Background
To keep things sorted out in my head, I form mental pictures if possible. (Too frequently, even that doesn't help much.) Anyway, I decided to publish two of my headpictures (plumbing diagrams) about how money and bonds flow into and out of the US Treasury. I hope the pictures below will help clarify some of the points I keep making in this weblog, primarily about growth and its effect on debt.
Keep in mind that these headpictures show fundamental concepts. Most (but not all) of the money flows are shown; they encompass most (if not all) of what's significant. On these diagrams, the pipe widths are proportionally correct.
Also, I rounded each number to one decimal place; i.e., I rounded to the nearest hundred billion dollars, which ensures that any given number will be correct within plus-or-minus fifty billion. (How's that for pinpoint accuracy?)
Diagram 1, below: How the money is flowing in 2005
Three groups (1, 2, and 3 on the left) provide virtually all of the money flowing into the federal government. Two groups (5 and 6 on the right) are the recipients of most of it; bondholders (group 3) receive the remainder. Note that money inflows balance with money outflows. Also note that the source of money to cover the difference between total outflows versus taxation inflows is T-bond sales to the public or to the SS Trust Fund.
Click to enlarge
Diagram 2, below: How growth affects the money flows
This diagram shows how the various flows grow and contract (blue arrows) when a growing economy causes a given tax rate structure to yield more tax revenue at sources 1 and 2. Growth almost always boosts tax revenues in two ways: (a) more people are working, and (b) those working are earning higher incomes. Growth consequently reduces the need for supplemental money from bond sales (see arrow at 4).
Click to enlarge
Ponder this: What’s the best way to grow tax receipts?
An important question; also, a polarizing question. Here are the two primary camps:
Camp 1 says: “Growth is to some degree a function of tax rates. Within a reasonable, relevant range, lower rates boost economic growth, and higher rates stifle growth. Our long-run priority should be policies of growth-enhancement, currency stability, and prudent debt-burden management.”
Camp 2 says: “Growth just happens; it’s not a function of tax rates, it’s a function of the business cycle, it's an independent variable in our macroeconomic equations. Therefore, the quickest way to boost federal tax receipts is to increase tax rates—and it should be obvious that we need a quick boost in tax receipts.”
It’s easy to see how the argument between these two camps can quickly change from an objective economics conversation into an emotional political battle. I prefer the former, but the latter prevails today.
Lastly
In case you haven’t inferred my position from the stuff I write in this weblog, allow me to clear things up a bit:
• I am in Camp 1.
• I will remain in Camp 1 until sufficient evidence refutes it—but. . .
• . . . I am not holding my breath.
More later. If you think the diagrams could convey the same message in a simpler way, please let me know. I’m a big proponent of making things as simple as possible—without oversimplifying.
