April 18, 2014

Deficit Reduction and the Economy

  • The national debt has grown significantly in recent years due to rising annual deficits. A deficit occurs in any year the government spends more...

An economically "sustainable" debt is one that does not rise faster than our means to ultimately pay it off.  So federal deficits as a share of our economy should ideally be no larger than the economy’s growth rate.

We must focus on two sides of the "sustainability equation," explains Diane Lim Rogers, chief economist for The Concord Coalition, in her latest column in the Christian Science Monitor.  We need to be mindful not just of what proposed spending cuts or tax increases would do to immediately reduce the deficit, but of what they would do to the economy – which in turn has a feedback effect on the deficit.

In the short term, while the economy is still recovering from recession, we should avoid cutting back too quickly or too much on high "bang per buck" spending — such as money for unemployment benefits or other safety-net programs. We should instead target current spending or tax cuts that are less effective in stimulating demand for goods and services — such as those that disproportionately benefit certain industries and  higher-income households.

As for the longer term, we should consider that some revenue increases and spending cuts are more supportive of supply-side growth than others.  For example, raising revenue by broadening the tax base (paring back “tax expenditures”) reduces the distortionary effects of the tax system on economic decisions. Increases in marginal tax rates, on the other hand, discourage labor supply and saving.