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Saturday, March 21, 2009

Short-Run and Long-Run Deficits

Robert Frank says its important to separate the cyclical component of the budget from its long-run trajectory, and that when evaluating deficits, how the money is spent matters:

When ‘Deficit’ Isn’t a Dirty Word, by Robert H. Frank, Commentary, NY Times: ...Because important policy decisions hinge on whether deficits matter, this is an opportune moment to take stock of what we know. The good news is that there is little disagreement among economists who have studied the issue. The consensus is that short-run deficits help end recessions, and that whether long-run deficits matter depends entirely on how government spends the borrowed money. If failure to borrow meant forgoing productive investments, bigger long-run deficits would actually be better than smaller ones. ...

When a downturn throws people out of work, they spend less, causing still others to be thrown out of work, and so on, in a downward spiral. Failure to use short-run deficits to stimulate spending amplifies that spiral, causing further declines in tax receipts and even bigger deficits. That this path makes no sense is a settled issue.

But what about long-run deficits? To think more clearly about them, we must recognize that carrying debt is costly. The ... money spent to service debt can’t be spent for other things we value. But that doesn’t mean we should always borrow less. The main issue is what we do with the borrowed money.

If we simply use the money to buy bigger houses and cars, deficits make us unambiguously worse off in the long run. That’s why the explosive increase in the national debt during the Bush administration was a grave misstep.

Trillions of dollars, many of them borrowed from China, financed tax cuts for the wealthy, who spent much of their added wealth on things like bigger mansions. ... Much of the interest we’ll pay on debt incurred during the Bush years is thus money down the drain.

In contrast, borrowing for well-chosen investments doesn’t make us poorer. Road maintenance is a case in point. Failure to repair roads in a timely way could mean eventually spending two to four times as much for the work. ...

Once the downturn ends,... there are many ways to pay down debt without requiring painful sacrifices. A $2 tax on each gallon of gasoline, for example, would generate more than $100 billion in additional revenue a year. Europeans, who pay more than $2 a gallon in gasoline taxes, have adapted by choosing more efficient cars — and they appear no less satisfied with them.

We could also levy a progressive consumption surtax, which would ... also stimulate private savings...

Notwithstanding the neo-Hooverite talk from stimulus-program opponents, the current deficit isn’t too large. If anything, it may need to be even larger to revive the economy. In the long run, new sources of tax revenue could keep deficits from growing and could even pay down existing debt. But if the political system cannot figure out how to pay for productive investments with tax revenue, we’d still end up richer, on balance, by making those investments with borrowed money.

Here are "Bogus Arguments about the Burden of the Debt".

    Posted by on Saturday, March 21, 2009 at 06:48 PM in Budget Deficit, Economics, Fiscal Policy | Permalink  TrackBack (0)  Comments (17)


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