just to keep going in that direction rather than disturb anyone? How “progressive.”

One must admit that India and Japan are very different from American society, and increasing individual liberty has served them well in a similar fashion.

The history of modern Greece demonstrates that those who ignore history are doomed to repeat it. Wisconsin may serve as a good foil.

The constitution in he USSR wasn’t the product of a democracy, but a showpiece for the dictatorial Party to pretend they offered the Russian people some say in their leadership: they could vote for anyone the party deemed appropriate.

Legislation varies over time; Laws do not. What is unique about America is that fact was understood from the start and underlies the Foundation for our continued success by following a Constitutional path.

May 5 2012 at 11:47pm


My argument is that the dangers facing the liberties declared by the Constitution change over time, and thus the government needs to adjust to new dangers in order to preserve old freedoms.

My argument is that an industrial society faces fundamentally different problems than an agricultural society.

As for examples: the former soviet/Eastern Bloc states privatized their state assets(into the hands of KGB/Secret Police agents), they established property rights(to protect those KGB/Secret Police agents’ newfound ‘property’). What legitimacy does private property have in those states?

Private property is different things in different places. It was acquired in one way in America(through entrepreneurship and market success) and in another way in much of the Third and Second World(through ‘privatization’, ie. selling for $1 state assets worth $ billions).

Maybe we should hope that the market sorts things out on itself(I actually think that’s Romania’s, my country, only hope) that the appropriators ultimately mismanage their ‘legally’-stolen property and lose it. But how long does that last? And should they have any right to the full extent of their profits in the meanwhile?

The notion that we can have simple rules that ‘just work’ is naive. Context matters. Who benefits from those rules matters. What happens when 50% of the people protected by a good rule don’t deserve that protection? 90%?

May 7 2012 at 9:19am

Very interesting conversations worthy of the time to read and ponder. However, Sebastian, I take slight issue with your claim that “private property…was acquired in one way in America (through entrepreneurship and market success) and in another way in much of the Third and Second World (through ‘privatization’, ie. selling for $1 state assets worth $ billions). I think words and contexts matter, and I cannot help but have a nagging feeling that native Americans in both hemispheres would feel slighted by your lack of recognizing the extermination campaigns waged against them over several centuries in the taking of their lands and way of life that paved the way for “entrepreneurship and market success.” Given the conceptual- and time-frames of the conversations, I am still left wondering about how to properly identify first principles. Indeed, models inherently require simplifying assumptions, and I cannot help but suspect that many if not most of the conversations among learned social scientists – whether consciously or not – mirror those of politicians in their want of a preferred end – who use some chosen data to inform and buttress Rikerian heresthetics that are artfully developed and pontificated to persuade others of the “rightfulness” of their “scientific” positions. In my opinion, this is not a bad thing as long as it is acknowledged as such, but to me the sad part is that I fear it is not recognized by many outside of the listeners of these podcasts. Kudos to Russ and his guests who continually bring this to the fore! Now if only we could get an interview with David Graeber…

May 8 2012 at 12:40pm

@EW: I figured there’d be a better chance of having my argument given a hearing if I didn’t go down the “People with Lockeian conceptions of property rights should admit that every state in the America’s is the result of theft and murder.”

Though I happen to hold that belief. It’s fascinating that Locke and notions derived from Locke about property and labor(the most foundational bits, not the later rationalization he has of inequality and money) have been appropriated by indigenous peoples in Asia today to resist government seizures of their lands for industrialization. Or by Marx in describing the alienation and estrangement of labor in capitalism.

David Sage
May 10 2012 at 5:38pm

John Taylor said that Social Security benefits are rising per beneficiary in real terms…that a 45 year old can expect higher real benefits than a 55 year old.

Can anyone verify this?

Dave Sage
May 11 2012 at 5:19pm

I think I found the answer to my question in the CBO’s 2011 Long-Term Projections for Social Security, Exhibit 11. “CBO estimates that real median life time benefits for each birth cohort will be greater than those for the preceding cohort, because benefits grow with earnings and earnings are expected to grow over time.” Also because life expectancy is expected to increase, lifetime benefits are expected to grow.
Of course, if wages go up so will contributions. We have to remember to raise the cap occasionally.

Adam Long
May 17 2012 at 2:25pm


I’ve only been listening to your podcast for a few weeks but in that time I have become a big fan.

I was intrigued by the discussion of the memo “Economic Strategy for the Reagan Administration” and was curious to read the original. I haven’t been able to find a copy online and wonder if someone could point me in the right direction.

Thanks for another fascinating podcast.

Comments are closed.


