Many years ago, when I was 10 or 11 I had a friend of mine sleepover. My parents had something going on that night, so we had a babysitter for a few hours. She was quite lenient on us, and being young boys, we took advantage of the situation. I'm not sure I've drank more pop over a span of a few hours than I did that night. We also convinced her to let us watch a banned cartoon that night.
I'm not sure why I remember that night so well, but every time I hear a politician or pundit talking about reducing the deficit I can't help but think of the episode I saw that night. You see, the episode I saw was about the "underpants gnomes" who'd go around at night stealing underpants.
They had quite the business model (I'd offer a link here, but I could not find a clip containing no vulgarity, so peruse at your own risk if you like):
Step 1: Collect underpants
Step 2: ???
Step 3: Profit!
For these politicians and pundits, it seems that their modified plan for the economy could be:
Step 1: Reduce deficit by cutting social programs and raising taxes
Step 2: ???
Step 3: Growth!
I have yet to hear a solid explanation of what reducing the deficit would do for the economy to help it grow. The best, or most feasible explanation offered is that businesses would be more confident and would start spending and investing to create jobs. Yet, this magical step two (what Krugman calls the confidence fairy) has some problems with it.
What about reducing the deficit increases business confidence? Reducing the deficit will reduce their sales, because the deficit measures the amount of money leaving and entering the economy over time. A deficit is money entering the economy, a surplus is money leaving. Lower sales do not boost confidence.
What about more stable policies? Sure! Stability in Washington is very important, but you can provide stability without reducing the deficit.
Business investment relies greatly on expectations of future sales. For that, businesses need stability and expected stability. They need to know roughly what wages, resources, healthcare, etc. will cost. They also need to have a rough idea of what they can sell at what prices to make their investment worthwhile. Banks also form their expectations when deciding whether to give out loans or not.
For this, we need Washington to stop kicking the can down the road, to stop passing temporary measures while they continue to disagree over how to reduce the deficit, and they really need to stop threatening to go "over the cliff" or fall into voluntary bankruptcy. This is what makes businesses uncertain, not the deficit. Constant fiddling by Washington must stop if the private sector is going to have any confidence in their bottom line.
The deficit should be reduced, but not directly. It will be reduced with a growing economy. To grow the economy you need to boost spending, which means a higher deficit now. A higher deficit now will equal a lower deficit later with economic growth.
The deficit should be directed toward those who need it most and who will be most likely to spend it. Not big business and not big banks. Not those who own big businesses and big banks. Give it to those who need it and they will spend it. This, in turn, will boost the sales of businesses, small and big alike. They will be more confident of future sales and will invest in more jobs.
Remember that the public sector deficit is the private sector surplus. If we reduce the public deficit, then we reduce the private sector surplus.
There is no magical step 2 to get us growth if step 1 is reducing the deficit.
A Ph.D. student's perspective on Catholic Social Teaching and economics.
Showing posts with label Deficit. Show all posts
Showing posts with label Deficit. Show all posts
Sunday, February 24, 2013
Tuesday, December 18, 2012
Fiscal Cliff Notes
Some of my (somewhat well-educated) thoughts on the fiscal cliff:
1) The fiscal cliff is NOT the point at which the government runs out of money. Somehow this has become the widespread notion of what the Fiscal Cliff is, descriptively. Remember, the issuer of a currency cannot run out of that currency. The U.S. government, as issuer of the dollar cannot run out of dollars.
2) The fiscal cliff IS the point at which spending cuts kick in and tax cuts expire so that the deficit closes. That is, (G - T) becomes smaller. Every economist understands that this will hurt the economy because it contracts overall spending in the economy. GDP = C + I + G + (X-M). So if Taxes go up, our spending (Consumption and Investment) will go down and if government spending goes down, overall GDP will drop unless somehow we miraculously become a large net exporting nation.
3) Knowing this, we still think we have to shrink the deficit. I detailed this a couple of weeks ago, so I recommend reading that piece. IF we let the fiscal cliff happen, the economy will shrink quickly. If we reach a deal, the economy will sputter and will likely fall some if not a lot--it depends on the magnitude of the deal.
4) We need a larger deficit! This can be accomplished through spending increases or tax cuts, but the only way to actually shrink the deficit is to increase GDP. The private sector is still deleveraging, the foreign sector--our trading partners--is in poor shape, and so the only institution that can help is the government. Otherwise we're in for a long, slow deleveraging period--see The Great Depression. This is needless because the government has policy tools to prevent it, and it doesn't necessarily have to mean a concentration of government power.
