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America’s Four Deficits

August 3rd, 2008 . by economistmom

Here’s something I wrote for the new-and-improved Concord Coalition website (check it out, although we’ve still got some immediate updating we’re working on)…this is for the “policy discussion” to support our I.O.U.S.A. (the movie) page.  This describes the “four deficits” that the movie is organized around:

America’s Four Deficits

The movie I.O.U.S.A. is organized around the “four deficits” that David Walker first spoke of while he was Comptroller General of the United States.  In a speech before the U.S. Naval Academy in March of 2007, Walker explained the interrelationship of these deficits-that “[t]ogether, these deficits have serious implications for our future role in the world, our future standard of living, our future domestic tranquility, and even our future national security.”  These deficits are:

  • The Federal Budget Deficit: The U.S. federal government has been living beyond its means, spending more on public goods and services than it collects in tax revenues-the difference being the budget deficit. Although fiscal discipline coupled with a strong economy brought a return to surpluses in the late 1990s, since 2001 the fiscal outlook has deteriorated dramatically, and the federal debt-the cumulative sum of annual deficits since the start of our government-has increased by trillions of dollars. While the recent budget deficits are the result of a combination of extravagant tax cuts, a costly war, lack of effective budget controls, and a relatively weaker economy, the much larger budget deficits projected in the decades ahead are largely explained by a growth in entitlement spending that will outpace the natural growth in tax revenues, due to demographic changes (a swelling in the numbers of older Americans relative to younger Americans) coupled with rising per-capita health costs. Budget deficits are like the government’s “credit card”. They threaten future standards of living because the borrowed money must eventually be repaid, with interest, in the form of higher taxes or reduced government services-there is no such thing as a free tax cut or a free government program. In the meantime, today’s budget deficits represent negative public saving that directly subtracts from our national saving-and hence the size and strength of the U.S. economy going forward.
  • The Savings Deficit: American households have been living beyond their means, too, with a personal saving rate (the difference between household income and household spending, as a share of income) that has been declining steadily since the early 1980s and has hovered right around zero (staying at less than one percent) since 2004. Easy credit offered by an under-regulated financial industry, recently stagnating real wages, and the “consumerism” endemic to American culture, may explain the trend. The problem is the near-sightedness inherent in such “deficit-financed” household budgeting, when families eventually find themselves lacking adequate resources for the costs of their children’s college educations, the care of their elderly parents, and their own retirements. The U.S.’s very low personal saving rate has been another factor that has kept the national saving rate, and growth in the economy, lower than it should be.
  • The Trade Deficit: The U.S. government and American households have been able to live beyond their means because there are other nations who have lived far within their means. The U.S. buys more goods and services from other countries than it produces and sells to other countries, which is what is usually labeled the “trade deficit.” (The slightly broader concept of the “current account deficit” adds to the trade deficit the difference between the income the U.S. earns on its assets abroad and what the U.S. pays on its foreign-owned liabilities.) A global economy has allowed the U.S. to consume more than it produces, and to spend more than we earn, both of which allow an immediately higher standard of living, but at the price of accumulated debts to those countries on the other side of those transactions (this is the origin of Warren Buffett’s “Squanderville” and “Thriftsville” parable). The federal budget deficit has likely contributed to the trade deficit by providing an expansionary fiscal policy that has encouraged personal consumption and demand for imports; the budget deficit has also increased the demand for capital (credit), putting upward pressure on interest rates and the value of the dollar (which reduces the trade balance). The steady supply of capital from foreign investors to the U.S. has prevented U.S. interest rates from otherwise more steeply rising with our budget deficits and consumer loans. But our reliance on that foreign capital comes at the price of increased indebtedness to those foreign investors. When future generations of Americans are eventually paying back the bills that come due, most of the dollars will flow out of the U.S. rather than to other Americans-another factor that jeopardizes our future standards of living.
  • The Leadership Deficit: Our leaders in the public and private sectors of the U.S. economy have allowed the other three deficits to emerge because they are viewed as the easy and personally profitable courses to take. In the public sector, politicians are encouraged to propose fiscally irresponsible policies-proposing what only sounds like free tax cuts or free public spending-in order to “profit” in their elections. Campaigning on fiscally-responsible tax increases or spending cuts seems like political suicide. In the private sector, business leaders seeking financial profit have been all too willing to lure consumers into getting into an indebtedness that they cannot afford. Only a change in public opinion-with ordinary Americans holding their leaders accountable-can persuade America’s leaders to “do the right (fiscal) thing” by aligning the “personal profit” motives with policies that are good for our nation as a whole.

These four deficits are interrelated and should matter to all Americans.  Economically, these deficits matter because reduced national saving jeopardizes the future strength of the U.S. economy and standards of living.  Ethically, these deficits matter because they result from choices made by current generations that involve large costs spread over future generations–Americans who as of yet have no political voice, except through their parents and grandparents.