About this week's guest:

About ideas and people mentioned in this podcast:Books:


Podcasts, Blogs, and Video:



Podcast Episode Highlights
0:36Intro. [Recording date: April 17, 2012.] Russ: Our topic today is the ideas in your new book, First Principles. Let's start with the 5 keys that you identify as being important for prosperity. Guest: They all center around the idea of economic freedom, which is by definition a situation where people can buy what they want, sell what they want, work where they want, help people in the way they think is best. But that's within a framework that includes these five keys. One is that the policy be predictable: that it remain within a predictable policy framework. Second is that there is an emphasis on the rule of law, so you know what the law is actually stating. Third is that the emphasis is on markets. And from an economist's perspective, markets are a wonderful way to get decisions made in an efficient way. They also provide the fourth idea, which is incentives. Incentives should be the focus of any economic freedom framework. And then finally, the fifth is a limited role for government, a specified role for government, which delineates what government should do and what markets should do. Russ: Your book traces the history of various periods of relative intervention and relative freedom. And we'll get into that in a minute. But I want to start by asking you a question about those 5 principles. Do you think that any of your ideological or interventionist opponents--people who are more interventionist than you are--would disagree with any of those five? Guest: Yes. I think, for example, maybe predictability is not that important when there is an emergency; you've just got to do what you've got to do; anything goes. There's clearly differences on scope of government and what the role of government should be. So, I think there's quite a difference. And it's just been the last few weeks I've had some, I think, good debates with Larry Summers, who has a more interventionist approach. You can see that in these discussions. So, he would put less emphasis on them, I believe. That's a way to put it. Not that you wouldn't think the rule of law is important, or predictability is important. It's how much emphasis you put on those. Russ: One of the ones you mention, the temporary versus permanent, strikes me as, in principle at least, an idea that could be somewhat immune from ideological or philosophical differences. You'd think that most economists would favor permanent interventions versus temporary ones simply because planning takes place over more than tomorrow. The future matters a lot and if you know what the rules of the game are and you think that they are going to be the same for a while, you are more likely to act than if you are uncertain about what the rules of the game are going to be. And yet it seems that despite that seemingly obvious fact of human nature and decision-making, I see a big difference between interventionists' willingness to impose temporary, short-run interventions of unknown duration. Is that a fair assessment of people who disagree with you? Guest: Yes. Russ: And why? Guest: The idea here is we all know from economics that people like to have more certainty about what policy will be. They can do their planning themselves. But I think people who emphasize that, well, that's maybe not that important, are going to stress the emergency. I mean, take the bailouts, for example. You've got to go in and do the bailout even though you are setting up a situation with less predictability and more moral hazard. They would say: We can deal with that later. A lot of it has to do with that kind of thinking. And there is a difference of opinion about that. For me, one of the reasons to do this book is just to go through history and realize how harmful a lot of those interventions have been. Not everyone, of course, but the deviations from the predictability--we've seen it in the past and it didn't work, and when policy has been more predictable, things have been much better. So, to me the evidence is just so clear. And it can be explained to people using just history; it doesn't have to be a lot of economics. But the reason, to go back to your question, is that some people think you just have to go in and do it, and not worry about the implications of that for next year or the following year. Russ: There is definitely political pressure, which we'll talk about.
6:05Russ: Let's turn to that history, because I think it's a fascinating part of the book. I should mention to listeners: the book is short. I think it's about 200 pages. But it's a short 200 pages. It's a wonderful sketch of recent economic history plus some policy recommendations, as well as a laying out of the principles. And I found the history part to be fascinating because you were either in Washington at the time in some role, not always as the decisive role, but certainly in some role, so you had contact with the people who were making the decisions; or you have as colleagues now people who are very much involved in making these decisions. And one of your themes is the virtue of rules over discretion; and then the political forces that sometimes intervene. So, I thought we'd go through some of the episodes you talked about in the book and talk about that mix of rules versus discretion, which is a big underlying theme of the book, and also the political influence that sometimes affected policy instead of the economics. So, let's go back, well before some of our listeners were born--but not all--to the Nixon Administration. Which was in some dimensions a market oriented, free market oriented set of policy makers in that administration. And yet Nixon imposed probably the most obviously awful policy change for years around that time, which was the example of wage and price controls. How did that happen? Talk about what actually did happen and why it was important and how it happened. Guest: Well, Nixon came in with a more market-oriented philosophy. He had people like Milton Friedman and George Schultz advising him. And they were quite excited that this was going to get away from the more Keynesian, less market-oriented things that began in the late 1960s and really took the form of wage- and price-guidelines, temporary interventions; monetary policy got quite active. And the hope was that this would be a change. And Milton Friedman, for example, wrote in Newsweek in early 1971 that this is going to be great; we are moving away from all the excessive fine-tuning; we're going to rely more on markets; and it's going to be a good decade. And then what happened is Nixon was persuaded that it was going to take too long. And Schultz would later talk about it as the economist's lag is the politician's nightmare. And so the politics really got in the way; and Nixon said: I'm not going to wait. I'm not going to just let monetary policy get inflation down; I'm not going to just sit back. I'm going to do the kind of things that got popular in the 1960s with the more Keynesian approach. And then in August 1971 imposed