How Much Larger Could the Budget Deficit be?

This one’s really going to throw everyone for a loop.  Now, I know all we can talk about these days is how to cut the budget deficit.  We need to tighten our belt so the government can live more responsibly and halt the risk of becoming the next Greece, right?  Wrong.  Let’s explain why.  But let’s remember a few things here first:

1)  I don’t care how you achieve a higher budget deficit if it’s necessary.  Depending on your politics you might want more spending.  Or you might prefer tax cuts.  I generally prefer tax cuts in this environment because we’re not going to get more spending (I am in favor of things like infrastructure spending or real investment, but that’s a different story).  But the point is, you don’t have to bring politics into all of this to understand my main points here.  A larger deficit can be achieved regardless of your politics.  Bush did it with tax cuts, Obama did it with spending.  So leave your politics at the door for a minute.

2)  The USA is not Greece.  It has no solvency risk as in “running out of money” because it harnesses its banking system and central bank to provide funding.  Yes, Primary Dealers are required to make markets in government debt so there is never a risk of bond auctions failing or yields surging due to solvency constraints (yes, yields can rise due to inflation constraints but that’s a different story).  In this regard, the US monetary system is arranged in a way that is totally opposite of Greece’s system which has a very real solvency constraint.  (This doesn’t mean inflation couldn’t result in currency and bond rejection!).  Click here for more details on this.  

3)  The USA remains mired in a balance sheet recession.  If you think of the monetary system like the human body you can imagine it like a system of flows (click here for a more detailed explanation).  Like blood moving through the body, money moves through an economy generating revenues, incomes, spending power, etc.  When the credit crisis hit that flow halted.  And the government turned it back on through their spending policies.  In a normal environment the private sector would do most of the heavy lifting. People would be borrowing, spending, investing, etc, but the borrowing mechanism is broken because the private balance sheets are not yet healthy enough to sustain a recovery on their own.  This is abundantly clear from the latest NY Fed Houshold Debt report which showed that borrowing is still very weak.  And it’s important to understand that in normal times the private sector increases its flow in accordance with borrowing (because loans which create deposits are the primary form of money in our monetary system).

4)  We know, from the situation in Greece and Spain that austerity during a balance sheet recession ravages an economy. It’s simple.  If the government won’t spend and the private sector won’t spend then the flow dries up.  The economy dies.  And you get 90% drops in equity prices, 50% youth unemployment and a modern day depression.  It’s not rocket science.  An economy needs spending.  Just like your body needs blood flow.  If it stops, you die.  Enough said.

We know the deficit is likely to fall substantially in 2013 and I keep saying this is probably a bad idea.  So, the question I always get is, if we need the government to help support the private sector then “how large can the budget deficit be”?  That’s not an easy question to answer, but we can provide pretty rough estimates.  Remember, this is the “dismal science” we’re talking about.  Okay, now for some rough math.

Let’s first remember that inflation becomes an issue when we spend in excess of productive capacity.  What’s our productive capacity?  We can use the output gap as a rough estimate of lost potential from the Great Recession.  If we use Okun’s Law we can assume that excess unemployment causes a ~2% output gap.  We currently have about a 7.5% output gap (potential GDP vs actual GDP) and 7.7% unemployment.   Let’s assume we’re going with full tax cuts and a multiplier of 1.  That’s pretty safe and conservative (in more ways than one).  Let’s also use the full employment rate of 4% as defined by the Humphrey Hawkins Act.

If it takes $320B in GDP (1% of current GDP is $160B) to close the unemployment rate by 1% then we need a deficit of about $1.2T to get us back to full employment and on the path to closing the output gap.  That means we’re currently headed in the wrong direction with the current budget proposals which are likely looking at something in the $500-$600B in deficits for next year.   In short, we either need the private sector to really pick up the slack here (and the outlook is improving, but still weak) or we need the government to pick up more of the slack (which it obviously isn’t going to do).

