It seems that most if not all advanced economies (US, Japan, UK to name a few) have been running budget deficits since basically the last 20 years. I understand that current debts lose value over time because of inflation and economies grow, but how can they do this for basically ever? I can’t wrap my head around the maths that makes this possible, and the markets don’t seem all that worried
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So first, deficit really doesn’t matter. Only debt does as that affects what rate lenders will lend money out to you. And same as a person, the more a nation makes the more comfortable lenders are to lend at a lower rate. So as long as the gdp:debt ratio doesn’t change much over time, lenders are fine lending at low rates. Which lets you do deficit spending to make your economy grow even faster.
Generally about 1:1 is considered to be acceptable for modern, robust economies.
A bit of an addendum as I misread a later comment: Why run a deficit?
Because targeted spending will create more growth than it costs. Infrastructure is the classic example of this. While it does not directly generate any wealth (toll roads excluded), good infrastructure will both increase business productivity by reducing transportation cost. Which both increases tax revenue and encourages even more business investment which generates even more tax revenue.
Education is another great example of this, but the benefits can be delayed by years.
The value the market places on securities is related to their expected future value. Why would a Federal budget deficit make me think that Amazon, let’s say, is going to be less valuable as a company next year?
The debt never need to be paid back because the government exists “forever”. In contrast, you need to pay back your debts because you don’t last forever.
Interest payments on the debt is what really matters, as that’s the cash the government has to pay today to service the existing debt.
Also a debt default will never occur, outside of being done internationally by idiot politicians. We can pay any amount of debt by just printing more money.
A government deficit means government spending is greater than government revenue. A government can make up the difference by borrowing money.
Whether a person lends money to the government depends on the interest rate and likelihood of getting paid back. The government can borrow money as long people trust the government will pay back the loan.
If the government can borrow money, then the government can run a deficit.
Government has one power that no individual has – taxation. When it needs funds, it can tax.
With that framework, the goal of spending is to drive economic growth. More growth equals more potential revenue from taxation. The ebb and flow of this is showcased over time.
With that said, citizens don’t want too much taxation – and if the government keeps running a surplus, that’s bad. It should either spend more on growth or tax less.
So what’s the end game? Either the growth works and the debt can be serviced and paid for over time. Or the policies fail and the government fails, leading to economic collapse for a period of time.
You can see both outcomes playing out in various places worldwide.
If the compounding value of the debt does not outgrow inflation, their real debt is actually depreciating annually.
Say you make 100 tokens a year, and your tax base grows at 2 tokens a year. You take out new loans each year, 100 tokens, but at 1% interest.
Year 1, your debt is 100% of your tax base. Your interest payments are 1 token. Easily covered by 1 of your 100 tokens. You have 99 tokens left over.
Year 2, you pick up another loan. Your debt is 200/102 ~~> 196% of your tax base. Your interest payment is 2 of your 102. You have 100 tokens left over.
Year 3, you pick up another loan. Your debt is 300/104 ~~> 288% of your tax base. Your interest payment is 3 tokens of your 104. You have 101 tokens left over.
You can see what’s happening. Investors are getting their promised returned. The amount of left over money keeps increasing. The debt to Tax ratio goes up, but it doesn’t matter.
As others have said, running a budget deficit is not actually a big deal; a budget deficit is a single budget’s budgetary shortfall. So I’ll answer the related and more interesting question, “how can advanced economies continually increase their debt load year over year for basically forever?”
You answered your own question. It’s because they’re “advanced” economies. Let’s say you’re China, the world’s largest exporter. You look at the US balance sheet and you say, “you know, this looks like a huge credit risk. If we lend these guys money, it’s highly likely they’ll default before we ever see this money back, or at the very least they’ll have to inflate their currency so we’ll be essentially receiving pennies on the dollar, if anything at all”. Ok, fine. But then you look at your balance sheet and you see “yeah, but also 70% of our revenue comes from the US, so if we don’t give them money and they default now, then we’ll lose 70% of our economy, and that sucks”. So they do it. Over, and over, and over again. This is called “economic MAD” (MAD being a term used during the Cold War, meaning Mutually Assured Destruction; it’s why both the US and the USSR had huge stockpiles of nukes but neither ever used them, because they knew whoever fired first would get fired back on and it would destroy both of them).
Note that as of at least 2020, China in particular is doing its best to diversify its economic investments around the world, to decouple itself from the USA, for precisely the reason of reducing the possibility of economic MAD. So we’ll see what happens.
A note on why deficits at the country level are necessary for most countries. In the US every state government except for Vermont has a balanced budget amendment – that means that it’s illegal to run a planned deficit. Like businesses they have some operating wiggle room but there isn’t room for huge unplanned expenses.
That means that things like disaster relief, funding for dealing with epidemics or other unplanned expenses depend on the US federal government to back the states with infusions of cash to cover the gaps when there are emergencies. There will always be surprises, and there will always be a need to come up with revenue on the fly – the alternative to deficits is maintaining a “rainy day fund” like some states do. That also has issues, it causes voter angst if you’re raising taxes with a few billion dollars sitting in your state piggy bank.
The federal government has the ability to sell government securities to borrow against future revenue – these are bought by banks and then sold to investors. That’s how deficits are funded.
The big debate to be had regarding deficit spending is what sorts of things are appropriate to fund via deficits, and how much debt is too much debt – if the US were ever to become a bad credit risk and have our bond rating downgraded that would seriously hurt our ability to function as a government.
We’re worth much more than we owe?
That answer is gonna depend on who you ask. Classical economists would say it does matter, but as long as the debt to gdp ratio stays manageable and the government can continue to pay down their debts, they’ll be ok. But there will be a point where the debt outgrows the governments ability to pay.
Modern monetary theory would say sovereign debt doesn’t matter almost at all as long as the government has monopoly over the currency. The government can create and spend money on whatever they’d like, and inflation is a result of putting out more money than there are real resources that can be bought, and taxes exist to create demand for the currency, not to raise revenues. According to them, the deficit and debt basically only matter if people believe it matters, but these things can be waved away by creating more money.
Personally, I think no matter what happens, the common people end up stuck with the bill from deficit spending, even if they may have some temporary gains. Creating more money tends to inflate a currency, which makes savings less valuable and forces people into risky investment markets. It also creates a debt economy. The bill will come due eventually.
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