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This morning, President Trump apparently threatened to veto the so-called stimulus legislation recently approved by Congress. The legislation features approximately $908 billion worth of spending including $600 stimulus checks for many millions of Americans who qualify. The stimulus spending is part of a much larger spending package which totals $2.3 trillion and is a general supplemental appropriations bill.
But these numbers by no means reflect what will surely be a much, much larger amount of spending that will take place before this fiscal year ends on September 30.
Indeed, even as we were entering just the third month of the fiscal year in early December, it was already clear that spending in 2021 was likely to be another year of both runaway spending and runaway deficits.
The sheer size and scope of the new spending package, which includes every type of pork imaginable—from propping up foreign dictators to subsidizing huge American corporations—is simply a reflection of the fact that all bets are off nowadays when it comes to federal spending.
Within months of his swearing in, it was already abundantly clear that Trump had no interest at all in cutting spending or scaling back the mountains of debt the US was quickly amassing. And now the covid panic has accelerated the process all the more.
Just How Much Has Spending Accelerated?
During the 2020 fiscal year, the total budget deficit reached more than $3.1 trillion. Even if we adjust for inflation, 2020’s total deficit was essentially off the charts as far as deficits go:
In 2009, in the wake of the financial crisis, the deficit reached 1.6 trillion in 2019 dollars. But the deficit nearly doubled that previous high in 2020.
And now, 2021 isn’t looking to be much more frugal than 2020. Even before any new stimulus bill has been signed, 2021’s year-to-date deficit already tops 2010’s previous high for the period. Combining October and November (the first two months of this fiscal year) the deficit is at $429 billion. At the very least, 2021 is likely to top $2 trillion.
But, those who take a sanguine view of deficits and the national debt are likely to ask: So what?
Do Deficits Matter?
Well, there several problems that come with these deficits that are occurring right now. The danger of enormous deficits doesn’t just come in the form of an economic collapse possibly in the far distant future.
First of all, it is important to point out that it is very unlikely this level of deficit spending could be maintained without a lot of monetization from the central bank. As the federal government engages in deficit spending and floods the market with new debt, it needs the central bank to mop a lot of it up so that interest rates don’t rise.
After all, the US government is already on its way to spending half a trillion dollars per year on interest alone. And that’s all while paying interest rates of well under 2 percent. Were these interest rates to rise to more historically normal levels, the federal government would have to slash federal programs to cover the rise in debt payments. Clearly, political considerations mean politicians want to avoid this outcome as much as a possible.
Fortunately for politicians, the Fed can defer this interest-payment problem buying up more debt. But where does the Fed get those trillions of dollars to buy up US debt? The Fed prints it.
This could lead to rapidly rising consumer prices, but experience over the past twenty years has instead pointed to the bigger problem being asset price inflation (especially in real estate and stocks).
Asset price inflation is a problem in part because it favors the already wealthy at the expense of newcomers. Asset price inflation in housing, for example, favors those who already own these assets while putting first-time homebuyers (typically younger and less wealthy people) at a disadvantage.
This results in part in growing wealth inequality, and a transfer of wealth from the middle class to the wealthy. As Fed watcher and veteran financial analyst Karen Petrou recently noted, a mounting pile of quantitative evidence shows that
continuing emphasis on price stability [i.e., antideflation measures], ultra-low rates, and huge central-bank portfolios does not promote sustained growth, does not meaningfully increase low-income wages, and accelerates market price hikes that both increase wealth inequality and stoke financial crises exactly like the one in March, 2020.
Where does this lead beyond the short term? One likely outcome is the “Japanization” of the US economy, “a long-lasting economic stagnation accompanied by expansionary monetary and fiscal policies.” Contrary to what central bankers repeatedly insist, it is not the case that loose monetary policy can drive up wages or increase general prosperity. The case of Japan shows the opposite, even after decades of highly accommodative monetary policy.
This occurs because expansive monetary policy creates bubbles that pull wealth away from the most productive economic activities and instead redirects wealth to those industries that fare best in an environment of artificial wealth creation. Thanks to Cantillon effects, this often means that wealth flows into the financial sectors at the expense of the “productive” sectors that employ more people and provide important nonfinancial goods and services.
While hyperinflation is always a possible result of printing up trillions of new dollars, it’s not necessarily what results. Instead, as Brendan Brown has noted, the effects might instead be a long slow process of impoverishment, similar to what we have seen in Japan, and marked by the growing trend of wealth inequality now being driven by current Fed policy.
The origins of this process of impoverishment process go back largely to deficit spending. So long as the federal government continues to add hundreds of billions—or even trillions—of dollars per year to the national debt, central banks will continue to be called upon to turn debt into dollars. Long-term economic destruction follows.
