No convincing economic arguments against further stimulus spending
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In much of the world, including the United States and Europe, a debate is taking place about whether the government's first responsibility should be to reduce unemployment - which is at elevated levels - or to reduce government deficits and debt. Many of the arguments for deficit reduction are simplistic, based on ignorance, or ideologically-based. For example, there are inappropriate comparisons of government to household debt, a fixation on absolute numbers without any comparison to national income, or just right-wing opposition to government in general. Although these are the most commonly propagated views on television and through the media, it is worth taking a moment to examine the (ostensibly) more sophisticated and economics-based arguments and see whether they hold water.
Kenneth Rogoff is Professor of Economics at Harvard University and a former Chief Economist at the International Monetary Fund (IMF). This week he responded to some of the pro-stimulus arguments:
"Some portray Japan, with nearly a 200 percent government debt to income ratio, as a poster child for extremely indebted countries with low interest rates. Japan's 'success', of course, has a lot to do with its government's ability to sell debt domestically. How the country will handle its finances as saving by retirees shrinks and as its labor force rapidly shrinks, remains to be seen."
Some background: Japan has a gross debt-to-GDP ratio of about 227 percent of GDP. This is more than three times the level of the United States. But more than 100 percentage points (of GDP) of this debt is owed to the Japanese central bank. This means that the interest payments on this debt go to the government of Japan, so there is no interest burden added by this part of the debt. In fact, Japan's net interest payments are less than 2 percent of GDP, which is a modest amount.
It also means something else that most of the economists in this debate are not eager to talk about: it means that Japan has financed nearly half of its public debt by creating money. In other words, instead of the government borrowing money from investors, the central bank created money and lent it to the government. In the popular imagination, this creation of trillions of dollars (in yen) to finance government deficits has to cause serious inflation. However, the Japanese experience has been the opposite: over the last 20 years, Japan's consumer price index has risen about 5 percent - that's the 20-year total, not annual inflation.
Rogoff is correct to say that the domestic ownership of Japan's debt is key to its success. But this is just an additional argument for the United States, or Europe, to finance deficit spending through money creation at this time. Such financing is by definition domestic ownership - i.e. ownership by the central bank. In the Eurozone, the European Central Bank (ECB) would have to agree to refund the interest payments on the debt to the borrowing countries, so as to duplicate what Japan (and the United States) has done with its own central bank.
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