Budget Hell a Figment of Zealots’ Imagination

Originally posted at Capital Gains and Gains.

At least since I’ve been an adult, I’ve never believed in heaven or hell.

Despite all of the fire-and-brimstone warnings and thunderous sermons about the need to avoid eternal damnation by behaving a certain way, I can’t get it out of my head that no one has ever proved that hell exists. To me, the discussion about where you end up for all eternity has always been belief or spin and not fact. It may work for those preaching it and those who need an easy-to-understand guide for their lives, but it definitely doesn’t work for me.

The same is true when it comes to the federal budget. The equivalent of hell — the absolute guarantee that we’ll be economically doomed if we don’t immediately repent on the deficit and live a virtuous balanced budget life — has never worked for me because it’s never been proved to be true. In addition, those who have insisted that reducing the federal deficit no matter what the economic situation have seemed to be proselytizing to validate their personal beliefs or accomplish their unrelated political goals rather than actually analyzing anything.

The problem for the budget evangelists is that the past few years have provided what Nobel Prize-winning economist Paul Krugman said in his blog last week was “a great natural experiment” whose results should test the faith of those who continue to say with unrepentant certainty that economic lighting bolts will be hurled down at all of us because of the federal deficit.

And, as Krugman explained, the great experiment showed that the three most often guaranteed deficit-related plagues — inflation, a limit on resources available to the private sector and higher interest rates — didn’t occur despite the deficit that critics likened to a tool of the devil.

All three of the promised curses are actually very easy to dismiss at this point. As the deficit rose to the point we’ve been told would bring immediate and unmistakable retribution from an angry economic deity, interest rates have fallen, the private sector has been reporting record earnings and is hoarding cash, and inflation is about as absent from monthly economic statistics as it can be.

Much of the reason the effect of the deficit hasn’t been, well, hellish is that there are mitigating circumstances. The financial turmoil in the rest of the world has increased the demand for U.S. debt, and interest rates have been pushed down to the point that, when including the effect of the meager inflation we’ve experienced, they have actually been negative. In other words, instead of demanding to be paid for their loans like most lenders, investors have been paying Washington for the privilege.

A combination of technological advances and a workforce of people desperate to do whatever it takes to keep their current jobs has clearly contributed to the ability of corporations to do more than just survive, even if bank lending has been more difficult to obtain. Then again, corporations have more sources of capital these days than was the case in the past, and with all that cash on hand, it’s not clear how much companies need to borrow anyway.

And with unemployment at 8.2 percent and limited consumer demand, it’s hard to understand why anyone ever thought inflation was a metaphysical certitude.

Each of these mitigating factors can be considered an unusual and perhaps fortuitous confluence of economic events that would have allowed the deficit to lay waste to the U.S. economy had they not occurred. That’s exactly the point: The deficit doesn’t exist in an economic vacuum, and the decision to increase or decrease it has to be made and evaluated in the context of everything else that’s happening.

In other words, despite what the evangelists say, the actual current results demonstrate that deficits are not inherently evil.

In fact, the combination of economic conditions the United States is experiencing puts the current federal budget deficits and those who have championed them on the side of the angels rather than the demons because none of the other components of gross domestic product are making growth possible. State and local governments continue to increase revenues and cut back on spending, consumers and businesses aren’t spending, and the economic woes in Europe and elsewhere mean that trade isn’t available to help.

That makes federal fiscal and monetary policy the only two drivers of economic growth. With interest rates already low and the Federal Reserve’s options limited, the budget deficit is an economic blessing rather than a curse.

This won’t always be the case. A rapidly growing economy driven by domestic and overseas demand for U.S. goods and services at some point will create a time when reductions in the federal budget deficits should be considered, and not doing so would be a sin.

In the meantime, however, no matter what the zealots might preach, there is no federal deficit hell except perhaps for those who, despite the facts, continue to insist with absolute certainty that we’re all going there.

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