I knew when I posted about deficits I would catch some grief (you should see my email. Actually, you probably shouldn’t. And why do I get many more emails than comments?). Before I get to addressing some of the comments, I want to bring up why I discuss this stuff (other than I find it interesting):
I think it’s safe to say that most people around these here ScienceBlogs care about scientific research funding and science education funding (both K-12 and collegiate education). But the ability to increase the resources for these areas–or even just prevent them from shrinking–depends on the political and economic context. If funding exists in a zero-sum environment–that is, something else needs to be cut or taxes need to be raised–well, we’re screwed. If we can engage in reasonable (more about what that means later) deficit spending, then we have more options.
So onto some additional points:
1) The majority of U.S. debt is held by the U.S. Amazingly, every critical email and comment claimed that the majority of U.S. debt is held by foreign countries. That’s simply not true: three-quarters of U.S. debt is held by U.S. institutions and individuals. The largest debt holding entity is the U.S. government. I’m not sure how this error spread, but we own most of our debt. The argument that most of our debt interest payments are going abroad simply isn’t true.
2) Debt will have a feedback mechanism. Imagine if Secretaries Bernanke and Geithner held a press conference and stated, “Um, our accounts are all managed on an Excel spreadsheet, and we, uh, forgot to include a few columns in the SUM function, so the deficit to GDP ratio is really about 300%, and interest payments are 15% of GDP. Sorry about that. Gotta go!”
This would be a problem.
I suppose we could go out and drop seven or eight additional trillion dollars over the next couple of years, but, in reality, the trajectory, were it to happen, would be much slower and basically be a large stimulus package. At which point GDP would pick up, and the debt:GDP ratio would stabilize or decrease.
3) The creation of new accounts (i.e., public debt and private loans) is not behaving optimally: currently, there is no crowding out due to government spending. One argument against deficit spending is that it denies the banking system capital to make loans. If we were at full employment and optimal deployment of private capital, this would be correct. But we’re not at the point where optimality tradeoffs apply. Banks allocated trillions of dollars to housing in places we didn’t need it and to people who couldn’t afford it. Now many banks have to retrench or get EATED! by FDIC; they’re ‘zombie’ banks. At this point, government has to spend. If we hit full unemployment with good GDP growth, crowding out could occur (although then we wouldn’t need as much government spending). There is no crowding out, and there won’t be for a long time.
4) In the post-Bretton Woods world, U.S. securities are the new gold. The U.S. debt is the primary reserve currency (it remains to be seen if the euro will gain the same status). Think about it: if you had a ton of money that you wanted to keep in a very safe place, where would you put it? Certainly not Latvian or Icelandic securities. Interest rates are still very low–people want to own this debt. (An aside: this means that, in such a world, we are destined to run trade deficits, if other countries are trying to hoard our debt. Free stuff for us!).
Could there be a psychological collapse in the value of U.S. debt? Sure, but that will stem from technological, political, and infrastructure failures: if people believe that the U.S. is down for the count, that will weaken confidence, not a debt to GDP ratio that is lower than it was after WWII (or much of the Reagan era). As long as there is a reasonable belief that there won’t a long-term collapse in U.S. GDP growth, U.S. debt is solid.
It’s late, so I’m going to stop now. Discuss.