Re: Budget Deficits Lead to lower or higher GDP?

From: William F Hummel (wfhummel_at_comcast.net)
Date: 10/18/04 

Date: Mon, 18 Oct 2004 16:21:00 GMT

On Mon, 18 Oct 2004 03:13:04 GMT, Igor <jjweatherby@houston.rr.com>
wrote:

>What Heilborner argues is that the deficit is not a big
>deal. Unlike a household the government and often corporations do not
>have credit limits. So borrowing today could be financed in the future
>by more borrowing. This is a possibility. Bonds can be financed by bonds
>for some time. There is a limit; interest compounds exponentially while
>GDP grows in a linear fashion.

Wrong. The GDP does not grow "linearly". It compounds in much the
same way that interest due on the debt compounds.

>If the governement continued to run
>deficits forever at some point the interest payments would exceed GDP
>and they would have to default. So at some point the deficits have to be
>paid. The same could be said about Exxon the debt issued compared to
>assets affects the credit rating. If Exxon borrowed too much the market
>would fear default and no one would buy bonds.

Wrong. The government need never default on debt denominated in the
same currency it issues. Furthermore, not only can deficits run
forever, they can continue to grow indefinitely without a problem.

For a growing GDP and a fixed deficit/GDP ratio, it can be shown that
the debt/GDP ratio is bounded and asymptotically approaches the limit
                    (deficit/GDP) / (rate of growth of GDP)

In other words, the equilibrium debt/GDP ratio equals the deficit/GDP
ratio divided by the GDP growth rate. A permanently higher
deficit/GDP ratio will not raise the debt/GDP ratio indefinitely; it
will only raise it to a new, higher equilibrium.

For example, if the deficit/GDP ratio remains fixed at 5% and the GDP
growth rate remains fixed at 5.5%, then the debt/GDP ratio will
approach an asymptotic limit of .050/.055 = 91%.