5) What we spend money on matters! Some spending has a higher multiplier effect or employs more workers. Much spending is extremely wasteful and so wouldn't do much to help our society or our economy. All spending will benefit some more than others. Some spending is immoral. We need to make these decisions as a society in the political arena, but note these decisions have economic effects--see my most recent post on this.
6) We have a particular duty to look out for those left behind or trampled on by the system. We can do this personally and through institutions--including Churches, non-profit organizations, local governments, and the federal government. All have advantages and disadvantages, but all are needed according to the principle of subsidiarity, which is not a limiting principle (thinking of it solely as a principle that limits the size of government), but is rather a cooperative principle (thinking of it in terms of all institutions of all sizes working together to accomplish the common good).
1) The fiscal cliff is NOT the point at which the government runs out of money. Somehow this has become the widespread notion of what the Fiscal Cliff is, descriptively. Remember, the issuer of a currency cannot run out of that currency. The U.S. government, as issuer of the dollar cannot run out of dollars.
2) The fiscal cliff IS the point at which spending cuts kick in and tax cuts expire so that the deficit closes. That is, (G - T) becomes smaller. Every economist understands that this will hurt the economy because it contracts overall spending in the economy. GDP = C + I + G + (X-M). So if Taxes go up, our spending (Consumption and Investment) will go down and if government spending goes down, overall GDP will drop unless somehow we miraculously become a large net exporting nation.
3) Knowing this, we still think we have to shrink the deficit. I detailed this a couple of weeks ago, so I recommend reading that piece. IF we let the fiscal cliff happen, the economy will shrink quickly. If we reach a deal, the economy will sputter and will likely fall some if not a lot--it depends on the magnitude of the deal.
4) We need a larger deficit! This can be accomplished through spending increases or tax cuts, but the only way to actually shrink the deficit is to increase GDP. The private sector is still deleveraging, the foreign sector--our trading partners--is in poor shape, and so the only institution that can help is the government. Otherwise we're in for a long, slow deleveraging period--see The Great Depression. This is needless because the government has policy tools to prevent it, and it doesn't necessarily have to mean a concentration of government power.
5) What we spend money on matters! Some spending has a higher multiplier effect or employs more workers. Much spending is extremely wasteful and so wouldn't do much to help our society or our economy. All spending will benefit some more than others. Some spending is immoral. We need to make these decisions as a society in the political arena, but note these decisions have economic effects--see my most recent post on this.
6) We have a particular duty to look out for those left behind or trampled on by the system. We can do this personally and through institutions--including Churches, non-profit organizations, local governments, and the federal government. All have advantages and disadvantages, but all are needed according to the principle of subsidiarity, which is not a limiting principle (thinking of it solely as a principle that limits the size of government), but is rather a cooperative principle (thinking of it in terms of all institutions of all sizes working together to accomplish the common good).
Sunday, November 18, 2012
Fiscally Insane
The recent elections kept in place the gridlock we've seen in recent years in Washington. One issue they have continually kicked down the road was the issue of the growing government debt due to recent high deficits. The gridlock is no doubt a serious problem, but the insane part is the premise upon which both parties are acting: the need to reduce the deficit. I have written much about this, but I thought it seemed appropriate and pertinent to review why reducing the deficit now is insane.
Many people forget that government debt is someone else's asset. That is, every government bond or treasury security out there is the government's IOU, but the holder's asset. So increasing government debt is increasing the non-government sector's assets or net savings. The non-government sector can't net save on IOUs/assets held against each other, so it relies on the government's securities to net save.
This means that the $16 trillion+ government debt is the world's net savings in the U.S. dollar of account. Since savings are good and since we would expect the economy to continue to grow, we should expect that savings and thus the debt will go up forever. This means 17, 18, 19 trillion and counting and that's a good thing! Not something to be worried about! So why are people worried about it?
Here are the usual arguments:
1) Bankruptcy
We know this is false and is easy to prove or show. The government can simply print more money to pay any debts it has promised to anyone. Now in practice they don't print much money to pay their bills, they just change numbers in bank accounts, but the basic idea is the same. They are the monopoly issuer of the U.S. dollar and can thus pay any debts denominated in U.S. dollars. In this way we are not like Greece. Greece's debts are payable in the Euro. They are not the monopoly issuer of the Euro. They cannot pay debts without accruing Euros first through taxing or borrowing. They can go bankrupt. They, again, are a currency USER.
The U.S. does not face those same difficulties as the ISSUER of the currency. They do NOT need to tax or borrow in order to spend. The only reason they do so is to limit the private sector's purchasing power in order to prevent inflation. If they didn't tax or issue bonds to drain the private sector's purchasing power, and spent the way they did, then we would likely have the third thing everyone is concerned about (see below).
