Rethinking the Economics of Budget Surpluses

The emergence of large budget surpluses in 2000 and the first half of 2001 dramatically altered perceptions of fiscal policy. Now, the surplus has all but disappeared in the wake of the economic slowdown. Monetary policy, based on lower interest rates, seems to be having little impact on spending and gives the appearance of “pushing on a string.”In this environment expansionary fiscal policy becomes the most effective way to stimulate demand. Yet, the case for expansionary fiscal policy remains hobbled by the mistaken conventional wisdom which has for so long pushed for budget surpluses. And even if the dire nature of the situation successfully compels a temporary fiscal expansion, there will remain a danger of deflationary budget surplus economics re-asserting itself the moment recovery becomes visible. For this reason, the current moment provides a critical opportunity to examine the economics of budget surpluses. Our momentary flirtation with surpluses and the prospect of paying down the national debt revealed that persistent surpluses are highly problematic. This makes a non-sense of the existing fiscal paradigm. Government debt plays an important constructive role in modern economies, and the debt should therefore grow with economic activity. This requires government deficits. Rather than being harmful, moderate deficits constitute good economic policy. The size of these deficits should be such that the debt - GDP ratio is maintained at an optimally determined level. This can be termed a “balanced growth budget policy.”