Welcome to the math on muddle through.  Enjoy your (unemployed) stay.

* To learn more about the modern monetary system please read here.  


Got a comment or question about this post? Feel free to use the Ask Cullen section, leave a comment in the forum or send me a message on Twitter.

Cullen Roche

Mr. Roche is the Founder of Orcam Financial Group, LLC. Orcam is a financial services firm offering research, private advisory, institutional consulting and educational services.

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  • Kid Dynamite

    you wrote “need a deficit of about $1.2B” but I think you meant Trillion, not billion??? or am I even more confused?

  • Cullen Roche

    Right. Thanks Kid.

  • frederick

    At this point in our nation’s history so very much of our government’s spending and “investment”, is known to be outright fraud, corruption, and waste. In theory, I understand when you say ‘austerity in exactly the wrong thing to do’. I get it. But, when government spending essentially equals kickbacks and more pay to bloated public employee unions, it tears at the fabric of society.

    You can’t just go on a ‘no austerity’ kick, when rubber stamping the status quo is turning a blind eye to cronyism, kickbacks, corruption, waste, and a bloated Federal payroll that is sucking the life out of what used to be the USA.

  • Cullen Roche

    I didn’t propose more govt spending. I proposed tax cuts. You should love this post because it doesn’t involve any new spending.

  • jaymaster

    Excellent post! I’ve been wondering about how to put a number on this for some time. And that seems to be a pretty logical way to tackle it.

    Now if we can just get this story to go viral like the Trillion dollar coin thing… :)

  • Geoff

    The other (related) question that I get is how large can the federal DEBT grow? If it grows too large, won’t the interest become overwhelming?

    Um, no.

  • SS

    This is a really succinct and excellent summary of the current environment. I think it’s sad that the economy could probably be doing much better than it is if we just had someone like you in charge. Instead we have to listen to these brain dead morons every day talking about how we’re becoming Greece.

    How do they not understand this stuff?

  • Delta Financials

    Not sure that’s all quite as neat and tidy as you make it sound, Cullen. In a full employment world, why won’t we have inflation (assuming $1.2T deficits) + rising rates = boom and bust? If the argument is the Fed effectively “controls” rates and will keep rates near zero while we get a dose of inflation, the counter is how will heavily negative rates cure inflation?! It seems to me you’re extending mechanical realities of how the system works and inferring from it principles that don’t necessarily follow.

  • Delta Financials

    Also, the bit about productive capacity assumes unemployment isn’t structural. In large measure, the data suggests it is. So, if you’re wrong about your assumptions, you put all of us in a big inflationary problem. I want a system more robust than that!

  • Cullen Roche

    Well, the hope is that the larger deficit generates real growth (which will be accompanied by higher inflation naturally) and forces the Fed out of their ZIRP. If we can get to a place where the Fed is talking about raising rates then we’re on a much better track than we are at present. In short, YOU WANT the Fed to be having that discussion….”uh, guy, the economy is much stronger than expected, maybe this zero interest rate is inappropriate?” Yes, it will be….

  • SS

    That’s stagflation you’re talking about. That will only happen if we get major cost push inflation. That might happen due to oil, but we also know that cost push inflation usually leads to a recession anyhow. So that’s a different kind of problem.

  • Johnny Evers

    Our deficit last year was close to $1.2 trillion and we’re still losing jobs.
    I don’t know of any serious person who think deficits will be less than that going forward.
    Economists get so caught up in their ‘laws’ and projections that sometimes they forget to measure what is actually happening, and, to be creative and challenge their own assumptions.
    Just one example: You assume growth will lead to employment. But, can we grow the economy without adding jobs? Could he have GDP growth and 10 pct. unemployment? Very possible.
    Another, you assume we will have inflation if we spend in excess of productive capacity. Leaving aside the subjective definition of capacity, this ignores the reality of inflation in the 70s, and current inflation in health care, education, taxes, groceries, etc.

