Good and Bad Deficits

LONDON – “Deficits are always bad,” thunder fiscal hawks. Not so, replies strategic investment analyst H. Wood Brock in an interesting new book, The American Gridlock. A proper assessment, Brock argues, depends on the “composition and quality of total government spending.”

Government deficits incurred on current spending for services or transfers are bad, because they produce no revenue and add to the national debt. Deficits resulting from capital spending, by contrast, are – or can be – good. If wisely administered, such spending produces a revenue stream that services and eventually extinguishes the debt; more importantly, it raises productivity, and thus improves a country’s long-run growth potential.

From this distinction follows an important fiscal rule: governments’ current spending should normally be balanced by taxation. To this extent, efforts nowadays to reduce deficits on current spending are justified, but only if they are fully replaced by capital-spending programs. Indeed, reducing current spending and increasing capital spending should be carried out in lock step.

Brock’s argument is that, given the state of its economy, the United States cannot return to full employment on the basis of current policy. The recovery is too feeble, and the country needs to invest an additional $1 trillion annually for ten years on transport facilities and education. The government should establish a National Infrastructure Bank to provide the finance by borrowing directly, attracting private-sector funds, or a mixture of the two. (I have proposed a similar institution in the United Kingdom.)