The Deficit Scare: Myth vs. Reality

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The Real Reasons the Republicans are Pushing Deficit Reduction

If deficit reduction isn’t a matter of principle for many Republicans, what are the real reasons they are pushing this issue so hard? There are two. First, conservatives believe that deficits make a good campaign issue. They need something to rile up people – something to fan their anger and resentment against government – and deficits fit the bill. Unfortunately, it seems to be working. Polls find increasing numbers of Americans are mentioning deficits and the national debt as one the most important problems facing our nation.

However, the main reason the Republicans have seized on this issue is that it is a good way to reduce government or at the very least prevent its expansion. Efforts to rein in the budget have long been a part of their “starving the beast” strategy that was described in another article. That is why Republicans have no interest in one of the obvious ways to approach this problem: raising taxes so government does not have to borrow so much money to pay for necessary programs. In their view, there is only one way to addresses deficits: cut spending. Of course this could eventually necessitate cutting back on many of the established liberal programs – like Medicare and Medicaid – that Republicans have never liked. In fact, the Republican budget proposal in 2011 actually called for ending Medicare and Medicaid as we know them.  In the end, this renewed conservative concern about deficits is simply a new way to pursue their real goal – reducing big bad government.

Deficits Are Good During Recessions

But irrespective of their motivations, aren’t Republicans right that deficit spending is a terrible idea and we must stop doing it? Aren’t balanced budgets just a matter of common sense? The answer is “No.” In fact, a good case can be made that deficit spending is an indispensable government tool in addressing serious economic problems.

For example, most economists agree that deficit spending during a recession, especially a severe one, is a very good thing to do. Even though tax revenues are decreasing, the best thing for the economy is for the government to keep spending money, and even increase spending. When consumer and corporate spending are swooning, only the government is in the position to spend money and stimulate economic activity. The market will not take care of this problem, so the government must step in.

Government spending has a multiplier effect that provides a large economic boost during recessions. If it spends money on building schools and roads, for example, that money first helps constructions companies. These companies in turn will hire more workers who will then spend more money on goods and services, thus helping other businesses. The construction companies will also purchase more tools and materials from other businesses, who will then hire more workers, and so on. In this way, deficit spending spreads through the economy, lessening the impact of recessions and helping to speed economic recovery. And as the economy rebounds, this produces higher tax revenues, which eventually lessens the need for deficit spending.

Contrary to the wildly erroneous claims of the political right, most economists agree that the deficit spending and economic stimulus programs of the Obama administration provided enormous benefits. A 2010 study by Alan Blinder of Princeton and Mark Zandy of Moody’s Analytics found that the combined effect of the fiscal stimulus package, TARP, and the actions of the Federal Reserve Board raised real GDP 11% over where it would have been, saved an estimated 8 million jobs, and probably averted deflation and a depression. They concluded: “It is clear that laissez faire was not an option; policymakers had to act. Not responding would have left both the economy and the government’s fiscal situ­ation in far graver condition. We conclude that Ben Bernanke was probably right when he said that ‘We came very close in October [2008] to Depression 2.0.’”3

The worst thing the federal government could have done was to listen to the deficit hawks and curtailed spending in the face of a severe recession. To see why, you simply need to look at state governments that did this in recent years. As their economies were tanking, many state governments – which are constitutionally required to balance their budgets – had to lay off workers, cut benefits to individuals, and curtail purchases of goods from the private sector. This simply made a bad economic situation worse. It created a kind of reverse multiplier effect, taking money and jobs out of the economy and lowering demand for goods and services in an already weak economy. Instead of speeding an economic recovery, this kind of frugal spending policy actually slows it down. It hardly makes sense to kick the economy when it is down, but this is what happens if governments are forced to balance their budgets every year.


 

If the Republicans continue to be successful in blocking further stimulus spending, this will only hurt the economy. At best, it will delay recovery from the recession, and at worst, it might actually precipitate a dip back into more severe recession. Either way, this will only add up to more suffering for millions of American workers. Chronic long term unemployment has reached heights not seen since the Great Depression of the 1930s. This is the real crisis facing many Americans. They are out of a job, out of savings, and losing their house. Their American dream is fading fast. Only the government is in the position to help – to stimulate the economy to produce more jobs. And yet the Republicans keep insisting that budget balancing must be our first priority – thus leaving millions of jobless working class and middle class Americans hung out to dry.

Bogus Math and Questionable Estimates

Peterson and many other fiscal austerity zealots rely primarily on highly questionable predictions that budget deficits and the debt will soar to unimaginable heights several decades from now. They predict economic doom as interest rates soar and investment grinds to a halt. But as numerous critics have pointed out, predictions that extend out several decades are extremely unreliable and depend entirely on the assumptions one uses. For example, slight changes in his assumptions about the rate of economic growth or key tax rates would mean that none of his dire predictions about soaring debt would actually come about.

 Robert Kuttner is particularly critical of the misleading calculations in Peterson’s analysis:

The Peterson Foundation’s central claim of over $50 trillion in unfunded liabilities is arrived at by miscounting apples and oranges. The only true figure for debt—that is, debt on which actual interest is paid by taxpayers—is the public debt held by the public, estimated as of January 12, 2009, according to the Treasury, is $7,781,352,915,790.80.

The Treasury Department’s figure for public debt is about 54 percent of GDP, a far smaller portion of GDP than at any time during the quarter-century after World War II, a period of record economic boom. The rest of the Peterson Foundation’s fanciful arithmetic is derived by adding debt that one government agency owes to another (another roughly $4.5 trillion) as well as the projected seventy-five-year deficits for Social Security, Medicare, and Medicaid, using worst-case scenarios.4

Social Security is a good example of just how questionable Peterson’s alarmist analysis really is. There is clearly no immediate crisis and not a likely long-term problem either. The Social Security payroll tax was hiked in the 1980s to handle the increasing number of baby-boomers retiring now. As a result, the program's trust fund is projected to grow steadily, with a surplus lasting until at least 2027. After that, some very small modifications in income or payouts could return the system to surplus. Even if that wasn’t done, the program will still be able to pay 100 percent of benefits until 2041.5

The only way that Peterson can make Social Security look like a problem is if he projects the program out 75 years, and assumes very low rates of economic growth and wage increases. Slightly more optimistic economic assumptions would mean that Social Security would be quite viable for the foreseeable future. So to whip up public panic about the Social Security system, as Peterson and his allies have done, is simply irresponsible.

 

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