the Sugar Conspiracy

Wednesday, November 17, 2004

Why deficits matter

Deficits such as these matter because the increased government borrowing creates a drag on the economy; it reduces the amount of capital available for private investment and consequently the increased national income that would result from greater investment. As Federal Reserve Board Chairman Alan Greenspan told the Senate Banking Committee last week, "There is no question that if you run substantial and excessive deficits over time, you are draining savings from the private sector, and other things equal, you do clearly undercut the growth rate of the economy." The problem occurs because -- as the administration, which tried for a while to argue this Economics 101 point, now concedes -- the greater competition for capital drives up interest rates. Mr. Mankiw summed this up nicely in his best-selling economics textbook: "When the government reduces national saving by running a budget deficit, the interest rate rises, and investment falls. Because investment is important for long-run economic growth, government budget deficits reduce the economy's growth rate."

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These particular deficits matter even more than general macroeconomic theory would suggest. It makes sense for the government to spend more than it takes in during periods of economic downturn. But the administration's tax cuts -- at least $1.7 trillion from 2001 through 2013 and more than $3 trillion if the administration gets its way and the supposedly temporary cuts are made permanent -- effectively lock in deficits for years to come, unless the tax cuts are repealed or draconian spending cuts, which would be politically unpalatable, are approved. Even the administration's own projections show a deficit of $226 billion in 2008. And while administration officials confidently talk about the economic growth that they expect the tax cuts to generate, their own analyses don't suggest the cuts pay for themselves. "Although the economy grows in response to tax reductions (because of higher consumption in the short run and improved incentives in the long run)," the 2003 Economic Report of the President said, "it is unlikely to grow so much that lost tax revenue is completely recovered by the higher level of economic activity."

Moreover -- and most worrisome -- these structural deficits are being put in place at precisely the wrong time: when we ought to be socking money away (or at least paying down the existing debt) to pay for the soon-to-explode costs of Social Security and Medicare.

And this administration wants to borrow even more money, increasing our deficit.

posted by chris at 2:01 PM
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