One of the things that never ceases to amaze me is that our entire political class (both politicians and the mandarin hangers-on) still does not comprehend that the balance of accounts must sum to zero. That is, aggregate savings (all the stuff private entities, from corporations to individuals to non-profits, own) require government deficits (one way around this is trade surpluses, but we try to deal with the real world around here). It is impossible for the government and the entire private sector to both run surpluses. This isn’t political theory or ideology, it’s arithmetic.
So when you hear some talking head or politician talking about how he or she intends to cut government spending–reduce the deficit–and put more money in your wallet, well, check if your wallet is still there. Likewise, concerns that deficits mean we’ll be paying 20-25% of GDP in interest payments are a delusion worthy of creationism, as explained by a for reals economist, James Galbraith (italics mine):
Go down a few lines and they [the Congressional Budget Office] also have the short-term interest rate going up to 5 percent. It’s that short-term interest rate combined with that low inflation rate that allows them to generate, quite mechanically, these enormous future deficit forecasts. And those forecasts are driven partially by the assumption that health-care costs will rise forever at a faster rate than everything else and by interest payments on the debt will hit 20 or 25 percent of GDP.
At this point, the whole thing is completely incoherent. You cannot write checks to 20 percent to anybody without that money entering the economy and increasing employment and inflation. And if it does that, then debt-to-GDP has to be lower, because inflation figures into how much debt we have. These numbers need to come together in a coherent story, and the CBO’s forecast does not give us a coherent story. So everything that is said that is based on the CBO’s baseline is, strictly speaking, nonsense.
And by way of Edward Harrison, we have real world examples of the balance of accounts:
Look at the upper right panel, Spain in 2006. The government had a surplus of about two percent of GDP. The capital account balance is about nine percent of GDP (crudely, the capital account is foreign investment–money flooding into the country), and the private holdings are negative eleven percent of GDP (many Spaniards were in hock up to their eyeballs due to housing debt). But you’ll notice the numbers sum to zero (9 + 2 + (-11)). The numbers also sum to zero for Spain in 2009, even though its budget is now negative at a deficit of nine percent GDP, while both the private sector and the capital account have surpluses totaling nine percent.
You’ll see the exact same pattern across the board. Now, there can be inflation due to deficit spending when the economy is at maximum employment. And certain types of deficit spending increase the savings of some versus others: tax breaks for Paris Hilton enrich the wealthy, while unemployment benefits help the poor. These policies themselves have additional social and economic consequences such as income redistribution*, which is why we have political parties and so on.
But the absurdity of demanding that we reduce deficits with massive unemployment, underemployment, and large swathes of the middle class in debt is foolish. We will only exacerbate these problems.
*If reducing economic inequality is viewed as a positive goal, then one might end up reducing deficits (or at least, not expanding them), but that is simply an outcome of policy. Likewise, if you tax one group to pay for government functions that help another group, this wealth transfer has little effect on deficits. It may, however, be desirable social policy.