  • Rik

    1. Politics is an issue. In a way you can put Bush, Obama and Sandy of course in the same group. Always finding an excuse to spend more than comes in (and not even keep de debt/GDP stable).
    So there is a clear political issue. Only not one playing in mainstraem politics of course.
    There is also a political issue that if a state should borrow at all. All three Obama, Hurricane Bush and George W Sandy answer that in the same way no problema.

    2. You go a bit too easy over the bankruptcy issue. Of course it is not very likely at the moment. But:
    -First of all FED and Government are not 100% similar. There is a chance of a mismatch.
    -deadceiling could play.
    -printing effectively only means that you are less likley to be catched with your pants down and that the extra costs of a real bankruptcy (as far as applicable for states)will not arise. Also de facto taxing your people is easier as it is much more difficult to escape. Which is something else.
    3. With as added problem that if it goes wrong it goes terribly wrong (look at Latin America before). Takes many years to make things working again. So unless the bet gets totally weird one should always stay away from there. The US is simply taking a bigger and bigger risk in this respect.
    With low growth and probably in it for a lot of years more I agree lower taxation look a much better way to use limited resources. especially combined with the fact that keep the thing going looks a bigger priority than being fair at the moment.
    4. Spain and Greece are totally different a large part of their GDP is effectively created by borrowing money and pumping it around. No economic basis to support even the present GDP per capita. If you run out of other people’s money and German’s make problems you have a real problem and if you donot attack that the problem gets bigger.
    On the latter issue the situation in the US however looks very similar.
    Being able to print would imho not have solved the issue. Not in a country with a huge percentage of imports and very sticky prices for nearly everything.

  • Cullen Roche

    Come on JE. Be fair. The unrate has fallen from 10% to 7.7% since 2010. You can’t just come here and say things that are blatantly false. We are DEFINITELY not “losing jobs”. Yeah, the recovery sucks, but we’re definitely not going backwards….

  • JRH

    Better yet, per your political position, you can even say, let’s cut gov’t spending by X, and cut taxes by X + Y, where Y corresponds to whatever portion of the output gap you want to fill.

  • Johnny Evers

    Fewer people are working. The labor participation rate is falling.
    That seems pretty clear from today’s numbers, but of course some disagree.
    And as I said below, an economy can recover without putting people back to work. That might be what is happening.

  • ES71

    Majority of american people simply don’t understand that cutting deficit will hurt them. They think “rich” will be the only ones impacted. They have no idea that removing sev4eral hundred billiongs from the economy will hurt everyone.
    But as far as they know, they are finally making rich pay and even Warren Buffet says it is a good idea. So, they are behind Obama on this 100%.
    Does Oabam not understand he’ll hurt economy with additional traxes? Or is he going to spend this money on the other end? I don’t think republicans will let him.

  • Kyle F.

    Isn’t a more reasonable multiplier 1.8? What would the number be if you used 1.8?

    Updated TC Rule
    1.8(7.7-4.0)+(4-2.2)+1=9.46%=$1.5 Trillion deficit

  • Johnny Evers

    Maybe the number is 1.7. Or 1.9. Or 1.84444. It could even be negative. If you degrade the currency you could be creating massive unemployment in the future.
    Maybe the number changes depending on the country, or the type of market, or the rules of employment or a hundred other factors.
    We are only fooling ourselves if we believe we can ascribe an exact number to a formula that ignores all the possible variations.

  • Cullen Roche

    You complained in the previous thread that I wasn’t providing any hard numbers. Then I give you the numbers and you tell me my numbers are not enough….

  • JK


    Wouldn’t you say the deficit actually needs to be a bit larger to accomodate people’s propensity to save (and pay down debt)?

  • Cullen Roche

    Probably right. Also, we could go with the MMT definition of UE which is 0% and then we could really start putting numbers out there that knock people’s socks off. :-)

  • John Sloat


    So I guess this is obvious from your post, but it appears that you are saying that if the Republicans and Democrats reach a deal that raises taxes and cuts spending in 2013, it is inevitably not good for the economy/recovery, absent any major pick up by the private sector. Do I have that right? If so, yikes. (And how bad it is depends on the scale of the tax increases + spending cuts.) Sorry if I’m restating the obvious.