the wage and price freeze. And of course it led people like Milton Friedman to really withdraw that article he wrote earlier in the year and say this is the worst piece I've ever written. Which he did; and came back in the way someone who was candidly assessing it would have to do. And so, as a result we continued with this, I would call it, interventionist policy--less focus on markets and unpredictability, less rule of law. All of those things. Which took a long time to get rid of it. It was another decade. Russ: And the wage-price controls, how did those manage to get approved, despite the quality of some of Nixon's advisers? Guest: Well, Nixon had other advisers who were less concerned about the principles. John Connally, for example over at the Treasury. You asked earlier: Does everyone believe in the principles? And I think you were asking about economists. But clearly some people don't think these principles are important. They don't think about economics that much; they don't think markets are that important. And so as a result they went away from that direction. But I think that it was political; the idea that it was going to take some time to get inflation down. And they didn't want to wait. They were worried about the election coming up. And so they went this more shortcut route, which was popular at the time, by the way. When the Freeze was announced, business liked it; labor liked it. It didn't take too long before people realized what a bad idea it was; but at the time, it was remarkably popular. Russ: So, the 1970s didn't turn out quite as cheery as Friedman had hoped, if Nixon had stayed on the path. Although we have to mention that the 1960s had very good growth rates. The mid-1960s, which were the time of the Kennedy Administration and the Johnson Administration, before Nixon came in--those 8 years, the economic advisers were very Keynesian in flavor. They were fine-tuners. They also were big spenders--not as economists; but Johnson clearly expanded the size of government through the Great Society was transfer payments, not so much spending on real resources; but still it increased the tax burden. And the economy did very well. You would argue, though, that that laid the seeds for the problems that came later. Guest: Absolutely. And also there were things in that period. The tax cut was a permanent reduction in marginal rates; that was a good thing. Russ: You are talking about the Kennedy tax cut. Guest: Yeah, the Kennedy-Johnson tax cuts. They basically were good. They were permanent. They were like a counterexample to all the other interventionism that began. And by the way, of course, you did have monetary policy at that point, at the urging of the Administration, became much more active. And William Martin, the Chairman of the Fed at the time, began to have a more inflationary policy. In fact, inflation began to pick up around 1965, 1966; you can see that noticeably in the data. And so that was a change which is related. To me, what is remarkable as you go through this history is all policies tend to move together. You got more interventionist on the fiscal side; you'd argue that you needed discretion on the monetary side. And then you mentioned the intervention of the government in the health care system expanded quite a bit at that point in time. And so all these things moved together; and I find that's one of the most remarkable things about the history. It's not just fiscal policy; not just monetary policy. They move together. Russ: Well, certainly a lot of the people in power at that time were optimistic and enjoyed intervening, so it would be beyond just one area. Guest: There's an important question about when you are in a position of responsibility in government the urge to intervene is there. There is a tendency to do something. And it's very real. The hardest, the right thing, is not to take a specific action; but you've got a good policy in place and you stick with it. One of the most difficult things in implementing these principles, even the people that believe in them firmly is: There's so many pressures, temptations, political and otherwise, to do something and intervene in ways that are inconsistent with the principles; and various reasons and excuses to do it. Sometimes they are a compromise, you know--you do have to run a government and people might disagree with you, so there will be decisions made which look like they are deviating from the principles but maybe for other reasons. And I go through a number of those examples. There was a temporary tax rebate in the Ford Administration. Not the kind of thing that his Chairman of the Council of Economic Advisers (CEA), Alan Greenspan, would have liked, but he went along with that idea; hopefully in exchange would be reduced spending. But it didn't quite work out that way. I like the examples you give of Greenspan--mainly because of his intellectual past and his relationship with Ayn Rand, he's viewed as this near-anarchist. But when he got near Washington, D.C., his rhetoric didn't quite match his actions. And I have talked in the past about his support, say, of the Mexican rescue of 1995, which he testified in front of Congress that that was a bad idea, but had to be done anyway. And similarly, many, many times he deviated from what we would call free market principles. In this case he was more of a Keynesian than he perhaps felt in his heart, endorsing a temporary rebate.
16:20Russ: But that was not the low point of the Ford Administration's economic policy. That would have to be the Whip Inflation Now Campaign. And you discuss the speech that Ford made to announce that program. Talk about the program and the speech and the economic policy behind the scenes. Guest: This is a case where the Economic Advisers were not enthusiastic, including Greenspan, because it was harking back to wage and price guidelines and controls. But the program was called Whip Inflation Now. It was really a hope that somehow people would cooperatively, voluntarily reduce inflation, as a matter of just a national mission. Russ: Patriotism. Guest: Yeah. In retrospect it just sounds so strange. But President Ford went before a joint session of Congress, with his pin, his Whip Inflation Now pin-- Russ: on his lapel-- Guest: and pleaded with people. And in retrospect it is a very unusual kind of policy. It's certainly an example of how policy had moved in a direction way against, in this case, sensible rules-based monetary policy, less reliance on markets, less faith in markets. And you can see it so clearly. There are so many examples of this. Actually, you didn't ask about this, but Arthur Burns is another one, a person who--good economist. He's the mentor of Milton Friedman. If you asked who influenced you, he'll say: Arthur Burns who was my first teacher as an undergraduate. And here's a guy who, under Nixon, and then as Fed Chairman under Nixon, went around saying markets don't work, we need wage and price controls. So, amazing things happen. That's why these principles are so important. People should demand that their public officials should understand