Tuesday, February 8, 2011

We Save When the Government Spends

As you know, for you to save money, someone else must go into debt.  As i explained last time, if 300 million people save one dollar, than one person must go into debt 300 million dollars.  One person who could do this is the federal government.  So if the entire private sector wants to save money, the federal government can be the entity that goes into debt.  In fact, the total savings of the private sector cannot go up unless the federal government goes into debt.

By total savings, I mean that if you add up how many dollars everyone has and then subtract the total amount everyone owes.   Since all money is created as a debt, this will net to 0 dollars.  However, if you pull out just one entity, say the federal government's treasury, then you can say that one entities debt must equal the others savings because eventually it all must equal zero.  That's why federal debt equals private saving.  In fact, I understand that most economics students learn this their first year of study.  Macroeconomics 101 teaches that government deficits = private savings.  This doesn't appear to be a secret.

A couple caveats about this.  I've used the term "private sector" pretty broadly here.  I've taken it to mean everybody except the federal government.  Most people further divide up the private sector into foreign entities and then domestic private sector.  It still doesn't change the fact that for these groups to save money, then the federal government must run a deficit.  Again, this is something economists already know.  They learn it as a math equation:  federal income + foreign income + private domestic income = 0.

Another caveat is that this only works for total dollars in the economy.  Some people try to dispute this concept be getting other assets mixed up with money.  An example might be that someone might be in debt, but they have a house that is worth the amount of their debt.  That is a good thing because it increases their networth, but it does not increase the amount of actual money that they have.  Somebody else, like the federal government, will have to go into debt for that person's amount of money to go up.

So what is the point of all this?  The point is that if we want the private sector to save money, we must be prepared to let the federal government run budget deficits.  It is the only way that the total savings of everyone in the country to go up.  It also means that for anyone calling on the government to balance it's budget, they are also calling for everyone else to start spending every dollar that they make.

Think of the consequences of this:  For the federal government to have a balanced budget, and for everyone to save money for their own retirement, everyone who is young must go deeply into debt.  While a system such as this is theoretically possible in a free market, it doesn't seem like it would be very stable.  Another consequence is that for the federal government to run a budget surplus, the private sector has to spend more money than it makes.  Think about that.  If you thought budget deficits are unsustainable, budget surpluses are even more unsustainable because the private sector has to sink into debt for them to happen.

Therefore, anyone who advocates for balancing the federal budget is also arguing for the private sector to stop saving money.  Anyone who thinks the private sector should save money, must also be for the federal government to run budget deficits if they are to remain consistent.

Anyone who advocates that the private sector needs to save money and that the federal government to balance it's budget is arguing for two mutually exclusive goals.  And yet, this is what politicians and think tanks on both sides advocate for.  While they all have different ideas how to achieve both, I don't think many of them realize that they are mutually exclusive goals.  Back in 1999, they were patting each other on the back for balancing the budget at the same time op eds were being written that excoriated Americans for having a negative savings rate.  Now it's the opposite.  We're thrilled that the private savings rate is so high, at the same time politicians are trying to figure out ways to lower the federal budget deficit.  If politicians and media know that these two goals are opposed, they sure don't act like it.
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