  • Johnny Evers

    Well, we can’t even agree on the hard numbers, let alone your assumptions.
    The deficit is already $1.2 trillion (not $600b) and it’s not moving employment.

    Also, Greece had a decade of borrowing beyond its productive capacity and you blame a half-hearted stab at austerity as the reason for the depression.

  • JK

    ha… see.. now you’re the one bringing up MMT on your site! I feel like I get a free pass next time I do :)

  • Cullen Roche

    John, That’s probably correct. The thing is, we can’t estimate exactly how much slack the pvt sector will pick up. I presume it is at least some and there are positive signs on this front, but taking the patient off life support at this point is a bad idea in my opinion. It would be more prudent to run the current sized deficits through 2014 probably….

    In fact, if I had it my way we’d run a policy that I call “elastic deficit targeting” where we allow the deficit to float based on a targeted unemployment rate of 4%. This is basically like the TC Rule if you’re familiar with Mike Sankowski’s work. I kind of like the Fed’s policy of staying accommodative “at least” through 2015. David Beckworth has even said he’d support this form of policy targeting since it has some overlap with NGDP Targeting. Except I’d use fiscal policy. So, using my math above, we let the deficit float using tax rate changes on a quarterly adjustment to hit my 4% unrate.

    I’ll let the political types sort out the spending around that tax cuts, but keep the deficit at my elastic rate until we’re at 4%.

  • Cullen Roche

    I’ve been too tough on you. You’ve proven yourself very fair and even handed. So you get a lifetime pass. How’s that?

  • JK


  • Erik V

    Cullen, I generally agree with what you are saying, but remember the current ouput gap is acheived with the current level of the deficit as well. The 1.2T figure you calculate is the INCREMENTAL deficit needed to close the ouput gap. So the total deficit required would be around 2.2T.

  • Cullen Roche

    What I did here is sort of like Mike’s TC Rule. I’ve always used 2 for Okun’s law, but maybe that’s not as precise as you like.

    I also didn’t target inflation in here. I am just using nominal GDP. No population adjustment either. Just a flat NGDP calculation using the unrate:

    (unrate-unrate_target) * [(0.01*current_NGDP)*2] = $1.184T

    If we wanted to put this into policy form you take it on a quarterly basis and slap a name like “elastic deficit targeting” on it. Let the Congress vote on it each quarter via specific tax cutting policy. Bam. Let the Fed mesh their policies with it. I rather like the Fed’s current stance of remaining accommodative until “at least” 2015. Let congress work with that. How can we not pass something like this? It seems like a win win.

  • beowulf

    “The deficit is already $1.2 trillion (not $600b) and it’s not moving employment.”

    And what do you think the unemployment rate would be if Congress were required to balance the budget every year?

  • Cullen Roche

    The whole point is a comparison with future policy. The CBO projects deficits in the 500-600B range next year. Regardless, it’s crazy to say the deficit hasn’t done anything. We’ve had 4 years of growth and an unrate falling 2.5% while Europe is in a depression in some parts!

  • beowulf

    Or direct the Secretary of the Treasury to adjust tax rates (payroll taxes and then, if that zeroes out, income taxes) across the board.
    There would never be a better time to uncap Social Security FICA or even better convert payroll tax into a VAT than when rates are 0%. :o)

  • beowulf

    Be careful! That’s what Cullen tells people right before he kills them.

  • beowulf

    Right, its additional deficit in relation to current tax/spending baseline.

    The thing about it is, because everybody loves a balanced budget,
    you want stress that tax rates should be set so budget will be balanced at full employment and (this part is usually ignored), balanced trade. By that measure, our current tax rates are actually too high (or if you prefer, our spending levels are too low). In 2007, deficit was only $160B but our $710 trade deficit meant $550 billion in domestic savings net of investment was drained out of the economy. That ain’t good.

