Basic Economics – The Conversation Continues

Last week there was a thread here at OregonCatalyst that sparked a debate about “basic economics” and Gov. Kulongski’s proposal for a rainy day fund. This debate continued over at NW Republican which I want to pick back up this week.

(NOTE: Please keep in mind that Kulongoski’s proposal is vastly different than a ballot measure floating around out there which predicates a Rainy Day fund created along side of a spending limit – Do not confuse the two. Kulongoski’s plan wishes to increase government spending with a so-called “Rainy Day Fund” as part of a whole spending package while the ballot measure seeks to limit government spending.)

It’s nothing new for politicians from all partisan perspectives to use this theme of “basic economics” as the basis for various tax increases, kicker deductions, ballot measure bullying and various budget gimmicks. This post is aimed at moving the debate forward asking the question of what is “basic economics” and how does it as a field of study play into the political sphere.

Economics in One Paragraph (Basic “Basic Economics”)
Economics is the study of resource allocation given the reality that we exist in a constant state of scarcity (not enough to go around for everyone’s wants and needs at any given moment). So in essence, how we spend the resources we have. Given our modern economy this study usually breaks down into tracking currency interaction and prices in dollars. Cold hard cash being the underlying medium of exchange for our economy and therefore the easiest way to determine relative values as it relates to how we allocate resources as an economy. Since there is only so much money to go around, economics recognizes the concept of opportunity cost (i.e. the reality that for every purchase made another opportunity is forgone as the money is spent and cannot therefore be used alternately in another investment/purchase).

So given this nutshell explanation there are two big points the Governor has to face when setting up any rainy day fund. First off there is only so much money to go around. Second that any additional revenue taken out of the economy cannot be put to use where it would normally go if left in the hands of tax payers.

Now this is the part of the debate in which liberals say – “So What?” “The rainy day fund pays dividend in stable government funding.”

But these dividends won’t really appear if government isn’t capable of improving its fundamental management and ability to prioritize its spending. Instead you will have money spent not when it rains but simply when clouds are forecasted to appear. This of course costs Oregon more in the long run as our resources are needlessly sapped. It only gets worse over time as government spending is not contained and this further expansion of the budget enlarges the problem beyond the ability of any rainy day fund to address.

Without a reform that requires Oregon to maintain a budget in line with inflation the Legislature and Governor have shown consistently that they will expand spending in a nonsustainable fashion. To put it simply, it isn’t that revenues are unstable its that the growth of spending is unsusatainable. It’s like a dot-com investor assuming the returns will stay great forever.

This is my big contention with the Rainy Day Fund as proposed by Gov. Kulongoski. Without real fundamental reforms to fix the fiscal crisis facing Oregon all his work and all our foregone take home pay will be for nothing. (Note: I do think there is a way to set up a rainy day fund that will work but it would require government to constrain its budget growth to mirror inflation but I will save that for a later day)

There is also another reason that I believe that the rainy day fund won’t deliver as promised. The catch is the fact that when you take large pools of resources out of the economy it has a direct impact on the economic growth of Oregon. How you ask??? The power of compound interest (another basic economic principle).

When economies grow there is a percentage you usually hear about called Gross Domestic Product (Oregon has its own share of our national GDP). This economic growth statistic is built upon hundreds of years of growth. So if you consider the gravity of it, the roughly 2% (I believe that’s the number) we grew this year as a state was probably the same inflation adjusted dollar figure for the entire Oregon economy say in 1920.

To take money out of this pool is to sacrifice a portion of the economic growth of the state. This growth now being taken away from the ongoing economic wealth of Oregon.

When you think in terms of opportunity cost this becomes a real threat. For Oregon to begin to tax an excess amount of money simply to take it out of the economy and to hold onto Oregon is canibilizing future revenu. The rainy day fund will cost us much more in economic growth over ten years than we will save in a fund. The state of Oregon is costing itself more money in the long-term as it is turning away larger revenues in the future in order to immediately realize a cash payment today.

Under the guise of a savings account the Governor is going to loot the future income of the state and slow Oregon’s economy. The issue in Oregon hasn’t been that state revenues decline. Its the fact that state spending has always grown faster than inflation. The first step isn’t socking away tax revenue but instead getting state spending under a reasonable growth curve. This in itself will reduce the cycles of boom in bust for the Oregon’s finances and will further bolster the growth of Oregon’s economy.