Deficits

A RESPONSE: It isn't enough to trust government promises

Posted on Thursday, February 17, 2011

BRAD DELONG clearly has faith in official projections to a much greater degree than I do. Perhaps I have a jaundiced UK perspective and don't fully understand what happens in the US. By way of example, however, I offer exhibit A, which shows medium term projections for the UK's fiscal position made by the UK government in successive budgets over the last decade.

The starting point in most years is worse than in previous years yet the end point remains more or less the same. Understandably, the pace of deterioration was a lot worse following the onset of the financial crisis but the general point still holds: medium term promises have simply not been met. The budgetary projections were not worth the paper they were written on: they merely sustained a pretence that, over the medium term, the numbers would add up.
So it's not good enough simply to offer a series of official projections to support a particular view. In the UK's case, the big surprise was, initially, a lack of revenue for a given amount of economic activity and, later on, a persistent desire to re-define the economic cycle in an attempt to balance the books, even before the crisis took hold. For the US, a big danger today is a straightforward lack of growth, not because there isn't enough stimulus but, instead, because the growth rate of productive potential has been slowing over time (and, during the credit boom, was probably overstated as the economy thrived on securitised "funny money"). Laurence Kotlikoff's comment offers plenty more dangers.
And it's funny how confident people still are in the continued generosity of foreign investors. Is this just wishful thinking for those who think deficits can continually increase? Professor DeLong claims that "today there are no signs of any possibility of a collapse of foreign investor confidence in their US Treasury holdings". But we're no longer talking about millions upon millions of private investors and their daily behaviour. What matters is a mere handful of state investors whose policies can surely change at a flick of a switch. As Vladimir Putin noted in Davos in 2008, "excessive dependence on a single reserve currency is dangerous for the world economy...it is important that reserve currency issuers must implement more open monetary policies...these nations must pledge to abide by internationally recognised rules of macroeconomic and financial discipline". Many people outside the US would say that Washington is doing nothing of the sort.
Stephen King, THE ECONOMIST



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