  • Pierce Inverarity

    The “degradation” of our currency from the last Great Depression, according to your definition of degradation (i.e. inflation) has resulted in an average unemployment rate of around 5-6% during that span.

    I’m having a hard time thinking you don’t want to actually look at the facts presented to you.

  • jaymaster

    Johnny you’re half right.

    Yes, the participation rate is declining.

    BUT more people are actually working now.

    This is due to the fact that population is growing.

  • jaymaster

    Cullen, I don’t want to take this discussion off track (or open up another MMT vs MR can of worms…). But this seems as good a time as any to ask.

    Could we also get a kicker if our trade deficit continues to decrease?

    For example, let’s say we cut our imports by $100B. Would that reduce the level of Federal spending deficit required by $100B?

  • Anonymous

    Think of the balance sheet recession like a human body with the debt being cholesterol. The more debt (cholesterol) you have in the system the more it will restrict the flow. The only way to save the body from death is to either lose the weight through dieting (debt) or eat super healthy (wages). Either way the weight will come off either through dieting or through a healthier intake of food…… or the body will die.

    Think of inflation in terms of wages. As long as wages stay higher than the increase in prices then inflation is low. However, if prices start to rise faster than wages inflation is high.

    Think of inflation like a human body with inflation being similar to you gaining two to three pound of fat per year. After about 30 years you are overweight to the point of being obese. Every four years or so (business cycle) you attempt to go on a diet (recession), but instead of sticking to your diet and losing the weight (excess capacity) you give in and start eating again until you reach a point where age and weight begin to unravel it all into a complete health mess……….. what would you do if you were in this situation?????

  • Kyle F.

    Gotcha, I see now.

    By the way , in light of this fiscal rule, what could be used as the variable operator that actually made the fiscal adjustment? Something like restructuring FICA to be a variable rate and reducing marginal rates while keeping them fixed and progressive? Have any of you done any work there?

  • Kyle F.

    Just read this after I commented. I can’t believe I thought something on my own that beowulf thought before me. This is a sign I am going to get laid tonight.

  • Widgetmaker

    Bold call. When the conventional wisdom is screaming about the “crushing burden” of US Gov debt and declaiming the “debt crisis” here is a guy that is calling for more – to essentially double down. What kind of world are we leaving to our children and grandchildren, they all say. The answer to a crisis caused by too much debt is more debt. Go figure.

    I agree and it is refreshing to see a commentator who has got the balls to say this. Isn’t an increase in sovereign debt in essence an increase in the money supply? By letting the unemployment situation fester the way it is are we not doing irreparable harm to our labor force and future competitiveness? My only difference is that I would like to see more spending on infrastructure – put men and women that are idle to work making needed repairs while borrowing at record low rates to do so – and aid to the states so that they can continue to employ teachers, police officers and firemen until employment and tax revenue picks up so that they can be self sustaining.

    Unfortunately, it is political will that gets in the way. The party out of office will not acquiesce because it would give the current administration a major victory. This cannot be allowed to happen as this will hurt them in future elections. As Richard Koo remarked, we lack the political will to do this. It’s going to be a long slog, but we’ll get out of this eventually.

  • Dominic

    By the way I like how the author play with semantics here…QE is not “printing money”…so tell me when the government can issue as much debt as it wants because behind there is the central bank ready to buy that debt (using the captive primary dealers to give the impression that there is not direct monetization) how you call that??

    And the so called “output gap” is often more imaginary then real… many mortgage brokers or carpenters can be immediately retrained as precision machinists??

    Yes USA is not Zimbabwe or Weimar Germany obviously…our economy and our geopolitical position can take a lot more “monetary abuse” than a smaller country (UK for example) but thinking that the USA can be immune (or “99% immune”) from a currency crisis is dangerous hubris…I guess Japan will soon demonstrate who is right and who is wrong here….

