The Debt Whiners: Fools Or Liars?

I keep asking this question because whining over the government debt looks to be a huge growth sector in the next year or two, or perhaps until Republicans retake the White House. I regularly ridicule debt whining, because, unlike its cousin, deficit whining, it has no basis in economic reality.

Before again showing why the debt is a meaningless number, let me contrast it with the budget deficit, which can be a real cause for concern. The way in which deficits can pose a problem is that a large deficit can push the economy beyond its ability to produce goods and services.

This is a textbook story which happens to be accurate. The point at which the economy is being pushed too far by a budget deficit is not easy to determine and it varies hugely over the course of the business cycle.

When the economy is in a severe slump, there is plenty of excess capacity and unemployed workers, and therefore little basis for concern that a deficit is creating more demand than the economy can supply. However, near the peak of a business cycle, when the unemployment rate is already low, a large budget deficit can create demand that the economy is unable to meet.

The consequences of excessive demand are hard to know at this point. One possible consequence is that the Federal Reserve Board decides to raise to interest rates. This will reduce demand by reducing housing construction and to a lesser extent lowering public and private investment. It also is likely to raise the value of the dollar, which lead to a larger trade deficit, which will also lower demand.

But suppose the Fed doesn’t raise rate. Fed Chair Jay Powell indicated that he plans to keep short-term rates near zero for the immediate future. In the old days, we would have thought that would create serious problems with inflation, but that is less clear now.

First, the economy is far more internationalized, which means that is easier for excess demand in the United States to simply spill over to increased demand for imports, rather than driving up domestic prices. This is pretty much the story that we see if a single state has very strong demand.

If Ohio were to have a booming economy, it would mostly translate into higher demand for a wide range of goods and services from neighboring states, not an inflationary spiral in Ohio. This is likely to be the case with any excess demand that results from large budget deficits here.

The other major difference between the economy of today and the economy of the 1970s, the last time we saw an inflationary spiral, is that unions are much weaker today. This means workers have far less bargaining power.

1 2 3 4
View single page >> |
How did you like this article? Let us know so we can better customize your reading experience.


Leave a comment to automatically be entered into our contest to win a free Echo Show.