Budget Deficits; Useful or Dangerous

Posted on February 17, 2011

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One of the biggest political fights right now in the United States and other countries hurt by the Great Recession is over government finances. For various reasons, they have been spending much more than they have been taking in from taxes. This is called deficit spending. It is separate from the actual level of debt.
Deficit spending occurs for several reasons. Anyone who runs a household knows how difficult it is to stick to a balanced budget. Governments get money through taxes. It’s hard to raise taxes in democracies; people understandably don’t want to pay more. And changing economic conditions can mean that even if tax laws stay the same from year to year, the government will take in less. This is particularly applicable during a recession, or for state and local governments that rely heavily on specific taxes, such as those on property. It’s also hard for governments to cut spending. Every program benefits someone, and those people will put pressure on politicians to keep them from cutting that program. The only ones that are really vulnerable are programs that care for poor people or minorities, who tend to have less of a voice in influence politics. The programs that help them, though, are often the ones that are most valuable for increasing economic growth, because those who have the least are more likely to spend a little extra that they get, rather than saving it or using it to pay down debts. Some programs are long term; like Social Security or Medicare, their income now comes at the cost of promises of fixed future spending.
Deficit spending is not always a bad thing. The United States government ran deficits for most of the second half of the twentieth century without grave consequences. If the economy grows by a larger percentage than the percentage of extra spending, the next year’s increased tax revenue fills the gap. If the government uses the extra money wisely, the deficit can even be good for the economy. Investments in infrastructure and education provide the structure that helps the economy to grow.
The problems come not with deficits but with debts. If deficits are too large, or governments spend huge amounts on one-time, debts will grow relative to the economy. Again, this is not bad, up to a certain point. Stable governments have time and resources to pay back the debt, or at least keep ahead of the interest payments. But when the total debt gets too large relative to the economy, the interest payments start to take over the budget, nudging out services or requiring increased taxes, both of which hurt growth and make the problem worse.
Government debt, like the private kind, is not inherently bad. But it must be managed carefully and intelligently, and unfortunately politics usually interferes with that.
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