Do Deficits Matter?
In the short term, it may not matter what anyone thinks. There is a near universal political consensus that spending is the only solution that will save the economy. This consensus is backed by a long list of economic experts; the same people who in the recent past had been predicting clear skies and strong economic growth.
Will borrowing and government spending bring back happy days and prosperity? We will not know the ending to our grand Keynesian experiment for a number of years. What we may discovery sooner is the borrowing limits of the US Government.
In the long run, deficits do matter.
For those inclined to consider this matter further, the following links are good reads.
WASHINGTON (MarketWatch) – Members of the Federal Open Market Committee at their mid-December meeting saw increasing risks of depression and deflation as they grappled with employing new tools to stabilize an economy that was rapidly weakening, according to truncated minutes of the meeting released on Tuesday.“The overwhelming message gleaned from the minutes of the meeting is one of fear — fear of a deep recession, and fear of a debilitating deflationary spiral that would capsize a debt-laden economy,” wrote Joshua Shapiro, chief economist for MFR Inc.
Some participants at the meeting saw “the distinct possibility of a prolonged contraction, although that was not judged to be the most likely outcome,” the minutes said. Inflationary pressures were likely to dissipate, and “some members saw significant risks that inflation could decline and persist for a time at uncomfortably low levels.” Read the Fed release.
But there’s more. None of that includes the new fiscal “stimulus” that President-elect Obama has promised to introduce upon taking office in two weeks. The details aren’t known, but Mr. Obama and Democrats have been talking about at least $800 billion, and probably $1 trillion, in new spending or various tax credits and reductions over two years. Toss that in and add more expected bailout cash, and if the economy stays slow the deficit could reach $1.8 trillion, or a gargantuan 12.5% of GDP. That 2006 Democratic vow to pass “pay as you go” budgets seems like a lifetime ago, which in political terms it was.
So, who then determines what’s an infrastructure project? The infamous “Bridge to Nowhere” was “infrastructure.” Plans were drawn up for it. Workers would have been employed to build it. What’s the difference between pork, a boondoggle and useful infrastructure?
Reasons abound for the ballooning deficit, including a 6.6% decline in tax revenues compared to 2008; more than $180 billion in transaction costs associated with the Troubled Asset Relief Program (TARP), the Treasury Department’s bailout fund for the U.S. economy; the $240 billion price tag of the government’s takeover of mortgage buyers Fannie Mae (nyse: FNM – news – people ) and Freddie Mac (nyse: FRE – news – people ); and increased spending on unemployment compensation.
NEW YORK (CNNMoney.com) — President-elect Barack Obama this week proposed a massive economic stimulus program with a lofty goal amid a deep recession: create 3 million jobs.
How many of those jobs will end up in China, South Korea or other countries?
“I know the scale of this plan is unprecedented, but so is the severity of our situation,” he said. “As the economy recovers, the deficit [will] start to come down. We cannot have a solid recovery if our people and our businesses don’t have confidence that we’re getting our fiscal house in order.”
There are fears that the next crisis in the global financial system could prove to be a rebellion by the bond vigilantes, already worried by talk of a bond bubble. This would push up rates used to fixed mortgages and corporate bond deals. Central banks can offset this for a while by purchasing bonds directly — “printing money” — but not indefinitely.
The US alone is expected to issue $2 trillion (£1.3 trillion) of debt this year, and the Europeans are not far behind. Italy alone must tap the markets for €200bn as it rolls over its huge stock of public debt and meets the cost or recession. Fitch Ratings said Ireland, Greece, the Netherlands, and France face a heavy calendar of auctions as maturities fall due.