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Post details: Deficits for Dummies

Deficits for Dummies

When you view economy through the prism of common sense, it is really not all that intimidating. I give you something, and you give me back something of equal value. Pretty simple, isn't it?

Now let's take a look at the national deficit. When government distributes its dollars, borrowed or otherwise, it is not just handing out pieces of paper of some theoretical phantom currency. Those little greenbacks represent value and people who put them in their wallets, be they army officers, federal employees or Medicare recipients, may convert that value into useful things. And I am not talking about monetary abstractions trumpeted up in the hallowed hallways of the Federal Reserve Bank. They buy apples and oranges, car mufflers, Alaska cruises, even ping pong tables. Now where does the value to buy all these things come from? Well, if you think about it, it can really come from only three sources.

First, it can come directly from taxpayers. People who worked hard all year long give away some of the value of their labor in the form of taxes. This is the most honest form of producing the value, because it is completely transparent and burdens different segments of the society according to some predetermined scheme. Second, it can come from the similarly hard work of our children whose taxes in the future will have a component that will pay for the debt our generation accrued. And third, the central bank can simply print a little extra money, which in turn dilutes the value of the existing currency, so in this case the value comes from those who put some of their value away for the rainy day. In short, from the savers, from people who lived within their means.

That third way of producing the value is a bit tricky, but you can think of it this way. Imagine you have a gallon of cranberry juice. You pour a glass of water into it (that's the extra "money" that the central bank prints out of thin air) and mix it with the juice. The juice is now a bit less pure, but there is more of it. You have just "produced" a glass of juice, which you can extract from the bowl, and most people who will drink the rest of it won't probably know the difference. As long as you don't overdo it.

Now let's make it even simpler: if we are running deficits - i.e. if we have to borrow because we are spending more than we collect in taxes - the value of the goods and services that these deficits offer comes from exactly two sources - the children and the responsible people. How does that qualify as a reasonable economic policy is beyond me. OK, so we enslave our children and become totally irresponsible - we all buy 3 SUVs and a house we cannot afford. And then what? We sell Yellowstone to the Chinese?

The problem is that the Mighty Warriors of the financial sector don't like things simple or transparent. They don't want you to ponder how things balance out or who actually pays for what. They don't want you to wonder where is the value of their obscene bonuses coming from. Complexity is a perfect smoke screen for turning the global banking system into a bloodthirsty parasite, which must be the reason why the financial sectorians are so well trained in all sorts of smokes and mirrors: opaque derivatives, statistical models, arcane financial statements, quantitative easings, and in general, any mathematical gimmick that can be helpful in muddying the waters. Their machinations have always been best conducted in a murky twilight of the rational limbo, so they gradually turned the field of economy into a chaotic spaghetti bowl that no humans (including the Wall Street depredators themselves) can possibly disentangle. Only in a world completely divorced from common sense can they push more and more debt to unsuspecting suckers. Their long term business plan seems clear: increase the lending exponentially to generate growth that would pay for the interest already due. In the theory, there is a name for that kind of economic model. It is called "Ponzi scheme".

If people were running their finances the way governments run theirs, our courts would be flooded with bankruptcies. But if you try to point out the dangers of living above one's means to the global wizards of Oz, they'll roll their eyes, put on a smooth avuncular tone #37 and inform you politely that personal and national finances are very different animals and cannot be easily compared. And sure enough - they are, and they can't. But guess what - a cow and a hamster are also very different animals that cannot be easily compared. Yet when you toss them out of the window from the 34th floor of the Empire State building, they'll both end up on the pavement in a very dead state. So yes, national finances can utilize a few tricks that individuals can't, they may redistribute the value within the larger society for instance, but at the end of the day they cannot escape the laws of economy any more than arbitrary animals can escape the laws of gravity.

The economy really is simple. In small quantities debt is like grease. It lubricates the cogwheels of production. But if you base your whole economy on binge borrowing, you may wake up in a bathroom one day with a serious hangover. Like Greece.

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