Academic journal article The American Journal of Economics and Sociology

On Deficits and Debt

Academic journal article The American Journal of Economics and Sociology

On Deficits and Debt

Article excerpt

ONE MIGHT EXPECT that our ability to survive under the large Federal deficits of the Reagan and Bush administrations would have inoculated us against the fear of Federal deficits. But so far the inoculation has not proved effective. Perhaps we have a psychological need to be obsessed with something, and now that our obsession with communism is gone, the fear of the public debt has regained its old place. Both obsessions have strong political and economic connotations. The former, the fear of communism, helped Nixon and his ilk to win elections; the latter, the fear of deficits, has limited the activities of the Federal government. The lack of public understanding of the difference between Federal and private finance has intensified this fear. It does not seem that this understanding has improved much over the last fifty years.(1)

Our old puritanical injunctions against running into debt remain valid when applied to a private person. He or she can disregard them only at his or her peril. A large corporation has more leeway: it can borrow by issuing bonds, and replace them with new ones when they fall due. If many large corporations simultaneously decided to pay off their debts, our economy would collapse: it is based on credit, the inverse side of debt. Still, any corporation, however large, can go bankrupt. Indeed, a few years ago Chrysler and Lockheed had to be rescued by the Federal government, and Eastern Airlines disappeared altogether. Some of our state governments have not fared much better. (Look at California today.) But, the Federal government is in a class by itself: so long as its debt is expressed in dollars (which fortunately is the case), it can always print as many dollars as it needs to pay the interest, though nowadays it would issue bonds, sell them in the market and, if necessary, have the Federal Reserve repurchase them. The Federal government, the creator of the Federal Reserve system, is its own banker.

By definition, a budget deficit means that the government spends more money than it receives, or, in other words, that it creates more purchasing power by its expenditures than it destroys through taxes. Is this good or bad? It depends. If the economy is working to capacity, the creation of extra purchasing power will do little good and much harm: it will cause an inflation, which is easy to start and hard to stop. But when the economy has plenty of unused resources, the additional purchasing power is welcome. At such a time, we should rebuild our physical infrastructure, improve our education, health, and environment, and intensify our scientific and industrial research efforts, without raising taxes and without reducing or eliminating other needed services, always keeping a watchful eye on economic barometers to make sure that we do not overdo it.

All this sounds nice and easy, perhaps too easy to avoid suspicion. Are we to get something for nothing, as the old saying goes? Is there such a thing as a free lunch, after all? The offer of a free lunch is strictly temporary; it lasts only so long as unused resources, and particularly unemployed labor, are available, because they can be put to use with little, if any, social cost. But once they are gone, government expenditures, however desirable, must be matched with revenue.

The early proponents of counter-cyclical fiscal policy believed that budget deficits incurred in depressed years would be balanced with surpluses earned in others. They failed to take into account the political aspects of their plan: every congressman will be more than happy to vote for a tax reduction or for increased appropriations for his favorite projects, but who will defend a tax increase to achieve a surplus? So, we have to face the prospect that the Federal debt will grow with time. Will this growth ruin the economy?

First, let us look at some figures.

By the end of 1992, the Federal debt had reached an all-time high of some 4.2 trillion dollars, a truly astronomical amount. …

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