The Fiscal Austerity Trap: How Budget Deficit Hysteria Risks Sabotaging Growth & Creating Self-Fulfilling Budget Difficulties Thomas Palley New America.

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Presentation transcript:

The Fiscal Austerity Trap: How Budget Deficit Hysteria Risks Sabotaging Growth & Creating Self-Fulfilling Budget Difficulties Thomas Palley New America Foundation

Introduction Return of fiscal austerity agenda = case of Déjà vu all over again. Wrong economic agenda. Wrong political agenda.

Why We Need Sustained Deficit Financed Fiscal Policy - 1 (1) Keynesian stimulus to fight the recession. (2) Help private sector deleveraging. (3) Spur economic growth.

Figure 1. The virtuous circle linking growth and deficit financed public investment. Growth Deficit financed public investment Fiscal space + + +

What is a Sustainable Deficit? Sustainable deficit keeps steady debt/GDP ratio. (1) With growth of 2.5% & debt/GDP ratio of 100% sustainable deficit = 2.5% of GDP. (2) If real interest rate = 2% implies interest service burden of 4%.

Is Our Current Budget Situation Sustainable? Table 1. Projected annual average budget deficit as a percent of GDP, 2009 –2050. (Source: Kogan et al., 2008) Annual average deficit/GDP -4.2% Letting Bush-Cheney 2001 & 2003 tax cuts expire in % = -2.3% Holding health care cost growth equal to per capita GDP growth +3.0% = +0.7%

Conclusion - 1 Fiscal austerity based on flawed economic analysis & is not supported by the numbers. Need budget deficits to: (1) Fight recession. (2) Help private sector deleverage (3) Spur growth via Public Inv.

Conclusion - 2 Fiscal austerity will do triple damage: 1)Risk economic stagnation & sub-par growth. 2)Make economic reform more difficult. 3)Uses budget deficit as Trojan Horse to justify an assault on vital public programs – especially Social Security.