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The 'crowding out' theory is quite controversial. Data has shown that fiscal consolidation (austerity) has a contractionary effect: https://www.imf.org/exter

by tcbawo 11y ago

The 'crowding out' theory is quite controversial. Data has shown that fiscal consolidation (austerity) has a contractionary effect: https://www.imf.org/external/pubs/ft/wp/2013/wp1301.pdf https://www.imf.org/external/pubs/ft/wp/2013/wp1301.pdf (conclusion on page 19). It does not follow that borrowing cheaply today reduces private spending today (expanding credit = more $ in circulation). It creates future tax obligations, but this is offset by growth in the economy. Growth happens because the government's spending is income to businesses, which increases tax revenues. As this gets spent and re-spent, it creates a virtuous cycle that expands the economy.

meric 11y ago
You're right, reducing government spending today will contract the economy today. It does not follow that borrowing cheaply today reduces private spending today Correct, it increases spending today, and reduces it in the future. The "growth in the economy" will be lost when credit must inevitably contract again. expanding credit = more $ in circulation, more goods will be consumed, less goods in market, less goods invested in the long run. Government's spending is income to businesses, which increases tax revenues. As this gets spent and re-spent and invested, it leads to over-investment for a short period of time, because businesses re-invest the income to produce goods, and the government is unable to increase their spending exponentially to consume those goods without raising taxes. The government must eventually repay the debt it has borrowed, and by forcing interest rates down to reduce its obligations, the income to the private sector from investment in government bonds is reduced. Private sector income is further reduced by expansion of taxation. The reduced income meaning less $ is available to purchase the increased goods that came from the increased government spending, causing temporary deflation that you see today. Expanding available credit to subprime borrowers is the last gasp of the economy trying to keep the expansion of credit before contraction over takes and economic decline returns to the economy[1]. So far the data works out. Labor participation dropping, private investment & private consumption going down, deflation widespread. Lower savings rate = lower long term economic growth. Keeping interest rate near zero had the effect of temporarily holding the GFC back, but is now going to cause economic malaise in the American economy.[2] [1] http://www.bloomberg.com/news/articles/2015-10-06/meet-fortress-s-new-subprime-loan-partner-on-hollywood-boulevard http://www.bloomberg.com/news/articles/2015-10-06/meet-fortr... [2] https://en.wikipedia.org/wiki/Solow–Swan_model https://en.wikipedia.org/wiki/Solow–Swan_model EDIT: tcbawo: I like to see cutting government consumption to increase government investment expenditure. I don't agree with cutting government investment either. Iceland is the only country so far to do what I'd like to see governments doing, and is the only country to have recovered to pre-2007 growth. As a reply to RobertoG: Yeah, I hope I'm wrong because what I'm saying is there's no free lunch. We'll see how long it takes U.S. economy to completely recover, I doubt it will recover for the common person within the next two to five decades, but maybe I'm wrong and there's hope.
- RobertoG 11y ago
  There is alternative views to that: https://modernmoney.wordpress.com/2010/09/20/the-myth-of-crowding-out/ https://modernmoney.wordpress.com/2010/09/20/the-myth-of-cro... Anyway, you say "businesses re-invest the income to produce goods" that is not always true as we can see at this moment. They just hoard the money. And "Private sector income is further reduced by expansion of taxation", but expansion of taxation is not necessary if the economy is not overheated and the people in charge understand what a public deficit really is.
- tcbawo 11y ago
  You could point to government programs where the initial cost paid for itself many times over: the interstate highways system, the GI Bill, telecommunications and science grants, even renewable energy investments. How much of the US's technology industry owes its start to Department of Defense funding? Also, ut's not clear what you mean by "the data works out". Deficit spending (or national debt hysteria) hardly began with the most recent financial crisis. Demographics are shifting as baby-boomers retire. The vast majority of countries that cut spending in the downturn have lost more in GDP than they gained in debt reduction. Yet, your point of view still appears to drive policy in Europe and is a factor in US policy. Let the beatings continue until morale improves...

by tcbawo 11y ago

meric 11y ago

You're right, reducing government spending today will contract the economy today. It does not follow that borrowing cheaply today reduces private spending today Correct, it increases spending today, and reduces it in the future. The "growth in the economy" will be lost when credit must inevitably contract again. expanding credit = more $ in circulation, more goods will be consumed, less goods in market, less goods invested in the long run. Government's spending is income to businesses, which increases tax revenues. As this gets spent and re-spent and invested, it leads to over-investment for a short period of time, because businesses re-invest the income to produce goods, and the government is unable to increase their spending exponentially to consume those goods without raising taxes. The government must eventually repay the debt it has borrowed, and by forcing interest rates down to reduce its obligations, the income to the private sector from investment in government bonds is reduced. Private sector income is further reduced by expansion of taxation. The reduced income meaning less $ is available to purchase the increased goods that came from the increased government spending, causing temporary deflation that you see today. Expanding available credit to subprime borrowers is the last gasp of the economy trying to keep the expansion of credit before contraction over takes and economic decline returns to the economy[1]. So far the data works out. Labor participation dropping, private investment & private consumption going down, deflation widespread. Lower savings rate = lower long term economic growth. Keeping interest rate near zero had the effect of temporarily holding the GFC back, but is now going to cause economic malaise in the American economy.[2] [1] http://www.bloomberg.com/news/articles/2015-10-06/meet-fortress-s-new-subprime-loan-partner-on-hollywood-boulevard http://www.bloomberg.com/news/articles/2015-10-06/meet-fortr... [2] https://en.wikipedia.org/wiki/Solow–Swan_model https://en.wikipedia.org/wiki/Solow–Swan_model EDIT: tcbawo: I like to see cutting government consumption to increase government investment expenditure. I don't agree with cutting government investment either. Iceland is the only country so far to do what I'd like to see governments doing, and is the only country to have recovered to pre-2007 growth. As a reply to RobertoG: Yeah, I hope I'm wrong because what I'm saying is there's no free lunch. We'll see how long it takes U.S. economy to completely recover, I doubt it will recover for the common person within the next two to five decades, but maybe I'm wrong and there's hope.

RobertoG 11y ago
There is alternative views to that: https://modernmoney.wordpress.com/2010/09/20/the-myth-of-crowding-out/ https://modernmoney.wordpress.com/2010/09/20/the-myth-of-cro... Anyway, you say "businesses re-invest the income to produce goods" that is not always true as we can see at this moment. They just hoard the money. And "Private sector income is further reduced by expansion of taxation", but expansion of taxation is not necessary if the economy is not overheated and the people in charge understand what a public deficit really is.
tcbawo 11y ago
You could point to government programs where the initial cost paid for itself many times over: the interstate highways system, the GI Bill, telecommunications and science grants, even renewable energy investments. How much of the US's technology industry owes its start to Department of Defense funding? Also, ut's not clear what you mean by "the data works out". Deficit spending (or national debt hysteria) hardly began with the most recent financial crisis. Demographics are shifting as baby-boomers retire. The vast majority of countries that cut spending in the downturn have lost more in GDP than they gained in debt reduction. Yet, your point of view still appears to drive policy in Europe and is a factor in US policy. Let the beatings continue until morale improves...