Hardly a Cause for Panic

Why does this year’s deficit seem to create so much controversy? In theory large deficits threaten future prosperity. That’s because when governments run deficits they must borrow to make up the difference. The borrowing comes from scarce funds and can bid up interest rates. This can slow productivity growth—the cause of rising living standards.
Andrew Chamberlain blogg “Do Deficits Matter,” shows that this is not necessarily the case. “The historical relationship between deficits and interest rates is murky.” Many things in the economy affect the interest rates. It seems that government borrowing and interest rates tend to move in opposite directions altogether.
Deficits are clearly harmful to some extent. The question is to what extent? The average deficit, over the last 42 years, has been 2.1 percent of the GDP. In order for deficit to be considered large it must be 5.9 percent of the GDP or larger.
This year’s deficit is projected to be 3.6 percent of the national income. In the 1980s and 1990s the deficits was 4-5 percent and “hardly cause for panic.”


June said...

So why do we hear so much negative talk about the deficit? Is it simply a political issue? It seems that economists have a good understanding of deficits and their effects. I guess that politics and economics are two different disciplines, and they often contradict each other. I suppose politicians do what is best for their career, and not necessarily what is best for the economy.

C-Dizzle said...

If I remember correctly, I learned in macroeconomics that the deficit is used a lot as a political soap box to bash and thrash opponents. The deficit is paid off constantly but new debt is acquired constantly. Political opponents and the media don’t want the blind public to see that this debt repayment is happening constantly. The deficit isn’t as bad as many people think.

sandy said...

I would like to know what Dr. Tufte has to say about this. I hope Luise and Meg are correct. Meg provided me with a new viewpoint that I appreciate. I do sort of the same thing. I use credit cards for purchases and then pay off my balance each month. Like the government, my deficit is paid of constantly but new debt is aquired instantly.

Dr. Tufte said...

-1 on Luise's post and Sandy's comments for spelling mistakes.

Umm ... Sandy ... why do you need to hear my opinion when you have me for Principles? I'd think you'd be tired of it by now. ;)>

Anyway, my opinion (which is supported by a lot of theory) is that deficits don't matter. Note that I'm not rigid about that - I used to think they mattered a lot, but I gave up on that belief when it was clearly proved wrong.

So, if it doesn't matter, why do they talk about it? I think this is cheap talk. That is, it is an issue that politicians can talk about freely, and even change policy, without really harming anything. Really serious issues like (say) Medicare reform get ignored.

sandy said...

I confess Dr. Tufte, I don't know why I was requesting to know what you think when you have made it clear before in class. I must have been tired. But I'm not tired of hearing it because I need to hear something several times to remember it well. That is obivious. :-)