them and then follow them. Because there's temptations to move away from them. Russ: Burns, at the time, was Chair of the Fed, correct? Guest: Yes. Russ: How long was he Chair? Guest: About 8 years, through the 1970s. Burns replaced Martin. Appointed by Nixon to the Fed, and then continued until G. William Miller was appointed by Carter; and then he didn't last very long, until Paul Volker came in. The Volker appointment is really moving back to sensible policy; and that gets close to the Reagan Administration, which is a whole other enormous period of interest. Russ: We'll come to that in a second. But I want to stick with Martin and Burns. Martin was the Chair under Johnson. And if I remember correctly, when I interviewed Allan Meltzer about his history at the Fed, and you certainly second this point, Martin was very eager to keep President Johnson happy and liberalize the monetary expansion at Johnson's request in trying to finance the war in Vietnam rather than raising taxes. Is that correct? He did definitely move to an easier monetary policy compared to the 1950s when he was Chairman, and the early 1960s. It was partly because he liked the idea of cooperating with the Administration; his view of monetary independence did not preclude that. And you are right--Allan Meltzer writes about that quite persuasively in his book. What I observed here is that if you looked at the numbers you definitely see the impact of monetary policy, inflation starting to pick up. And also, if you go back and read, there's a very interesting document, the 1962 Economic Report of the President--that was the first Report with President Kennedy, and Walter Heller was Chairman; Jim Tobin was on the Council. It's a beautifully written, persuasive document of why you needed to have a discretionary monetary policy. So, that was part of the persuasion, I believe. It wasn't purely political; it was making an argument on economic grounds. An incorrect argument, I believe. But that was what was affecting policy. Interestingly enough, in 1962 was the same year that Milton Friedman wrote Capitalism and Freedom, which is a completely different philosophy than was being put forth by the 1962 Economic Report of the President. But of course the Economic Report of the President was what prevailed in terms of policy. Russ: And Capitalism and Freedom of course was at that point, and Milton's voice, was very much a voice in the wilderness. Guest: Yes. Russ: One of the things I think is so admirable and inspirational about Milton is that he wrote that book; it didn't make very much of a splash in the academic world; it was published by the U. of Chicago at a time when academic presses were not even as mainstream as they are now. So it was sort of a philosophical book in some dimension. And it just sat there. People read it. And over time, many of the ideas in that book became, instead of being viewed as crazy or kooky or bizarre, became mainstream; and many of them were adopted. Although when I interviewed Milton he was distressed to think how many weren't adopted. But that's his perspective. Good will. Guest: It took a while, but eventually it caught on. Actually, my view, we've gone back again a little bit at this point, which is distressing. Russ: Yeah, but I think the good news is there's always hope. Think how distressing it must have been to be Milton Friedman in 1963, 1964, and 1965 and see people not paying attention to your ideas; and in policy, ignoring them totally, seemingly on a very unhealthy path. And yet, the pendulum swings back now. Guest: And then also, being positive because you've got someone in--Nixon--who you think is going to change things and then completely disappointing you.
23:01Russ: So, we get to--Nixon leaves office in disgrace in 1973, I think. We get Ford. Ford's policy is inept. And then he's followed by equally or perhaps more inept policy, which is the Carter Administration. What did the Carter Administration do that was so unhealthy economically? Guest: They now continued with enthusiasm the fiscal interventions; there was a program to give grants to the states for infrastructure, so that that would stimulate the economy. First-time home-buyers' policy, temporary thing to stimulate the economy; jobs credit of some kind. It was very interventionist-Keynesian, if you like the word; more so than Ford. At least the Ford advisers were uncomfortable with it. Charlie Schultz came in and replaced Greenspan as Chairman of the CEA, a very fine man, but he had, in my view, thought about this intervention too much. I was there at the CEA on the staff. Both Greenspan and Schultz supported Carter, and you could see the change coming in. So, they continued with it, and it didn't work; also continued with the monetary policy, which even got worse at this point. Burns was staying on at the Fed. And that continued for four years; now you really had a terrible economy. Confidence was dropping, unemployment rising, inflation rising. Eventually people saw it wasn't working. Carter's own advisers would write pieces later saying those policies didn't work. Annette G-- [?] analyzed the grants to the states and shows that they didn't work. So, we got away from those things. And fortunately things got better. Russ: And of course those assessments turned out to be temporary, not permanent, about the effectiveness of state intervention or temporary tax rebates or special credits for home-buying. Guest: We came back to them. In a sense people forgot. Or just the pressures of something else took over. It's disappointing from an economist's perspective that these studies were there and people just forgot about them or ignored them 30 years later. Russ: When you talk about monetary policy getting worse in the mid- to late 1970s, under Burns in the Carter Administration, how would you quantify that? What would be the measure you would use? If I said to you: Show me why that wasn't so good, what would be the--how would you tell that story? Guest: It was a go-stop policy. The Fed would try to reduce unemployment by stimulating money growth. Other ways to measure--you can look at interest rate rules. Interest rate rules were way off in terms of what was a sensible policy. Too low, if you like. And then they'd see inflation was picking up, and so they'd step on the brakes and you'd have a recession. Very frequent recessions, and at each step, inflation would rise. By the end of this period and going into the early 1980s, because it took some while to undo it, unemployment was in double digits, inflation was in double digits, interest rates were in double digits; and economic growth--productivity growth--had by that time begun to slow substantially. So, there's a lot of evidence of bad times and I think a lot of evidence that monetary policy was not rules-based. It was short-run oriented, highly discretionary. And in terms of monetary policy, there's many indicators to show that, including these interest rate rules. Which I talk about in the book. And we get to the end of the 1970s, where we have stagflation--we have simultaneous inflation and stagnation; the