Sustaining Budget Deficits in Open Economies

Sustaining Budget Deficits in Open Economies

Sustaining Budget Deficits in Open Economies

Sustaining Budget Deficits in Open Economies


In recent times the US economy has been characterised by burgeoning budget and current account deficits and increasing amounts of foreign capital inflows. For the UK too, the budget deficit remains a central weakness in the economy.
In the light of these problems this book presents a consistent economic framework for analysing the effects and implications of large bond-financed deficits. The author uses an open-economy rational expectations model to explore to what extent governments can simply 'roll-over' debt by issuing more bonds without any help from the monetary authority. He examines too, the impact of foreign capital on the sustainability of domestic budget deficits the behaviour of exchange rates and the possible effects of fiscal and monetary policies. This model is placed in the context of the major economic orthodoxies and their competing stances and also of American monetary history from Truman to Reagan and the crash of 1987.
Focusing attention on a major problem in macroeconomics and for the chancellors of a number of economies, the book makes an important contribution to the understanding of this complex area.


This is not a book portending dire apocalyptical happenings in the world economy; nor is it a 'How to Make it Through the Next Great Depression' kind of book. It is, on the other hand, a book that provides the reader with an economically consistent framework within which the cause and effects of budget deficits and trade deficits can be understood. Macroeconomics today is in a state of flux, with economists clinging doggedly to two or three major schools of thought. This, unfortunately, has been a major source of confusion for policy makers, the general public, and, of course, the news media, who find themselves flitting between these different schools of thought instead of analysing policies within a particular framework.

Therefore, in this book I have attempted to provide the reader with brief intuitive reviews of these different economic frameworks, as well as an analysis of the history of the US budget and trade deficits from the Truman to the Reagan administrations. Whenever I have come across analyses of certain fiscal and monetary policies that are still hotly debated, I have attempted to include and discuss all the conflicting arguments.

My main goal in writing this book is to provide a framework within which questions pertaining to the sustainability of the twin deficits, the behaviour of exchange rates, and the possible effects of fiscal and monetary policies can be competently analysed. I have, however, refrained from making any economic forecasts.

Economic forecasts extending over, say, three months, are meaningful only when all the fiscal and monetary policies remain unchanged. When these policies change, as they frequently do, individuals use their past experience and respond to these actual or anticipated changes in a manner that might actually negate the purpose of these policy changes!

This is what separates macroeconomics from engineering. In the former, policy experiments are performed within an environment

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