Now don’t get me wrong; I do agree with Congressman David Obey (Chairman of the House Appropriations Committee) that there are other deficits that our nation needs to worry about as well.  I’ll try to follow up on that tomorrow (Monday).

Addendum:  Thanks to “johnchx” for pointing out that there are many ways to define personal saving.  Here is a link to a Bureau of Economic Analysis article on that issue, if you’re interested in understanding how the BEA measures it as well as how BEA’s measure differs from the Federal Reserve’s Flow of Funds measure.

8 Responses to “America’s Four Deficits”

  1. comment number 1 by: johnchx

    personal saving rate (the difference between household income and household spending, as a share of income)

    This definition — as I’m sure you know — is subtly incorrect. The personal savings rate is based on the difference between personal income and personal consumption expenditures. I’d suggest that the “income minus spending” formulation leads to all kinds of confusions (”is spending on stock savings? is spending to buy a house negative savings?”).

  2. comment number 2 by: economistmom

    johnchx: Yes, you’re right…certain types of “spending” on assets/durable goods are not counted as “consumption” (but rather “saving”), and other types are, depending on the measures and who’s measuring. I was using “household spending” as a shorthand, plainer-English term for “personal outlays” (which include “personal consumption expenditures”)… The technical distinction between these measures can be found in this “investopedia” page: as well as on the BEA website (linked through that page). If you want to really get into the different ways we measure personal saving, here is a good BEA article: February/0207_saving.pdf

  3. comment number 3 by: economistmom

    I don’t know why I can’t get that last link to copy right… I’ll put it at the bottom of my post instead.

  4. comment number 4 by: Patrick R. Sullivan

    The six decade, post World War II average of tax revenues/GDP is slightly over 18%. With not many years when it wasn’t between 17-19%, even though that period had a bewildering variety of tax laws and rates.

    That’s a pretty clear trend. In light of this wouldn’t it be more productive for the Concord Coalition to devote their energy to offering ideas on how to bring federal govt. spending DOWN to that range, rather than waste more time on trying out more ideas of how to permanently increase tax revenues above 19%?

  5. comment number 5 by: economistmom

    Patrick: Gee, many visitors here would argue that Concord wastes our time doing just the opposite–focusing on how to cut entitlements rather than how to raise taxes. The fact of the matter is that we say we have to do both. We should certainly try our best to find policy solutions to help damp down health care costs while providing adequate health care for all, but realistically, there’s not much hope of keeping entitlement spending as a share of GDP flat, let alone bringing it down a bit. So that’s why we have to get folks over their attachment to 18% of GDP as some kind of magic revenue target. It’s just not realistic unless we are prepared as a society to quite literally “cut the old people off.”

    So that means while Concord seeks policy solutions that can help control the costs of the entitlement programs, we also have to look for ways to raise more revenue dollars in the most efficient ways possible. (More tax revenue doesn’t have to mean a more complicated and inefficient tax system.)

    So, sorry– Concord does have to “waste” our time worrying about BOTH increasing revenues and reducing spending (both as a share of the economy)… Or any other way that can realistically, thoughtfully (wisely) bring the revenue and spending lines closer together.

  6. comment number 6 by: johnchx

    Yep, I should have said “personal outlays” (i.e. consumption + non-mortgage interest + transfer expenses).

    I only mention it because I find that simply saying “spending,” as shorthand, plays into some more general confusions about the big-picture accounting identities. Many people intuitively think of savings as the difference between income and spending, and therefore have trouble understanding that, in the aggregate, income must equal spending (nationally modulo the balance on current account, or globally), i.e. that there *is* no difference between income and spending.

    It also plays into the conflation of consumption with spending, which leads some to imagine that an increase in savings is necessarily a reduction in aggregate demand (which it need not be if it’s a shift from consumption to investment).

  7. comment number 7 by: Patrick R. Sullivan

    Mom, shortly before he was killed in a skiing accident Sonny Bono appeared on Chris Matthew’s Hardball and gave a rather remarkable impression. He was very self-deprecating, saying things like, ‘When I showed up for my first committee meeting everyone looked at me like, “Please tell me this guy is here to deliver pizza”. ‘

    But, then he told Matthews, ‘I think it would be better if there more congressmen with my background, because we realize that there people who will game the system.’

    Which is why you aren’t going to get 25-30% of GDP in taxes. I think the Concord Coalition needs more people like Sonny Bono.

  8. comment number 8 by: John Lounsbury

    Diane - - -

    This comment is very late, but I have always felt that there should be a fifth deficit: Energy.

    Some may argue that this is imbedded in the trade deficit, but I see it as a category of deficit with far more complex ramifications than the other trade deficits.