Paul Krugman has a nice column on the circumstances in which we should concern ourselves with deficits. The answer? These ain't them. As I've been arguing on this blog, the deficit obsession of the early-90s was a response to a very particular economic problem: High interest rates and low productivity. The theory was simple: Supply-and-demand affect the money supply as surely as they affect Dixie cups. Large deficits mean lots of government borrowing which means heavy demand for borrowed money which means the price of borrowing money -- the interest rate -- goes up. This makes it more expensive for the private sector to borrow money and invest in itself. Robert Rubin and others argued that if the government reduced its deficits, the interest rate would fall and economic growth would accelerate. They were right. Today, however, the interest rate is already as low as government policy can make it. As Krugman says, "The Fed is already keeping those rates as low as it can — virtually at zero — and won’t change that policy unless it sees signs that the economy is threatening to overheat...What about longer-term rates? These rates, which are already at a half-century low, mainly reflect expected future short-term rates. Fiscal austerity could push them even lower — but only by creating expectations that the economy would remain deeply depressed for a long time, which would reduce, not increase, private investment." In other words, interest rates are not the problem. Which means deficits aren't, either.
