Government deficit spending is a central point of controversy in economics, with prominent economists holding differing views. The
mainstream economics position is that deficit spending is desirable and necessary as part of
countercyclical fiscal policy, but that there should not be a
structural deficit (i.e., permanent deficit): The government should run deficits during
recessions to compensate for the shortfall in
aggregate demand, but should run surpluses in boom times so that there is no net deficit over an
economic cycle (i.e., only run
cyclical deficits and not structural deficits). This is derived from
Keynesian economics, and gained acceptance during the period between the
Great Depression in the 1930s and
post-WWII in the 1950s. This position is attacked from both sides: Advocates of federal-level
fiscal conservatism argue that deficit spending is always bad policy, while some
post-Keynesian economists—particularly
neo-chartalists or proponents of
Modern Monetary Theory—argue that deficit spending is necessary for the issuance of new money, and not only for fiscal stimulus. According to most economists, during recessions, the government can stimulate the economy by intentionally running a deficit. The deficit spending requested by
John Maynard Keynes for overcoming crises is the monetary side of his economy theory. As investment equates to real saving, money assets that build up are equivalent to debt capacity. Therefore, the excess saving of money in time of crisis should correspond to increased levels of
borrowing, as this generally doesn't happen - the result is intensification of the crisis, as revenues from which money could be saved decline while a higher level of debt is needed to compensate for the collapsing revenues. The state's deficit enables a correspondent buildup of money assets for the
private sector and prevents the breakdown of the economy, preventing private money savings to be run down by private debt. The monetary mechanism describing how revenue surpluses enforce corresponding expense surpluses, and how these in turn lead to economic breakdown was explained by
Wolfgang Stützel much later by the means of his
Balances Mechanics.
William Vickrey, awarded the 1996 Nobel Memorial Prize in Economic Sciences, identified deficits being viewed as profligate spending as his #1 fallacy of Financial Fundamentalism when he commented:
Fiscal conservatism Advocates of
fiscal conservatism reject Keynesianism by arguing that government should
always run a
balanced budget (and a surplus to pay down any outstanding debt), and that deficit spending is
always bad policy. The
neoclassical-inclined
Chicago school of economics has supported fiscal conservative ideas. Numerous states of the United States have a
balanced budget amendment to their state constitution, and the
Stability and Growth Pact of the
European Monetary Union punishes government deficits of 3% of GDP or greater. Proponents of fiscal conservatism date back to
Adam Smith, founder of modern economics. Fiscal conservatism was the dominant position until the Great Depression, associated with the
gold standard and expressed in the now outdated
Treasury View that government fiscal policy is ineffective. The usual argument against deficit spending is the
Government-Household analogy:
households should not run deficits—one should have money before one spends it, from prudence—and that what is correct for a household is correct for a nation and its government. A similar argument is that deficit spending today will require increased taxation in the future, thus burdening future generations. (See
generational accounting for discussion.) Others argue that because debt is both owed
by and owed
to private individuals, there is no
net debt burden of government debt, just wealth transfer (redistribution) from those who owe debt (government, backed by tax payers) to those who hold debt (holders of government bonds). A related line of argument, associated with the
Austrian school of economics, is that government deficits are
inflationary. Anything other than mild or moderate inflation is generally accepted in economics to be a bad thing. In practice this is argued to be because governments pay off debts by printing money, increasing the money supply and creating inflation, and is taken further by some as an argument against fiat money and in favor of
hard money, especially the gold standard.
Post-Keynesian economics Some Post-Keynesian economists argue that deficit spending is
necessary, either to create the money supply (Chartalism) or to satisfy demand for savings in excess of what can be satisfied by private investment.
Chartalists argue that deficit spending is logically necessary because, in their view,
fiat money is
created by deficit spending: fiat money cannot be collected in taxes before it is issued
and spent; the amount of fiat money in circulation is exactly the
government debt—money spent but not collected in taxes. In a quip, "fiat money governments are 'spend and tax', not '
tax and spend'"—deficit spending comes first. Chartalists argue that nations are fundamentally different from households. Governments in a fiat money system which only have debt in their own currency can issue other liabilities, their fiat money, to pay off their interest bearing bond debt. They cannot go bankrupt involuntarily because this fiat money is what is used in their economy to settle debts, while household liabilities are not so used. This view is summarized as: Continuing in this vein, Chartalists argue that a structural deficit is
necessary for
monetary expansion in an expanding economy: if the economy grows, the money supply should as well, which should be accomplished by government deficit spending. Private sector savings are equal to government sector deficits, to the penny. In the absence of sufficient deficit spending, money supply can increase by increasing
financial leverage in the economy—the amount of
bank money grows, while the
base money supply remains unchanged or grows at a slower rate, and thus the ratio (leverage = credit/base) increases—which can lead to a
credit bubble and a
financial crisis. Chartalism is a small minority view in economics; while it has had advocates over the years, and influenced Keynes, who specifically credited it, a notable proponent was Ukrainian-American economist
Abba P. Lerner, who founded the school of
Neo-Chartalism, and advocated deficit spending in his theory of
functional finance. A contemporary center of Neo-Chartalism is the
Kansas City School of economics. Chartalists, like other Keynesians, accept the
paradox of thrift, which argues that identifying behavior of individual households and the nation as a whole commits the
fallacy of composition; while the paradox of thrift (and thus deficit spending for fiscal stimulus) is widely accepted in economics, the Chartalist form is not. An alternative argument for the necessity of deficits was given by U.S. economist
William Vickrey, who argued that deficits were necessary to satisfy demand for savings in excess of what can be satisfied by private investment. ==Government deficits==