economy is either in recession but even when it's growing, inflation stays high. And this was of course deemed to be impossible by some variations of Keynesianism. There was supposed to be a negative relationship between inflation and unemployment. In fact, I still hear people tell me that it's obvious that when the government prints money, it has to create jobs, because people spend it and we know spending creates jobs. And yet both Zimbabwe, and the United States at the end of the 1970s, managed to have both high inflation and high unemployment. And this became a big challenge in the academic literature, to the Keynesian model. Guest: Interestingly, in 1968, Milton Friedman in his Presidential Address to the American Economic Association outlined why it is not going to reduce unemployment in any sustained way to have higher inflation or higher money growth. That's also a really beautiful paper, speech. Russ: Yeah, it's a classic. Guest: And by the way, there's only 3 pages of that talk which are on the inflation-unemployment issue. The major part of that talk is to urge a steady-as-you-go monetary policy. Because Milton had shown how powerful monetary policy can be, in terms of causing good and bad, and he was concerned that as people realized that, we were going move to one of these go-stop discretionary policies. So the main point of that speech was: Don't do that. Do this more steady as you go. And it's exactly the opposite of what happened. It took a decade, 12 years, to get to the right approach, that he recommended.
29:05Russ: So, Volker, who is appointed by Carter--and you have to point out also that even though the Carter Administration was very interventionist in many ways, it also did, under Alfred Kahn, sow the seeds of deregulation, which continued under Reagan. But it started under Carter. In all these stories there's a mix of good and bad, depending on your philosophy. But Volker is Chair of the Fed under Carter; stays on under Reagan; and follows what is a very politically challenging monetary policy. What was your Schultz quote--now we are back to George Schultz--an economist's lag is a politician's nightmare. So, that took place in the 1980s. Reagan had to endure--the 1982 midterm elections an extremely unhealthy economy, partly created by Volker's attempt to ring inflation out of the system. Correct? Guest: Yes. Absolutely. The times then, and when Reagan came in--you are right to point out that some of these decisions were made under President Carter. He appointed Volker, after all. But I think here, the fact that Reagan supported Volker during these very tough times is very significant. Very unusual for a President to do that. He basically didn't try to encourage the Fed to work to get unemployment down. He knew that they were going to do the right thing by reducing inflation. And so I think here's a case where the philosophy of the Administration helped monetary policy. Unlike back in Johnson-Nixon, where it hurt the policy. It's really monetary policy in this case following, I think, a much better rules-based policy under Volker, focused on inflation; that was what he needed to do, and it was tough. But he had support from the White House. Russ: Now, I'm pretty sure that the LBJ-Martin confrontations took place in the White House. That LBJ had Martin in his office, and berated him. That's my memory. Maybe it's wrong. Do you know how much Volker and Reagan talked face-to-face during this time period, say 1980-1983, when there would normally be political pressure on Volker to ease up a little bit? Guest: Very little, in the sense of--certainly no sense of telling him to ease up. It was just the opposite. If not now, when, would be the kind of things Reagan would be talking about. And also, remember, here you have some very important advisers with Reagan, including Friedman, including Schultz, and including Tom Sowell and Arthur Laffer. All these people who had strong market sense. And what you really do to get the economy moving again. And he also appointed some Chicago Ph.D.s over to the Treasury--Beryl Sprinkel, for example, had that more of a monetarist approach to him, and the CEA had Murray Weidenbaum; and Bill Poole came later. Niskanen. People who were quite strong on what needed to be done. And if you stuck with it. And Reagan had outside advisers through this whole period which encouraged him to stick to this. So it's an example where the principles that were held by Reagan--he came in that way; he would give many radio addresses and speeches with down-home stories describing why these same principles that I've tried to articulate with these five points, basically Reagan talked about those kinds of things in his own way and was firmly committed to them; and surrounded himself by people who had the same basic orientation. And that's what it took. Russ: I have a feeling--this is just pop psychology--but it may have been beneficial that Reagan, like Milton Friedman, had spent a lot of time in the wilderness. It was a different wilderness, a political wilderness. But had come to the Presidency later in his life and after a long time of trying to uphold what he thought was the right thing; and as you say, writing and speaking on it. And I think it was both harder for him to walk away from those principles and less appealing to give in to the short run. Though, having said that, of course he did many things that were not particularly free market. He expanded the size of government; he didn't cut spending successfully; he put voluntary quotas on Japanese cars. So he had his own deviations as well. Guest: When you look at the history, you've got to make some judgment calls about what are the important things; and so here I would say: he did remove the last vestiges of the wage and price controls on energy. He did not have stimulus packages. He encouraged the Fed to focus on monetary policy which I would call more rules-based. And certainly in terms of emphasizing markets and less regulation, he certainly continued with the things that Carter began with. So, it is a judgment. And the Reagan tax cuts, although sometimes they are advertised as being based on a Keynesian idea, was not Keynesian. It was permanent. It was not temporary-targeted stuff. And that was, I think, large in assessing it. But you are right--it's not perfect. You have to get your principles in there as best you can. But in this case there's such a contrast with the 1970s that it seems to me--and it went beyond Reagan. I think it went into President Bush 41, and I think in many respects until Clinton. Until recently.
