Buffett believes the United States is awash in so much debt, both domestically and internationally, that it will cause higher interest rates and a widening trade deficit, followed by a crisis of confidence leading to a run on the dollar and economic decline, if not financial collapse. It's a version of what I've called Rubinonomics, after former Clinton Treasury Secretary Robert Rubin. Rubin, along with liberal economists Allen Sinai and Peter Orszag, wrote a paper a year ago summarizing Rubinonomics:
Budget deficits decrease national saving, which reduces domestic investment and increases borrowing from abroad. ... The reduction in national saving raises domestic interest rates, which dampens investment and attracts capital from abroad. The external borrowing that helps to finance the budget deficit is reflected in a larger current account deficit. ... The reduction in domestic investment (which lowers productivity growth) and the increase in the current account deficit (which requires that more of the returns from the domestic capital stock accrue to foreigners) both reduce future national income.
The only problem is, there is absolutely no empirical evidence to support the theory. Indeed, history disproves virtually every linkage it draws. For example, as economist Alan Reynolds has pointed out, from 1981 to 1989, when U.S. deficits averaged 3.8 percent of GDP, the national savings rate was 18.2 percent of GDP. From 1998 to 2001, while the U.S. budget was in surplus, national savings was less, 17.5 percent of GDP. During the late 1990s, when the projected budget surplus was increasing steadily and interest rates should have been falling according to Rubinonomics, real interest rates were rising, and the economy, far from struggling, was soaring.
Reynolds also demolishes the so-called "twin deficits" bugaboo that seems to have Buffett so bent out of shape. In 1991, he points out, the budget deficit was 4.7 percent of GDP, up from 3.9 percent in 1989. The current account, however, had moved from a deficit of 1.8 percent in 1989 to a small surplus in 1991. In each subsequent year the budget deficit grew smaller and the current account grew larger.
By 1998, the budget surplus equaled 0.8 percent of GDP, but the current account deficit was 2.5 percent. By 2000, the budget surplus equaled 2.4 percent of GDP, but the current account deficit was 4.4 percent. It's no longer economic theory when an idea like the "twin deficit" so entrenches itself that people are unable to change their minds when confronted with evidence to the contrary; it's superstition and myth.
The facts are quite different from what Buffett imagines. Tax increases don't increase national savings by lowering public-sector borrowing; they reduce incentives to work, save and invest, thus reducing saving and lowering economic growth. Conversely, tax rate reductions increase incentives to do all three. After the Bush income tax rate reductions reduced the penalty on working, realizing capital gains and earning dividends, the effects on economic growth were immediate and dramatic.
After business fixed investment fell for a record straight nine quarters, it began growing in 2003 and has continued to grow at double-digit rates ever since. Tax revenues, as a consequence, are rising, as well. The deficit is beginning to shrink, and if Congress will just hold the line on federal spending growth, the budget will come into balance in a few years.
Rich guys have the right to believe whatever superstitions they desire, but their wealth can't buy them a free pass around the facts.