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Strategies & Market Trends : US Economic Trend Analysis

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From: gpowell	12/17/2005 3:31:59 PM
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Interesting government debt discussion on a thread starting here: Message 21972170 The concerns over covering government expenditures through borrowing verses tax receipts are completely unfounded. While total government expenditures are an important determinant of overall economic health, how that expenditure is financed is of secondary, or no concern depending upon whether the concept of Ricardian Equivalence holds. Reference: en.wikipedia.org Succinctly, Ricardian Equivalence states that, given government purchases, the precise scheduling of taxes does not matter; if the government reduces taxes today without changing its expenditures, it borrows today and will raise taxes tomorrow. For the private sector, this means more net-of-tax income today and less tomorrow. As long as the public and private sectors borrow and lend at the same rate, these intertemporal shifts are equivalent and the public borrowing can be matched one for one by private saving. Ricardian Equivalence implies that classic Keynesian counter-cyclical fiscal policy will be ineffective and is one of the many reasons why counter-cyclical monetary policy is the preferred method of economic control today. As an aside, Keynesian’s believe that economic agents suffer from bond illusion, i.e. that agents feel wealthier when government issues debt to finance expenditure verses raising taxes (under Ricardian equivalence agents do not suffer from bond illusion) What is ironic is that the arguments by the debt alarmist in the above linked thread are essentially Keynesian in that they believe agents are in a “feel good” bond illusion frame of mind and that the level of debt is unsustainable so the piper must eventually be paid. One point consistent with Ricardian equivalence that the anti-alarmist are making is that as long as government expenditure is on socially necessary projects that the method of finance is of secondary concern. Another point not consistent with ricardian equivalence is that borrowing may actually be a superior form of government finance and that will be a topic of another post. The bottom line is that the alarmists of that thread are wasting a lot of time and energy on a non-issue.

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