35:31Russ: So, I'd love to keep talking about the history; I'd like to get to some of the policy recommendations. Just one closing point: I want to come back to this issue of temporary versus permanent you've alluded to. When you trace the whole history of these last three and a half decades or so, going back to either Kennedy, Johnson, or Nixon, starting from there and coming forward, there's a striking number of temporary interventions--tax breaks, tax rebates rather than rate cuts, that are by definition one-time; ad hoc programs such as the home-buying program, cash-for-clunkers in recent years. And the academic support for these programs--as you say, many times there was enthusiasm for these programs, sometimes from economists of various stripes. But there's really remarkably little academic support for these programs, especially when we take them one by one. So, these principles you are talking about--there's a lot of general agreement but a lot of particular disagreement. And they are complicated, so there are judgment calls; it's sometimes hard to assess; inevitably there are going to be issues of confirmation bias and cherry-picking; you can't measure these things precisely. But we are better at measuring individual programs with a little more precision. And it seems to me--and maybe it's just my bias--but there's remarkably little evidence to support any of these programs, from left or right. And yet they keep happening. Guest: You're right. That's the thing--you have these broad trends; you compare the 1970s and the 1980s and 1990s; compare the 1990s and now; that is all consistent with these principles. But then in addition you have, when you look individually--cask-for-clunkers or whatever it happens to be--you see that at least it's controversial. I think they don't work, but there's huge controversy about it, and we're still doing it. Amazing to me--a very famous paper I refer to in my book is by Tom Sargent and Bob Lucas, who later won Nobel Prizes. In 1978 they wrote this paper, "After Keynesian Macroeconomics." It was a devastating critique of those kinds of policies. And it made a difference; and at least we moved away from them. And then here we come back now and we're doing it all again as if we completely forgot. So, there's something else going on here besides the economics research. That's for sure. And maybe what you need to do is just to have a broader understanding of this beyond the equations and the econometrics, just to look at the history. Which is what I'm trying to do here. Russ: You mention a paper I think by Alan Blinder, that was--do you remember that paper? Guest: Sure. First of all, he showed that the wage-price freeze and those controls just didn't do anything lasting; maybe made things worse. So that intervention didn't work. And he also worked on the small effects of these temporary rebates. So there's two things that he looked at. And even after that--it's small but at least it's something, would be the kind of thing you would hear later; he certainly has been supportive of the Keynesian interventions of recent years. Russ: For sure. Before we move on to policy recommendations, I have to raise a question that crosses my mind from time to time. I don't have strong empirical evidence for it, but there's some casual empirical evidence. And that is the temptation to say: It's all monetary policy. All of this other discussion about fiscal mistakes or fiscal stimulus or various interventions: If you get the monetary policy right, things go well; if you don't, it's over. I'm a big fan of the argument that moral hazard created by past bailouts created the current mess we are in; but I am open to the possibility--and I probably asked you this question before--that the whole thing is bad monetary policy. Guest: Well, I certainly emphasize that a lot. It's I think a major factor leading to the financial crisis and also the slow recovery now. Obviously it was a big factor of the problems in the 1970s. It's actually interesting--it is probably the most difficult, arcane part of the whole discussion to explain and talk about. People--regulation, temporary tax cuts, things like that, you can talk about and explain, but monetary policy, you suddenly get into an area where, I think, it becomes more difficult to explain to people. Politicians tend to get a little less interested in it. But it is probably the most important of all. Russ: I think it's not only more difficult to explain; I think it's more difficult to understand. I think that's part of the reason it's more difficult to explain. It is somewhat mysterious. We are in this strange time now where we have this unprecedented Fed intervention, and yet despite the enormous creation of reserves through the Fed on the balance sheet in the banks--and you talk about this in the book--it hasn't done very much. Partly because they've encouraged it somewhat to sit on the books via paying interest on it. I ask this every time--it continues to mystify me--and I'll ask you again: Why do you think the Fed carried out this unprecedented intervention and yet watched and encouraged, if anything, its lack of impact? Guest: Well, they think it's had impact on the purchasing of the mortgages or the medium-term Treasuries. They focused more on what they did with the money rather than creation of the money. So they would argue that it would lower mortgage rates, it would lower medium-term Treasury rates other than what they would be otherwise. That is the rationale for it, I think, for the most part on their side. And they think that the money side of the equation, the balance sheet, that they'll be able to undo that in time, before it causes problems. And many people, including me, have doubts about that. Russ: Today is April 17, 2012, and I just got an email about a news article in the Wall Street Journal and MSNBC's coverage of this issue, that the Fed has finally released its transcripts from the 2008 key meetings, of which--I think it's a 5,208 page transcript--and virtually all policy discussion has been, as they say, redacted. Which is a fancy word for blacked out and unreadable to the general public. What's left is: How are you today? Okay; I'm doing fine. So that part, they didn't black out. It will be interesting; I assume some day we will get to hear at least what they said were the justifications for some of the policies. Guest: It's going to be very important for people to go through that, and I think investigative reporting can start a little earlier than that. But it's so important to get that straight. Russ: I would encourage members of the Federal Reserve to talk publically off the record. But that's not really my area.
