In times like these, when politics are on the tip of many Americans’ tongues, the topic of fiscal responsibility often comes up. I’m largely ignorant of the mechanics of economics, but I understand that basic concept that deficits are bad.
In an effort to understand why a deficit is bad, can someone please educate me on what would happen to me if there was no deficit. My WAG is that it would mean a reduction in the interest rates on loans (although I can’t particularly explain why), and I suppose income tax rates would go down.
Is that correct? Would there be any other benefits? Would there be any negatives (perhaps the return on government bonds would be reduced or eliminated)? Thanks to all who reply.
Well, for one thing we wouldn’t be spending billions of dollars of our tax dollars on servicing that debt. The bonds you allude to are the national debt, the interest paid on them is paid for by our tax dollars. When you but gov’t bonds, (or China does) you’re financing our government debt. Less debt=less tax dollars spent on interest therefore more to spend on programs, or if you like, lower taxes.
One of the main benefits would be that the government wouldn’t have to spend so much money paying the debt interest. From Wikipedia: Net interest on the U.S. national debt was approximately $240 billion in fiscal years 2007 and 2008. This represented approximately 9.5% of government receipts. Interest was the fourth largest single disbursement category, after defense, Social Security, and Medicare.
Another thing to consider is that the deficit includes not only debts to foreign nations but also internal debts, such as social security. Eliminating the deficit would make the continued existence of those government programs a lot more secure.
Of course, I’m sure our government would waste no time burying us in debt again.
It would depend on how it got eliminated. The obvious way would be to seize all your (and everyone else’s) assets, wait for you to rebuild them, and then seize them again. My guess is that riots and misery would ensue.
Supply and demand. Interest rates on loans represent the price a borrower has to pay for the product he or she needs (a loan). If there is more demand for something, the price will (all things being equal) go up; this applies to money just as it does to oil or widgets. The federal government running a large deficit represents a major increase in the demand for loans, which drives up the price of them (interest rates). Converely, if the federal government stopped running deficits entirely, this would be a major reduction in the demand for loans, and the price would go down. (Imagine if the postal service, the Department of Defense, and all other federal government branches and agencies somehow stopped using internal combustion engines; the price of oil would surely drop.)
Lower interest rates are good for borrowers; the flip side is that savers (people with CDs or bank accounts) get less money–in high-demand, high-interest periods, the banks have to pass some of the profits on to the people with the money to deposit in order to induce them to provide the capital the bank then re-loans (instead of going to the bank down the street with the higher rates to open that CD or savings account).
Besides the positive effect of reducing the government payments on interest on the debt, there are possible negative effects. The economy is growing (perhaps not at the moment, but in general). The total supply of money, of which cash is a small part, is representative of the economy. Without a debt mechanism in place (the gov’t sells bonds) it is not clear how the federal government would create money to maintain the relationship between the money supply and the economy. If they get that wrong, in either direction, we have inflation (too much money) or deflation (not enough money). Check out what happened in Japan to see some of the negative effects of deflation. [Japan certainly didn’t accomplish deflation by eliminating their national debt-far from it-but they did suffer deflation and one can see the effects of that process in their economy]
The economy is a running machine and if you tinker with one part, you have to be careful.
BTW, I am not saying that running a deficit is the only way to create money, just that it is the current method. New ways to create money can be devised, but when that is done, new potential problems arise.
Anecdotal discussion between two freshman congressmen of opposing parties. Discussing the tax rate, the Democrat said “Let’s say the tax rate was 100%. In two years, we could eliminate the national debt!” To which the Republican replied “What makes you think we’d be beck for a second year?”
not to hijack the thread, but if the US collected all of the debts we are owed in loans to foreign countries, war reparations, etc. how much would that be?