    Volcker saved the dollar at the end of the 70’s…..

  • Dominic

    You are absolutely correct that “Bond vigilantes” is a non issue in our current monetary system (the Central bank can buy unlimited amount of bonds…let’s not forget that the Fed monetized the majority of new issuance in recent times)…the problem is that if you go too far you may have low interest rates but you could clean yourself where the sun does not shine with the currency….

  • hangemhi

    no, no and no.

    if you thought of inflation like a baby growing to an adult rather than someone getting fat you’d be a LOT closer to the truth. this idea that inflation is bad (it can be) is getting tiring. inflation causes people to work and to strive and leads to production and improved living standards. deflation causes people to stop and save and leads to decline and loss of living standards.

    inflation in prices means both higher expenses, but higher sales prices too – and should mean higher wages unless we’ve got a plutocrat class that gives themselves all of the extra earnings.

    In sum, if everything goes up in unison we don’t have a problem. Oh but the savers – well, they can invest in inflation protected investments, and they can also continue to work. And stop worrying about the value of the dollar in 1913 – anyone with savings then is dead today – and their assets are worth a helluva lot more today, and our standard of living is leap years ahead of back then

  • Cullen Roche

    QE is absolutely NOT money printing (at least in the sense most people claim). QE swaps reserves for bonds. This results in no change in private sector net financial assets. Please read my primer section on QE. And then read my paper on the monetary system. You are not quite connecting all the dots in the way things work. If you have questions please ask. I am here to help.

  • Cullen Roche

    You’re thinking about this all wrong. There’s no way the Fed can be funding the govt because the dealers are required to bid at tsy auctions. It’s only true monetization if the central bank is the buyer of last resort for some reason. We know, definitively, that’s not the case because everyone thought yields would rise when QE2 ended. AND THEY FELL! That right there tells you that tsy demand is not artificicial at all. It’s very real and stronger than ever. Which is not surprising since anyone with a brain in this environment would rather earn the yield on t-bonds with low inflation than keep their money parked in cash.

  • hangemhi

    Cullen – an analogy of rain/earth vs. blood/body seems more accurate. The oceans collect the vast majority of water (the rich and their wealth) and without redistribution and rain on the mountain tops lakes and streams run dry, and plants and animals and life dies. You can’t dump too much rain on the mountain tops because it causes flooding (inflation/hyperinflation), and it ought to be spread where it is needed.

    Whether you tax and spend (evaporate and rain) or you cut taxes (i suppose my analogy fails here – but since the Gov will always tax and spend, this is just a call for no/less evaporation – and a better focus on the spending – rain – on the areas of actual need/production)

    Anyway – all this fear mongering about the debt needs a paradigm shift explanation – so imagine the earth without redistribution of water.

  • Bosscauser

    All the fiscal stimulus went to the banks and they had nowhere to put it because the consumer was tapped out. Send some money (tax cuts, grants, or big checks) to the people who will spend it into the economy and this problem will go away.

    It amazing that people believe that by firing government workers and putting people on unemployment through “budget cuts” is going to do anything but put us back where we were a few years ago.

    I would rather borrow the money and fix the roads and bridges and hire enough teachers, cops, fireman etc. to maintain what we have but I’m just a Walmart cashier and what do I know.

    P.s cutting these people’s paychecks and benefit checks mean less money to Walmart and Walmart cuts my hours means I have less money to spend in taxes and buying the necessities. (eventually your paycheck gets cut.)

    HELLO, anyone out there! These “cuts” roll down hill and will get you too.

  • Domeniic

    I do not exactly remember on what part of the curve but actually the yeald did rise during the Fed intervention.

    Where do you think the Primary Dealers get a lot of cash to bid Government bonds?? Look at the game of smoke and mirror of the BCE….

    The Fed (or the BCE) take the garbage out of the banking system balance sheet for 100 cents of the dollar and the Primary Dealers in return with their freshly minted reserve bid Government bonds…..just connect the dots….

