THE BLOG

In Praise of Permanent Budget Deficits

28/07/2015 15:58 BST | Updated 28/07/2016 10:59 BST

Both this parliament and the last parliament can be characterised as involving an obsessive compulsion to rid the country of the inherent moral evils that are budget deficits. The Conservatives have blamed them for the financial crisis, as "Labour spent too much," and Labour have apologised and carried out a penance for their horrendous oversight, which almost plunged the UK into a humanitarian crisis along similar lines as in Greece, if the Conservatives are to be believed.

This line has been followed by the majority of politicians, if not all of them, and has been copied word for word by the media. The sheer evil of budget deficits has become so overwhelming that one cannot propose any type of progressive policy without first having to lay out how it will be "funded," and how one is in favour of austerity to achieve this aim.

However, this obsession belies logic. It is simply a law of accounting that every deficit has a corresponding surplus, and every surplus has a corresponding deficit. If the government runs a deficit, then the private sector runs a surplus. If the government runs a surplus, then the private sector runs a deficit. This is nothing more than to say that if the government gives you a pound, you have gained a pound and the government has lost a pound. If you give the government a pound, then you have lost a pound and the government has gained one. In other words, government budget deficits make the private sector richer, as they inject money into the economy, increasing net savings.

Moreover, as the government has the ability to "print" money, to use the common metaphor, there is never a risk of default. This point shows the Conservative's grasp of economics and accounting to be vacuous, as there was never any risk the UK would become like Greece, as they repeatedly warned.

The common metaphor has limits, however, as it often invokes images of hyperinflation and wheelbarrows. The reality is that money creation is mostly electronic, with the Treasury account at the Bank of England getting marked down whilst the relevant private sector bank accounts get marked up. In any case, money creation certainly is not inflationary under the current economic conditions. This is because, whilst government deficit spending will encourage nominal demand, the economy will respond by increasing output. This will continue until unemployment has fallen virtually to zero or the full resources available to the country are used up. Something a long way off.

Given this cursory examination, it is clear that a permanent budget deficit is called for. Government deficits contribute directly to private sector net savings, as they inject more money into the economy than they drain. Furthermore, the government never runs the risk of defaulting because it is in full control of the currency, able to create as much money as it needs. Finally, a permanent budget deficit would not be inflationary because the economy is not operating at full capacity. Even if it were operating at full capacity, a (smaller) deficit would still be required to maintain that state of affairs.