Friday, May 22, 2009

The Economy is an Addict, & Government Spending is the Crack

I would like to posit a theory, or perhaps make a prediction. The US will never pay off its national debt. Here's why:

Today's prevailing economic theory is that when the government spends money it grows the economy. Therefore, the government should play a significant role in making everyone more prosperous by spending lots of money. Of course, any money the government gets it must first take out of the economy through taxes. It is that feature of government spending that drives the furor over pork spending, earmarks etc. Why should my money go to fund some other state's lame pork project?

However, what's really interesting about federal spending is that they always spend more than they bring in from taxes. In other words, they run deficits. This of course drives most people even more crazy. But in reality it's done on purpose. That's right, despite all the rhetoric from all the politicians, the federal government spends more than it makes on purpose.

See, deficits mean that the government is getting and spending money it never took from you in the first place. It's basically free money. Free money which the feds use to pump up the economy, making us richer. A win-win scenario for all involved.

The catch is that the money for deficits has to come from somewhere. That somewhere is debt. It's sort of like a business taking out a line of credit with a bank. They use the available money when it's needed, and that extra cash makes it easier to expand and grow the business such that the debt is easily paid if and when it comes due.

But therein lies the problem with our national debt. As noted earlier, tax money is a deduction from the economy. If that tax money is used to pay back creditors instead of being plowed back into our economy, then the economy just got smaller. In this way we have steadily addicted ourselves to federal stimulus. Take away the spending and we'll go through withdrawal (recession). Since federal revenue relies on the strength of the economy, a recession reduces tax revenues, which, unless spending is cut, plunges us right back into deficits. Exacerbating the deficit issue further is the fact that prevailing economic wisdom is to increase government spending during recessions in order to boost the economy. Sort of like giving crack to a recovering addict.

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