Why the Debt Isn’t All Bad: Balancing Our Deficit Thinking*


by Robert Eisner, William R. Kenan Emeritus Professor of Economics, Northwestern University, past president of the American Economic Association.  Professor Eisner was a member of the Advisory Board of the National Jobs for All Coalition.

*Reprinted with permission from The Nation magazine, (c)1995, The Nation Company, Inc.Professor Eisner was a member of the Advisory Board of the National Jobs for All Coalition.

Almost everybody is against budget deficits. Almost nobody knows what they are, how they are measured or how they can really be expected to affect the economy or our well-being.

Many say, I balance my checkbook, why can’t the federal government balance its own? But few know the unique way the federal government does its accounting: It fails to distinguish investment or the acquisition of capital assets from current expenditures. By federal accounting methods, most major businesses, households and state and local governments would be in “deficit.” To “balance our checkbooks” we would have to give up much business investment and all borrowing to buy a house or car or send our children to college.

Many, including The New York Times and other major newspapers and even President Clinton, have at times confused the deficit and the debt. The conventionally measured deficit is in fact the amount that government outlays exceed revenues during the year, hence the amount that has to be borrowed. The debt is the accumulation of all that has been borrowed, net of what has been paid off. The 1995 fiscal year deficit of $164 billion, far down from the $290 billion of 1992, thus added (approximately, because of some of the vagaries of federal accounting) $164 billion to the debt of the government to the public, raising it to some $3600 billion, or $3.6 trillion.

But so what? We are told over and over again that this is terrible because we are leaving this huge debt to our children and grandchildren. That debt of $3.6 trillion is composed of savings bonds, Treasury bills, notes and bonds held overwhelmingly by the American public. If they are not “paid off,” and they almost certainly will not be, they will be the assets of our children and grandchildren. And as Abraham Lincoln said in 1864, with apparently undue optimism with regard to public understanding, “The great advantage of citizens being creditors as well as debtors, with relation to the public debt, is obvious. Men can readily perceive that they cannot be much oppressed by a debt which they owe to themselves.” As Lincoln referred to the debt, “Held as it is, for the most part, by our own people, it has become a substantial branch of national, though private property.” If we were somehow to eliminate it today we would be taking away from the American people some $3 trillion of their savings, whether held by them as individuals or indirectly by their pension funds, insurance companies, banks and businesses.

The effect of deficits, in fact, is to make the public spend more, partly because they can and do spend a major portion of that difference between what the government gives them by its spending and what it takes from them in its taxes. And that accumulated debt also induces more spending by making people feel richer.

Is this bad? Generally not. The more people spend, the more business sells and hence the more it produces. And to produce more, business generally has to hire more workers, thus reducing unemployment.

Can deficits be too large? Yes, but essentially only when we are really at full employment. Increased deficits then cannot increase employment because no additional workers are available. Hence they also cannot bring about an increase in production; the increased spending from the deficits can only raise prices–inflation. But the fact is that despite an official measure of unemployment now down to 5.5 percent, as against the 7.4 percent of 1992, we still are a long way from the 3.5 percent range of the Vietnam War or the 1.2 percent of World War II or the 4 percent that is still the official full-employment target proclaimed in the Humphrey-Hawkins Act of 1978.

The curious thing is that, despite all the political furor, if the deficit and debt ever were a problem, they are much less of one now. This is partly due to the deficit-reducing measures already undertaken by the Clinton Administration but, in a major way, simply to the shape of the American economy. For when our gross domestic product–or national income–and business profits are up, tax revenues are higher. And when, along with that, unemployment is down, outlays for unemployment benefits and “welfare payments” such as food stamps are down. Indeed, it has been estimated by the Congressional Budget Office that each percentage point reduction of unemployment reduces the deficit by some $50 billion.

But deficit and debt, like everything else, have to be looked at in relation to the size of the economy. If a household owes $60,000 on its mortgage when its income is $60,000, its debt burden is surely less than if it owes $50,000 with an income of $30,000. And so it is for the nation. Our deficit in 1995 is 2.3 percent of G.D.P., compared with 4.9 percent in 1992. And more relevant, our debt is rising–as it must as long as we have any deficit–but the ratio of our debt of $3.6 trillion to our G.D.P. of about $7 trillion, just over 50 percent, is coming down. The deficit is so small that the debt is growing less rapidly than our G.D.P. In that relevant sense, we are already in balance or actually in surplus.

The debt-G.D.P. ratio was well over 100 percent at the end of World War II, ushering in an era of prosperity and growth. We should perhaps be worried that the current ratio of only 51 percent is now coming down. By reducing our spending that decline may slow the economy or even usher in a recession. And this would deal a body blow to private investment and the provision for our future–and that of our children and grandchildren.

Some contend that reducing deficits, let alone achieving a balanced budget, will lower interest rates as the government borrows less, and thus raise productive investment. Numerous economists have examined the data in rigorous fashion and find no clear relation between deficits and interest rates. What is clear is that interest rates would come down if the Federal Reserve abandoned its misguided opposition to an economy prosperous enough to lower unemployment (and in its view cause rising inflation) and stopped trying to keep them up. Reductions in deficits that forced a reduction in private consumption would be most likely to discourage private investment. Chrysler and Ford would invest less in new facilities, not more, if we stopped buying their cars.

Others maintain that our debt means taking from the poor to pay interest to the rich. But that argument is also dubious. The rich, for tax reasons, do not hold most of our government bonds, and the poor do not have enough income to pay most of our taxes.

Most conservative economists do not really care about the deficit. They advocate balanced budgets because their real desire is to cut government spending, particularly on the “social programs” they abhor. And that shows up the worst effects of deficit paranoia. It is used to justify depriving the American people of their health care, their education and all of the public investment on which their future depends.

The casualties, along with full employment, are Medicare and Medicaid; loans to college students; child care; job training and an expanded earned-income tax credit to properly end welfare as we know it and get people from public dependency to work; our public infrastructure of roads, bridges and airports; and the land, water and air by which we live and breathe.