The deficit is too small, not too big
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My progressive pedigree is robust. I am proudly a liberal Democrat. Not a centrist Democrat, but a liberal Democrat.

And I'm not just a socially liberal Democrat, but a fiscally liberal Democrat.

Thus, while Clinton gets my vote, her insistence at the final debate that her proposed fiscal program will not "add a penny" to the national debt is fouling my wonk serenity this morning.

Every penny of new expenditure, she says, will be "paid for" with a new penny of tax revenue.

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Her deficit-neutral fiscal proposal is, I readily acknowledge, better than the status quo, as her proposed new spending would add 100 cents on the dollar to the nation's aggregate demand, while her proposed tax increases would not subtract 100 cents on the dollar.

Why?

Because she proposes getting the new tax revenue from those with a low marginal propensity to spend, or alternatively, a high marginal propensity to save. To wit, from the not poor, including yes, the rich.

Thus, in simple Keynesian terms, there is some solace in her deficit-neutral fiscal package: It would be net stimulative to the economy, because it would — in technical terms — drive down the private sector's savings rate.

In less technical terms, it would take money from people who don't live paycheck to paycheck, who would still spend the same, but just have less left over to save.

And I have no problem with that.

What sends me around the bend is the notion that the only way to boost aggregate demand is to drive down the private-sector savings rate, in the context of holding constant the public sector's savings rate.

But, you retort: The public sector, notably at the federal level, has a negative savings rate; it runs a deficit! Are you nuts?

No, I am not. Unless faced with an incipient inflation threat, born of an overheated economy, there is no reason whatsoever that the public sector should ever have a positive savings rate.

What it should have is a positive, a bigly positive, investment rate.

And in fact, a higher public investment rate and a lower public savings rate are exactly what our economy presently needs.

Yes, a larger fiscal deficit.

Which, as a matter of accounting, also implies a larger stock of federal public debt.

Throw us in the briar patch, please.

As John Maynard Keynes taught us 80 years ago, the accounting tautology that investment and savings must, after the fact, equal each other is only the bookkeeping determinate of our ecosystem, not the determinant.

As an accounting matter, savings and investment must — and do! — equal each other, in both booms and depressions.

Investment is not, however, a consequence of savings, but rather the other way around. Investment is the chicken and savings is the egg. More chickens, more eggs.

Put more technically, investment drives aggregate demand, which begets aggregate production and thus, aggregate income, the fountain from which savings flow.

Thus, if and when there is insufficient aggregate demand to foster full employment at a just income distribution, the underlying problem is a deficiency of investment, not savings.

More investment is the solution, and investment is constrained not by a shortage of savings, but literally a deficiency of investment itself.

Let me say that again: Investment creates income and thus savings, not the other way around.

This is the essence of macroeconomics, in contrast to microeconomics, which can also be called household economics. (And also state and local government economics.)

The federal government is not a household! The federal sector has the legal ability, granted by the Constitution to Congress, to "coin money." For all the rest of us, doing so is illegal.

Thus, if and when there is too little private-sector investment to generate aggregate demand sufficient to generate full employment, in the context of a distribution of national income that passes a democratic smell test of social justice, the federal sector has the ability to do something about it:

Invest/spend more and coin the money to pay for it.

But again, you retort: That's inflationary!

And you are right.

But not doing enough of it is similarly deflationary.

Finding the right balance between those extremes is what we expect our elected official to do, looking at fiscal and monetary policy as the consolidated balance sheet of we the people.

These matters need not and should not be a moral issue, but rather an analytical exercise. An independent central bank is not enshrined in our nation's Constitution.

It is Congress's right, and I submit, duty, to evaluate and calibrate the central bank's independence in context of whether inflationary or deflationary forces are more manifestly powerful.

When deflationary forces dominate, as at present, characterized by a chronic shortage of private investment and thus, aggregate demand, fiscal policy should dominate the macrocosmic policy mix, and monetary policy should orchestrate friendly interest rates for the funding of larger fiscal deficits.

And the central bank should have no quarrel in doing so, given that the justification for its independence is as a prophylactic against the opposite extreme of insidious inflation.

At the heart of the matter is that federal debt is also the stuff of the private sector's money, no different than the loser's IOU in a poker game is also the winner's asset.

To be sure, a private-sector poker game IOU may not be good; the loser may also be a bum.

But Uncle Sam's IOUs are good always and everywhere, "legal tender for all debts, public and private," as written explicitly on those green pieces of paper in your wallet.

And the federal government gets them into your wallet by spending them.

Clinton is right to want to redistribute those green pieces from the sluggish wallets of the well to do to starved wallets of those who will spend them with vigor.

I give her an A on this portion of her macroeconomics exam.

But in the matter of "not adding a penny to the national debt," she is in serious need of remedial Keynesian education.

The federal deficit is too small, not too big!

McCulley is senior fellow in Financial Macroeconomics and Adjunct Professor of Law at Cornell Law School.


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