2) Interest rates
Many are worried that the bond markets will turn on U.S. bonds by refusing to buy the U.S.'s debt and so interest rates will go up, like they did in Greece or Spain. This is a more hairy explanation, but the simple answer is that as a currency ISSUER, the U.S. doesn't face that possibility, that Japan is a better comparison, who is also a currency ISSUER and has had very low interest rates for over a decade.
The U.S. has had record high deficit spending and record low interest rates. The theory that makes people worry is that high deficits cause high interest rates because fear will grow over whether or not the government will be able to make good on its debts. After #1, we know it can always make good on its debts, bankruptcy is not a concern. It is possible that fear would still grow anyway, despite this most basic fact, but it is wholly unlikely and still has not come to fruition despite repeated warnings it will for several years now. Those who spend their life trading in markets know that U.S. debt is a safe asset to hold so long as they don't threaten to voluntarily declare bankruptcy (or stop making payments on IOUs it has promised), which they are doing unfortunately.
So, in sum, this hasn't been an issue and won't be so long as the US doesn't voluntarily declare bankruptcy, something it does not have to do, or otherwise threaten to not make promised payments. Unfortunately, this might be a tool used by either side to get their way on the new budget deal. And again, Japan has paved the way:
Debt goes up, but interest rates go down in both.
The proof is in the pudding. Interest rates are not going to go up without the voluntary and unnecessary threat to not pay its debts.
Many people forget that government debt is someone else's asset. That is, every government bond or treasury security out there is the government's IOU, but the holder's asset. So increasing government debt is increasing the non-government sector's assets or net savings. The non-government sector can't net save on IOUs/assets held against each other, so it relies on the government's securities to net save.
This means that the $16 trillion+ government debt is the world's net savings in the U.S. dollar of account. Since savings are good and since we would expect the economy to continue to grow, we should expect that savings and thus the debt will go up forever. This means 17, 18, 19 trillion and counting and that's a good thing! Not something to be worried about! So why are people worried about it?
Here are the usual arguments:
1) Bankruptcy
We know this is false and is easy to prove or show. The government can simply print more money to pay any debts it has promised to anyone. Now in practice they don't print much money to pay their bills, they just change numbers in bank accounts, but the basic idea is the same. They are the monopoly issuer of the U.S. dollar and can thus pay any debts denominated in U.S. dollars. In this way we are not like Greece. Greece's debts are payable in the Euro. They are not the monopoly issuer of the Euro. They cannot pay debts without accruing Euros first through taxing or borrowing. They can go bankrupt. They, again, are a currency USER.
The U.S. does not face those same difficulties as the ISSUER of the currency. They do NOT need to tax or borrow in order to spend. The only reason they do so is to limit the private sector's purchasing power in order to prevent inflation. If they didn't tax or issue bonds to drain the private sector's purchasing power, and spent the way they did, then we would likely have the third thing everyone is concerned about (see below).
2) Interest rates
Many are worried that the bond markets will turn on U.S. bonds by refusing to buy the U.S.'s debt and so interest rates will go up, like they did in Greece or Spain. This is a more hairy explanation, but the simple answer is that as a currency ISSUER, the U.S. doesn't face that possibility, that Japan is a better comparison, who is also a currency ISSUER and has had very low interest rates for over a decade.
The U.S. has had record high deficit spending and record low interest rates. The theory that makes people worry is that high deficits cause high interest rates because fear will grow over whether or not the government will be able to make good on its debts. After #1, we know it can always make good on its debts, bankruptcy is not a concern. It is possible that fear would still grow anyway, despite this most basic fact, but it is wholly unlikely and still has not come to fruition despite repeated warnings it will for several years now. Those who spend their life trading in markets know that U.S. debt is a safe asset to hold so long as they don't threaten to voluntarily declare bankruptcy (or stop making payments on IOUs it has promised), which they are doing unfortunately.
So, in sum, this hasn't been an issue and won't be so long as the US doesn't voluntarily declare bankruptcy, something it does not have to do, or otherwise threaten to not make promised payments. Unfortunately, this might be a tool used by either side to get their way on the new budget deal. And again, Japan has paved the way:
Japan Debt-to-GDP
Japan Interest Rates
Debt goes up, but interest rates go down in both.
U.S. Debt-to-GDP
U.S. Interest Rates
The proof is in the pudding. Interest rates are not going to go up without the voluntary and unnecessary threat to not pay its debts.
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