Deficit-Reduction Plans: A Lot of Pain That May Add Up to No Gain

No gain without pain! That’s what we are told by the deficit hawks. Sen. Bob Kerrey (D-Neb.) pushes formation of a national commission devoted to curbing “entitlements.” Warren Rudman, Paul Tsongas and Peter Peterson of the Concord Coalition offer a variety of cuts in their “zero deficit” plan.

All this is presented as responsible sacrifice today in order to live better tomorrow. Is it that--or pointless, harmful sacrifice that will hurt us now and in the future?

Replacing wasteful government expenditures with productive investment would be fine. Further deficit reduction in itself, though, is likely to hurt many--the elderly on Social Security, government workers or those on government contracts, affected taxpayers.

The deficit hawks say: Yes, it is bitter medicine, made necessary by years of irresponsible behavior. But it will make us well, along with our currently debt-laden children.

One of their arguments is that the debt we incur today will have to be paid off by our children. The simple fallacy in this is that if our children pay off the debt, they will be paying it off to-- our children. The federal debt “held by the public”--today some $3.3 trillion--is owned overwhelmingly by Americans. It is not a “national debt.” It is a debt owed by the federal government to the American people.

An economically more sensible argument on the hawks’ part is that private saving is being used to finance government deficits, rather than private investment. Thus, they say, we are depriving ourselves of the new factories, machinery and housing on which our future well-being depends.

But suppose deficit reduction means holding back on public investment? Suppose it means curbing expenditures to improve the education and training of our young for productive jobs, to put more police on the beat to prevent crime, to repair and build public infrastructure, to finance basic research and new technology? Will such deficit reduction leave us better off in the future--or worse? Should we not repair the Los Angeles freeways knocked out in the earthquake, as Senate Minority Leader Bob Dole seems to suggest, if that would add to the deficit?

No, the sensible deficit hawks would tell us, we just want to cut government payrolls and “entitlements” (read Social Security) and raise taxes. That would force those affected to cut their consumption and, thereby, leave more resources for private investment.

But will those resources be so redirected?

If lower Social Security benefits, higher taxes and the loss of jobs--either in government or in private firms with government contracts--lead some of us to forgo buying new cars, will that lead General Motors to invest more money in new facilities? Or isn’t GM likely to invest less?

These are the facts: Budget deficits rise as the economy declines; the Treasury collects less in revenues and lays out more for unemployment benefits. Suppose we then reduce the deficit by cutting outlays or raising taxes. As the reductions curb public investment and force households to reduce consumption--thereby depressing private investment as well--they will be dealing our future and our children’s a double whammy!

What does this say for our current situation?

The 1993 deficit, forecast at $327 billion by the Bush Administration just before it left office, actually came in at $255 billion. The shrinkage was due largely to an improved economy and lower interest payments by the Treasury. Reductions in the underlying, structural deficit--included in the vast Clinton deficit-reduction program of $500 billion over five years--are yet largely in the future.

There is considerable danger that the burden of these deficit reductions gradually will crush the recovery that finally seems to be gathering speed. That would deliver a body blow to private investment, a blow that lower interest rates could deflect only partially at best. And curbs on government spending will mean that public investment is held back as well.

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Deficits can be too large, if they induce so much spending that they bring inflation--hardly the situation now. But they can be too small, too, if they fail to contribute the purchasing power necessary to keep the economy prosperous.

There is a useful rule of thumb for the deficit, not all that different from one for private borrowing: Keep your debt from growing faster than your income. For the federal government, this would mean a debt growing no faster than the usual growth rate of the national income--about 6%. The current debt of $3.3 trillion could grow about $200 billion.

And, if unemployment falls one more percentage point, the deficit will be just that--without any of the further reductions in the Clinton program.

Yet the deficit hawks insist that we must look for still more deficit reduction. We must reduce our deficit, they say, to zero. Adopt a “balanced budget amendment,” some of them tell us, to enshrine this perverse economics in the Constitution.

We would suffer as we took this medicine. We would suffer for years into the future. For banging our heads against the wall as a sacrifice to old dogmas, we would have a headache for a long, long time.