Good NYT article on deficit hysteria, with an especially illustrative quote from Rep. Cooper (D, TN):
“We have to stop spending money we don’t have,” said Representative Jim Cooper, a Tennessee Democrat who voted against the bill. “I hope deficit reduction fever is catching.”
The U.S. is in the midst of a balance sheet recession, with demographic ratios shifting an an unfavorable economic direction for several more years. Under those conditions, deficit reduction fever will lead directly to the dreaded Japanese Disease — another decade of stagnation, underemployment, and opportunity costs, all of which will impose greater burdens on future generations than expanded federal deficits would.
And policymakers — not to mention most members of the electorate, including analysts and the media — continue to commit two fundamental errors regarding fiscal policy:
- They believe that all deficit spending must be financed with interest bearing debt, thus competing with the private sector for scarce financial resources. However, judging by current Treasury rates, there’s still plenty of room for expanded federal borrowing. And there’s a symbiosis between federal deficits and repair of balance sheets in the financial sector, as evidenced by the perfect quarters turned in by several major investment banks recently. Politically, that relationship is almost nauseating, as it’s doing very little to relieve distressed households — but it nevertheless makes apparent the dynamic between public sector fiscal deficits and private sector balance sheet relief.
- They also believe implicitly that the U.S. is on a gold or similar standard, where fiscal and monetary policies are constrained by the supply of some exogenous factor, and governments can thus literally “run out of money.” Governments can’t run out of money, as it is ’created’ by nothing more than digital ledger entries. In other words, government (today, via operations of the quasi-private Fed) is the sole creator and supplier of high powered money. Thus, the only constraint on money creation is inflation and a loss of confidence in the currency, and at the moment, those forces are emphatically not in play. This too is symptomatic of Japanese Disease.
The fears of incumbent politicians like Cooper are certainly understandable. But they’re borne of either ignorance about how these things work, or self-preservation. Either way, it smacks of lousy political leadership.
And given that Republicans are likely to benefit in November, we’d expect the trend towards fiscal conservatism to intensify. Even President Obama, in a speech yesterday, promised the following:
- A three year freeze on all non-discretionary federal spending beginning in 2011
- Expiration of tax cuts via sunset provisions
- Elimination of 120 federal programs
- Reinstatement of PAYGO
- Higher fees on banks that are expected to lower federal deficits by $90B over ten years
He promised all of this as a way to force the public sector to budget in the same way that families and businesses do. Again, this is wrong, and is borne of either ignorance or pandering. And as with Congress, it smacks of crummy political leadership either way.
The administration’s jawboning is also reminiscent of budget austerity measures touted by the Carter administration in the 1970s in reaction to the “tax revolt” — austerity measures that contributed to its eventual demise, even though they may have been more appropriate to the conditions prevailing at the time (e.g., baby boomers entering adulthood, global trade and financial integration, etc). Today, austerity is far less appropriate, but even more vigorously pursued. That almost certainly spells trouble for Obama in 2012 – assuming the GOP can field a worthy candidate and avoid blowing all of its political capital in the intervening years.
You also have to wonder, were he to experience a change of heart, whether there’s any credible way for him to backtrack from his neo-liberal rhetoric. The DLC, Brookings, Peterson, and all the other usual suspects have painted the guy into one hell of a corner.
In the meantime, assuming that reality will align with rhetoric, the political climate continues to be favorable to the USD and Treasuries, and rather risky to gold. A contrarian call? You bet. But it’s based on what we think is a well-grounded and – just as importantly – non-ideological assessment of the facts.
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