Skip to main content

On Volcker and Peterson's debt problem


In their recent NYTimes op-ed Paul Volcker and Peter Peterson say:
Yes, this country can handle the nearly $600 billion federal deficit estimated for 2016. But the deficit has grown sharply this year, and will keep the national debt at about 75 percent of the gross domestic product, a ratio not seen since 1950, after the budget ballooned during World War II.
The practical consequence of large deficits and debts, according to them is that:
Our current debt may be manageable at a time of unprecedentedly low interest rates. But if we let our debt grow, and interest rates normalize, the interest burden alone would choke our budget and squeeze out other essential spending. There would be no room for the infrastructure programs and the defense rebuilding that today have wide support. 
It’s not just federal spending that would be squeezed. The projected rise in federal deficits would compete for funds in our capital markets and far outrun the private sector’s capacity to save, to finance industry and home purchases, and to invest abroad.
In other words, large deficits and debt will compete with funds for other activities, the savings glut which a good chunk of the profession thinks causes low interest rates will vanish, and this, in turn, will increase interest rates, which not only will increase the interest rate burden, but also will reduce the fiscal space to spend on things we agree are fine, like infrastructure.

What should we do according to them? No surprise here, cut social spending. In their words: "A realistic approach toward the major entitlement programs is required, given that they are projected to account for all of the growth of future noninterest spending." They fall short of asking for privatization of Social Security, but you can bet that this is what they are going to push for in a Clinton administration. To finish the work they started in the previous Clintocracy (the system of government in which a Clinton holds power).

I discussed fiscal issues several times here, and the problem in their argument is with basic principles really. Below Gross Federal Debt, which stands at slightly more than 100% of GDP, and once the amounts of public held by the Fed and in the Social Security Trust Fund and other government accounts are accounted for, then this leaves us with the Net debt of about the size reported by Volcker and Peterson in their piece.


Looking at the figure you might be alarmed. It has increased significantly after the last crisis. However, there are important elements that suggest that the increase in public debt is not problematic. First of all, as noted by Dean Baker, the burden of debt service (interest payments) is tiny. And will most likely remain low, since the space for normalization of interest rates is much smaller than what Volcker and Peterson suggest. The idea that government spending will grow out of line with the ability to finance it (which has little to do with the "private's sector capacity to save," btw) is difficult to believe too. Note that government spending has been subdued as the graph below shows.


Government spending in real terms remains below the pre-crisis level, and after the fiscal package, Obama has essentially followed the Clintonomics rule book of fiscal conservatism. If anything spending is kind of small, for the needs of the economy (I would say spending, and not deficits, since the result is endogenous, but I agree in general terms with the argument here). There is no problem of runaway government spending, and certainly no danger, as Volcker and Peterson suggest that "we would risk returning with a vengeance to stagflation — the ugly combination of inflation and economic stagnation that we tasted in the 1970s" if we do not cut social spending. This is the old trick of creating fear of a fake fiscal crisis to force cuts on spending for social programs.

My fear is that Volcker and Peterson, and others like them, will have an outsized influence on a Clinton administration. The danger is not the high inflation of the 1970s, but the completion of the neoliberal project of the 1990s.

Comments

Popular posts from this blog

A few brief comments on Brexit and the postmortem of the European Union

Another end of the world is possible
There will be a lot of postmortems for the European Union (EU) after Brexit. Many will suggest that this was a victory against the neoliberal policies of the European Union. See, for example, the first three paragraphs of Paul Mason's column here. And it is true, large contingents of working class people, that have suffered with 'free-market' economics, voted for leaving the union. The union, rightly or wrongly, has been seen as undemocratic and responsible for the economics woes of Europe.

The problem is that while it is true that the EU leaders have been part of the problem and have pursued the neoliberal policies within the framework of the union, sometimes with treaties like the Fiscal Compact, it is far from clear that Brexit and the possible demise of the union, if the fever spreads to France, Germany and other countries with their populations demanding their own referenda, will lead to the abandonment of neoliberal policies. Aust…

A brief note on Venezuela and the turn to the right in Latin America

So besides the coup in Brazil (which was all but confirmed by the last revelations, if you had any doubts), and the electoral victory of Macri in Argentina, the crisis in Venezuela is reaching a critical level, and it would not be surprising if the Maduro administration is recalled, even though right now the referendum is not scheduled yet.

The economy in Venezuela has collapsed (GDP has fallen by about 14% or so in the last two years), inflation has accelerated (to three digit levels; 450% or so according to the IMF), there are shortages of essential goods, recurrent energy blackouts, and all of these aggravated by persistent violence. Contrary to what the press suggests, these events are not new or specific to left of center governments. Similar events occurred in the late 1980s, in the infamous Caracazo, when the fall in oil prices caused an external crisis, inflation, and food shortages, which eventually, after the announcement of a neoliberal economic package that included the i…

What is the 'Classical Dichotomy'?