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Government deficits and debt: deja vu

GB Geo-Blog

Government deficits and debt: deja vu

The Neo-Cons are back! They are using the crisis in Greece and the large budget deficits of many countries, the U.S. and the U.K. in particular, to renew their demands for fiscal responsibility or else. Every day another market “pundit” or two warn about the impending financial and economic apocalypse if governments do not get their fiscal houses in order and soon. And more and more journalists are jumping on this bandwagon.

The Institute of International Finance’s market monitoring group said in a statement released yesterday: “Countries such as the U.K. and the U.S. should move swiftly to articulate clear and convincing medium-term plans for fiscal adjustment, with careful co-ordination to avoid undermining global economic growth. (The Institute of International Finance is an organization that represents hundreds of banks around the world.)

For me, the dire predictions about countries hitting a debt wall are deja vu all over again. In the latter half of the 1980s, there were an increasing number of warnings and predictions that Canada was about to hit the debt wall if the federal government did not bring its “massive” $30+ billion deficit under control. Each year, the Finance Minister in the Mulroney Government set out a plan to eliminate the deficit within a three to four year time span. Yet, the deficits remained locked in at over $30 billion. (So much for a “clear and convincing” plan.)

Canada did not hit the debt wall. And it took a Liberal Government to eliminate the deficit. A combination of higher tax rates, sharp cutbacks in transfers to the provinces and the good fortune of high and sustained rates of growth, largely as a result of the spillover from the U.S., did the trick.

As I argued then against the fallacy of a debt wall for Canada, the real intent of the Neo-Cons, who were at the forefront of the warnings, was to reduce the size and role of government. For them. deficit reduction should only result from cuts in government spending. Once the deficit was eliminated, the Neo-Cons, as I predicted, began to demand tax cuts to stimulate growth, and this in turn would necessitate further cuts in government spending.

Nothing has changed in over 20 years, except the examples used.

It was only 18-20 months ago that the Neo-Cons essentially went into hiding as financial markets and economies teetered on collapse. Many government budgets began to bleed profusely as a result of the recession. The Neo-Cons had no solutions to offer, at least any that made some sense.

Were it not for the massive fiscal and monetary interventions, the global economy would have fallen off the cliff into a depression. The fiscal stimuli introduced by most governments helped turn around their economies, but also added substantially to their growing budget deficits.

So here we are, and two fundamental issues seem to have gotten lost in the media and market hysteria. These are the same two issues that existed, but were never resolved in the 1980s when Canada was the poster child for fiscal mismanagement.

The first: how quickly should governments try to reduce their deficits? We know how to do this – tax increases and spending cuts. But with economic recovery still in its early stages and far from robust, dramatic actions to reduce deficits risk throwing the recovery into reverse; indeed, back into a recession. This would exacerbate the problems faced by governments in trying to reduce their deficits, not to mention the harm it would cause for millions of people who would lose their jobs.

Timing is critical, and the Neo-Cons do not have an answer.

The second: what programs should governments be funding and at what levels? In effect, how large should governments be? Should they move in the direction of the Scandinavian countries? Or should they be continually downsizing? We know where the Neo-Cons stand, but even they have not spelled out exactly what governments should be doing.

Thus, we should turn down the volume of the hysteria, and begin to focus on these two issues.

The opinions expressed in this blog are personal and do not reflect the views of either Global Brief or the Glendon School of Public and International Affairs.


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