Report | Budget Taxes and Public Investment

Competitveness and Balanced Budgets

Briefing Paper #3

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The negative macroeconomic consequences of a constitutional amendment, or similarly rigid requirements, to balance the federal budget each year are well known. Nobel Prize winning economist James Tobin summed up the dangers in 1985.

Outlawing deficits would increase economic instability. Ill-timed expenditure cuts or tax increases would make recessions worse. The natural swings of federal expenditures and tax revenues dampen business fluctuations; it is perverse policy to eliminate them. These automatic stabilizers, reinforced by discretionary counter-cyclical fiscal measures, are a major reason why cycles have been much less severe since the World War II than before. Since November 1982 tax cuts and increased outlays, mostly for defense, have fueled a brisk recovery; without those stimuli our economy might be as anemic as those of Britain, Germany, and other European countries, whose governments practice, like Herbert Hoover, fiscal austerity in hard times.’

Some policymakers, however, still harbor the misperception that budget deficits so impede a nation’ competitiveness that draconian measures to achieve zero deficits are justified. The specific fiscal policies of the recent past clearly have placed a heavy burden on the U.S. economy. As a result of this particular pattern of deficit spending, the U.S. has become the world’s leading debtor nation and therefore increasingly vulnerable to economic forces beyond its borders. But deciding on policies to work our way out of the present dilemma requires us first to separate fiscal myth from fiscal reality.


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