43:34Russ: Let's move on. We've talked on this show before about the Taylor Rule and your particular study and recommendations for getting discretion out of monetary policy and having it be more rule-based. What you talk about in the book that I think is novel, besides going over some of the basics of that, which are important, is you try to give an idea of how one might actually implement a more rule-based monetary policy. So, talk about--other than the idea that certainly less discretion is a good idea, how could you hold the Fed's feet to the fire? Guest: What I think is most important is that the Congress ask the Fed to describe its strategy. And then, if the Fed decides to deviate from it, they must explain why. Those are the two parts. Explaining what it is, and then if they decide to deviate, to explain why. I think that would go an enormous way toward having a more rules-based policy. There is very little information about what really the strategy is that's being used now, for example. The quantitative easings are very hard to describe. But even interest rate policy. So, those are the two steps. In the past the Fed had to do that with respect to money growth--it had to describe its plans and then describe if it deviated. That was taken out of the Federal Reserve Act in the year 2000. So, my proposal is to reinsert that, but in a more modern way, where the Fed itself would have--it would have, as of course it should have--itself, the decision to make about what the policy is, what the strategy is for setting interest rates, what they are actually going to do under certain circumstances. It's their responsibility to do that. You don't want the Congress to micromanage along those lines. But you do want them to work it out and describe what it is. That's my main proposal. I hope something along those lines happens. Russ: Given the political temptations we've talked about, one way to look at this change would be just to introduce just a very modest amount of accountability that was lost in 2000. You talk in the book, and it's quite interesting because you of course have a personal relationship with Alan Greenspan. You know him, you talk to him. You talk in the book about his deviation from past steady-as-you-go monetary policy, and his ventures of the 2001-2003 period, 2003-2005. And one has to wonder, what role that 2000 change in accountability had in giving him the freedom to do that. Guest: It certainly could have been a factor. I think another thing that I would point out, and talk about in the book, is: The record was quite good for the 1980s and 1990s, until this period. And Greenspan succeeded Volker; and I think it was a situation where he had to find out how to run monetary policy in this low-inflation environment. And he made the 1994-1995 interest rate increase, that was very well-timed. And other things. So, I think what happened in this 2003, 2004, 2005 period is, they actually tried to do better. Perfect, innovate; becomes a good problem. And they deviated from what was working in order, I think, to try to make it work even better. They thought that keeping rates low extra-long would reduce some downside risks; there's various ways to put it. I think that's what happened. And perhaps it would have been harder if there were these procedures in place where they had to report their strategy. I think it would have been. But the motivations for doing it are complex. And also if you talk to different members [of the Federal Reserve Board of Governors] around at the time, they have different views about what happened. Ben Bernanke was an influential member of the Board of Governors at the time. He has different views about why they made these decisions. Russ: Have you heard or read anything about why that 2000 change happened? Guest: Oh, it's very simple. They had focused on money growth. And money growth itself had become harder to measure, because of the different ways to define money. There had been alternatives, with the credit card development and other ways to make payments. And so they just felt that they were spending so much time stating what the growth rates would be and then they'd find out they were off and had to explain why. So, I think it made sense to at least change them. They just removed them. I think in retrospect it would have been better to replace them with a better way to describe the strategy. But the reason they took them out was pretty clear. I don't think there was really very much complaining about that at the time. I certainly didn't complain about it. Russ: Well, it seems--on one level it seems reasonable. On another level it seems kind of shocking. Well, it's really hard for me to tell you, it's really hard for me to set my policy and then to be accountable. So, let's not have to describe what I'm doing. That does make it easier. It does solve the difficulty problem. It's strange. Guest: It's a good point.
49:20Russ: Let's move on to some specifics, moving forward. You have a famous chart in the book, which I think you reprint from a Wall Street Journal op ed that you wrote, that has an ominous picture of the ratio of the national debt to GDP. Where it's basically relatively flat. A few bumps, and it takes off like a rocket. Unfortunately, much of which is forecasted debt, because of entitlement promises. Talk about that. Is the national debt, the level of it, a threat to our prosperity? And why? Guest: Absolutely. Especially if it goes along the lines of that chart, which is the GDP ratio going above 100, going above 200, above 300. So interest rate payments become the whole budget. So, that is not sustainable. But that's what current law is. So, it is a real threat. And it's got to be fixed. I think in terms of fiscal policy, that should be the main focus at this point. And what I try to do is say: Well, you can fix this, in some sense, in a very simple way: Just bring spending as a share of GDP back to where it was before the crisis of 2007. That would be 19.5% of GDP. You do that in a gradual way. I kind of outline how that could occur. It's not austerity by any stretch of the imagination. Russ: Oh, come on, John. Guest: Undo this explosion. Russ: John, 19%, there would be people starving in the street. People dying. Mass starvation of poor people. Children in rags. Nineteen and a half percent--you remember? 2007 was like the Middle Ages. Guest: Well, that's what we are led to believe. But I think common sense, Russ, which you are espousing here sensibly, suggests that can't be true. 2007. That's what I try to explain. And people--I think people understand that. They just say: Hey, why is this so hard? Why aren't we getting to this, even faster than what I propose? Russ: So, the big debate we are going to hear about this summer, I suspect--we are already hearing it now--is, yes, we have a budgetary problem, and the common sense view is, well, we have two tools to close the gap. We have spending cuts and tax increases. So, a wise, middle-of-the-road approach is to use both. Why not? Why not use both? You argue for much larger spending cuts rather than tax revenue increases. Why? Guest: Well, actually, remember, I want to bring spending to, as a whole, to 2007 levels as a share of GDP. And by the way, that's growth, of course, since GDP has been higher. So, I use the word "cut" in a way that the growth rate is slower than it otherwise would be. But the reason is, we've now been exploding. Government spending is expected to explode on entitlements--largely the health care. Russ: For purely demographic reasons. It's not ideological reasons. Guest: I think it's not just demographic, because some of these entitlements are growing in real terms for beneficiary. Like Social Security is growing in real terms for beneficiary. A 45-year old now is projected to get a lot more under current law under real terms, inflation-adjusted real terms, than a 55-year old. So, it's more than the demographics. And that's why it shouldn't be that hard to fix. Health care is not just demographics. It's projections