The Budget Deficit Scare Story and the Great Recession

The Budget Deficit Scare Storyand the Great Recession

Dean Baker

February 2010

Center for Economic and Policy Research

1611 Connecticut Avenue, NW, Suite 400Washington, D.C. 20009202-293-5380www.cepr.net

CEPR The Budget Deficit Scare Story and the Great Recession

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Contents

Executive Summary...........................................................................................................................................1

Introduction........................................................................................................................................................2

The Surging Deficit: Where Did It Come From?.........................................................................................3

The Longer-Term Deficit Picture...................................................................................................................7

Reducing the Budget Deficit: Who Gets Hit?.............................................................................................10

The Foreign Debt Scare Stories.....................................................................................................................12

Conclusion........................................................................................................................................................13

References.........................................................................................................................................................14

About the Author

Dean Baker is an economist and Co-Director of the Center for Economic and Policy Research in Washington, D.C.

CEPR The Budget Deficit Scare Story and the Great Recession

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Executive Summary

The country is suffering through the worst economic downturn since the Great Depression. Tens of millions of people face unemployment, underemployment and/or the loss of their homes. Theenormous suffering created by this crisis should be the main focus of economic policy. However, a well-funded public relations campaign has managed to largely push the economic crisis to the back burner and instead focus on the federal budget deficit. This anti-deficit campaign has helped toderail efforts to address the downturn, leading to an enormous amount of unnecessary suffering. This paper corrects some of the misperceptions being fostered by the anti-deficit campaign. Itpoints out that:1)

The extraordinary level of current deficits is overwhelmingly the result of the economiccrisis. There is little reality to the claim that Congress is out of control in its tax and spending policies.2)

The budget deficit does not pose an economic problem at present. If the budget deficit weresmaller, we would simply be seeing higher unemployment. There would be no short-term orlong-term benefit from reducing the current deficit.3)

The size of the longer-term deficit problem has been both exaggerated and misrepresented.Projections show that debt-to-GDP ratios will be well within manageable levels at least adecade into the future, even if there are no major changes from baseline scenarios. As along-term issue, the United States must fix its broken health care system.4)

The wealth of near-retirees has been devastated by the collapse of the housing bubble andthe plunge in the stock market. Any substantial reduction in Social Security or Medicarebenefits will likely leave large segments of middle-income workers with near-poverty levelincomes in retirement.5)

Concerns about foreign ownership of the government debt are offensive jingoism. There isan issue about foreign indebtedness because this implies that an increased portion of futureoutput will be paid out as interest and/or dividends to foreigners rather than being availablefor domestic consumption. However, this is driven by the trade deficit, not the budgetdeficit. The trade deficit, in turn, is attributable to the over-valuation of the dollar.