Palley Thomas Budget Deficit Hysteria

The Fiscal Austerity Trap: How Budget Deficit Hysteria Risks Sabotaging Growth & Creating Self-Fulfilling Budget Difficulties

Thomas Palley New America Foundation [email protected]

Introduction • Return of fiscal austerity agenda = case of “Déjà vu all over again”. • Wrong economic agenda. • Wrong political agenda.

Why We Need Sustained Deficit Financed Fiscal Policy - 1 • (1) Keynesian stimulus to fight the recession. • (2) Help private sector deleveraging. • (3) Spur economic growth.

Figure 1. The “virtuous” circle linking growth and deficit financed public investment. Growth +

Deficit financed public investment

+

+

Fiscal space

What is a Sustainable Deficit? • Sustainable deficit keeps steady debt/GDP ratio. (1) With growth of 2.5% & debt/GDP ratio of 100%  sustainable deficit = 2.5% of GDP. (2) If real interest rate = 2%  implies interest service burden of 4%.

Is Our Current Budget Situation Sustainable? Table 1. Projected annual average budget deficit as a percent of GDP, 2009 –2050. (Source: Kogan et al., 2008) 2009 - 2050 Annual average deficit/GDP

-4.2%

Letting Bush-Cheney 2001 & 2003 tax cuts expire in 2010

+1.9%

= Holding health care cost growth equal to per capita GDP growth =

-2.3% +3.0% +0.7%

Conclusion - 1 • Fiscal austerity based on flawed economic analysis & is not supported by the numbers. • Need budget deficits to: • (1) Fight recession. • (2) Help private sector deleverage • (3) Spur growth via Public Inv.

Conclusion - 2 • Fiscal austerity will do triple damage: 1)Risk economic stagnation & sub-par growth. 2)Make economic reform more difficult. 3)Uses budget deficit as Trojan Horse to justify an assault on vital public programs – especially Social Security.