of rising costs of health care. So, that's why I think it's mainly on the spending side. And I argue it's completely on the spending side, because as a matter of just arithmetic, so much of it is that way. And so if you could just hold the growth rate down so we don't expand as a share of GDP, you can do without increasing taxes. And of course that's better, for going back to some of my principles, for incentives for the role of government, all these things, to keep tax rates at a level at they were roughly, in 2007 or even 2000. Russ: I don't think we can measure it, but the uncertainty--and we've talked already about uncertainty, the temporary versus the permanent--but certainty about how we are going to resolve this issue is a political reality. Because there is going to be a debate. We don't know how that debate is going to turn out. That certainly has to affect the state of the economy now. Guest: I think it is. I think it is a real drag. We do not know how this exploding debt is going to get resolved. And I believe if it is massive tax increases--I don't think that's likely, quite frankly--I just think we are kind of debating at the edges here at how much the tax increase will be. I think the right thing is to focus on the spending growth, stopping the explosion. And I think that will also, by the way if that's done well, will make people's lives better. The health care reforms' using markets more, decentralizing decisions to the states on Medicaid for example, will make those programs work better. So that should be a positive, not a negative. Not austerity. Russ: One man's austerity is another man's growing government. No one is actually--maybe other than Ron Paul--I don't think anyone has proposed anything like austerity. And we certainly haven't practiced it. And yet certainly austerity is the fault of, is causing the slow recovery. Just the thought of it is enough to discourage economic activity. Which could be true, of course. Future expectations do matter. But I don't think there is any much of a prospect of it actually happening.
55:38Russ: Let's talk about health care reform. We don't know what's going to happen to Obamacare. It may survive its judicial Supreme Court test; and it may survive the next election. But, it may not. If it did not, and if there was an opportunity for an alternative, what kind of alternatives do you think could be put in place that would slow the growth of health care spending, keep the size of government down? Personally, I'd like to see Medicaid, Medicare phased out. But you are more of a centrist than I am on that. So, how would you move toward an improved budgetary picture? Guest: On Medicare, both sides want to keep the growth rate from exploding. One side, and this would be more the House Republicans at this point, want to do that by providing a certain amount of funds over time and then having people decide what kind of health care insurance they buy, in Medicare. So it decentralizes the decisions; they are not made in Washington, but a total amount of money is clear. The other side is the decisions about how spendings are made are controlled in Washington, but effectively price controls and decisions on what are appropriate care. And so I think, in this case, again going back to these principles, again going back to markets and incentives, the first approach is going to work better. On Medicaid, moving the decisions to the states makes a lot of sense. You get better performing, lower costs, as a result of that. Then on the private sector side, or sort of non-Medicare, non-Medicaid, which is a big part of Obamacare, you certainly could save a lot by allowing insurance to be purchased across state lines. I thought there is still a lot to do in reform, on the malpractice, legal side of things. I think also providing deductibility for insurance or other medical expenses outside of the employer would help the coverage quite a bit. So, I think there's quite a bit to do to keep costs down and to provide better medical care without putting 16 million more people on Medicaid, which is what the current proposal is doing. A lot of people will think you do better uninsured than on current Medicaid. So there are a lot of problems with it. But the kind of thing I just outlined is an alternative which could be quite workable. But this is going to depend on the election, of course.
58:26Russ: In your book, I want to go back to an historical episode you mentioned that we've not talked about, which was, in advance of Reagan becoming President, a number of economists got together and wrote a document encouraging various policies. It's hard to be optimistic about such an effort today, mainly because the likely Republican front runner, the likely nominee, Mitt Romney, does not have a history of adherence to these principles the way Ronald Reagan did, at least on paper, through his own speeches. What's your feeling about where we are headed? And my view, by the way, is: I'm not sure how important it is who wins the next election. It will matter, but it seems to me that whoever wins, Democrat or Republican, will face some of these constraints regardless of their professed philosophy. Guest: I think the memo you are referring to was written just after the election in 1980. Reagan's advisers wrote him a relatively short memo, about 20 pages, outlining what they thought would be good for policy--tax policy, budget, regulation, and monetary for big issues. And they did stress a lot of these principles that Reagan had before, which I'm trying to articulate in this book. It was a very well done piece of work. I don't see why that couldn't happen again. I don't see why a platform along those lines couldn't happen. I think it's very promising to me at least from this perspective that there is this House budget out there that has some of these principles in it, and so that could be part of the debate. To the extent that the nominee, Governor Romney, is close to those and articulates those and has already begun to do that--he recently gave a good speech along these lines on so-called economic freedom. So, I think that the message here--by the way, I think the message I outline in this book is not partisan. These principles, they work. And regardless of party, you should be trying to elect people that adhere to the principles and know how to deliver them. And it's not partisan in a political sense of the word; and in fact historically, you just go back to what we talked about in this show. In the late 1960s and 1970s you had Johnson, Nixon, Ford, Carter--both political parties. More recently, in this middle period, you had Reagan, Bush 41, and Clinton. And now, toward the end of the Bush 43 Administration and Obama, you have--don't know exactly when it happened, but it's certainly different. So, I think if people recognize this is so important to get right and just get the right people in there, that we can make these changes. So, I'm a little more optimistic than I think I hear you are in your question that we'll be able to do it. But obviously we'll have to step away from it to make the assessments.