Do deficits matter?

For decades, politicians and economists have condemned deficits as evil. Today, there is a lively debate about whether deficits matter and whether there are advantages to running them. Most notably Modern Monetary Theory encourages the government to run deficits in order to achieve its objectives of full employment and investment.

Structurally high deficits are bad

High deficits that are due to structural (as opposed to temporary cyclical deficits) are bad. They lead to higher inflation and the crowding out of private investment.

High deficits by central banks cause high inflation

High government spending can be one of the main causes of inflation. Governments spending more than they are making causes the value of currency to diminish.

High deficits affect the financial health of future generations

High deficits are a problem for countries in the long-term. That said, high deficits are accrued because of the debts of the people of the country. As each generation has more debt, it continues to affect the country in the future. This is what makes prices in the market higher for future generations. Prices continue to rise as deficits remain high.

Deficits are not bad as governments that issue their currency can't go bust

The government should use fiscal policy to achieve full employment, creating new money to fund government purchase. Deficits are not a problem, only inflation is. If inflation becomes a problem, the government can raise taxes and issue bonds to withdraw cash from the economy.

Governments that issue their own currency are not constrained by borrowing

As long as central banks can buy government bonds with newly created money, a government cannot default. Therefore deficits and debt are not important. Inflation might be a problem, but not deficits, and inflation can be countered with higher taxes.

Moderate deficits are good, very high deficits lead to problems

Rather than a binary disagreement that deficits are good or bad, it is reasonable to conclude that small deficits are irrelevant to the broad economy, and only high deficits financed by central bank accommodation create inflation

Debt, broadly speaking, is money we owe to ourselves

Most debt that governments take on is owed to its own citizens. Debt is a liability, but every liability is someone else's asset. Debt involves a transfer from those who pay taxes to those who own bonds and the money stays in the economy.
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This page was last edited on Thursday, 27 Feb 2020 at 14:42 UTC