  • Domeniic

    Temporary yields can actually drop after Fed intervention TEMPORARELY because the market perceive this as bearich (run towards “afe assets”)
    So temporary yield decreasing does not tell the whole story in the long run.
    Again, Japan will give everybody the answer we are looking for….

  • Domeniic


    The Fed take whatever trash they want et voila’ credit the amount to the holder of the asset by fiat, and the holder of that asset can do whatever he/she wants with that money.
    As Bill Gross famously said, bad bonds go to die in Central bank balance sheet.
    If it looks like a duck, swims like a duck, and quacks like a duck…….whatever semantion and logic we want to assign to it.

  • Domeniic

    Have you ever heard of the depression of 1920-21?? If you do nto is because it lasted only 18 months and the government did exactly nothing (actually it did balance the budget and interest rates did go up)

    I rather take a short term pain the long term agony

  • Domeniic

    Sorry I can’t type right tonight…;-)

  • Cullen Roche

    I’ll tell you exactly where they get the cash from because guys in the NY Feds Capital Market Group have told me explicitly. They borrow intraday from their bank unit and repo the Tsy out later in the money markets. It’s not a conspiracy theory. These banks want the bonds so they can on sell and reap the many benefits of doing biz with the Fed. As long as inflation is contained they love this arrangement….

  • Dominic

    Good, you are getting there….where the banks get their funding to provide to the Primary Dealers in order to get the bonds (well some Primary Delaers are actually Commercial banks)?? almost there….

  • Dominic

    By the way pre-1995 Boskin Commission inflation rate is 5.8%

    The only reason the unemployment rate is “officially” at 7,7% is because of, I would say, biblical dropping in labor participation rate

  • Cullen Roche

    Where does a bank get funds? From thin air. Are you there? :-)

  • Cullen Roche
  • Dominic

    Bait and switch Cullen like the Keynesians?? ehehe

    John Williams may have blown his hyperinflation call SO FAR (anyway I do not think he did ever put a firm date but more like an outlook revised every year) but his analytic data on inflation and unemployment is solid and even you did recognize that in your piece…you wrote:

    “Now, I don’t necessarily believe that the approach that Shadow Stats uses is flawed. In fact, I think it’s incredibly valuable to have companies and independent analysts reviewing government data”

    As far as I know, Shadowstat is the only place wher eyou can get inflation numbers pre Boskin Commission….Williams just apply the old methdology, simpel as that.

    I agree that hyperinflation calls are WAY earlier and there are much better candidate then the good old USA before…Japan, UK….

  • Dominic

    A simpel primer for you…..I have used toilet paper or MBSs in my garage and Uncle Ben get them off my hands for nice crisp Benjamins (or their electromnic equivalent) then wiaht that money (or credit…the two things are fungible in our current system…till their are not…) I buy government bonds (or other stuff)

    Indirect monetization…a nice Three Card Monte

    You like this picture?? :-)

  • hangemhi

    In 1920/21 private sector debt was rising faster than gov spending was declining, and there was no trade deficit. You need to read up on sectoral balances to understand why your example doesn’t prove what you think it does:

    Today’s Gov deficits must make up for our trade deficit and private sector debt deleveraging, and growing savings rates. Population growth matter too. For instance, how much money does a private sector need that has 200 million people vs. one that has 300 million people? Well, factoring out trade deficit/surplus and savings rates, it would be 50% more money. And where does money come from? Either the private sector taking on debt, or the Gov taking on debt. If one goes into surplus, the other must go into debt. And in your one example of declining Gov debt you had the private sector growing debt thus leading to the recovery. Right now the private sector needs/wants/must save and pay down debt while the population is still growing, and the trade deficit is still large. Enter gov deficits which to you don’t look effective, but to me are keeping us from economic collapse via deflation

  • hangemhi

    sorry “to you look ineffective”

  • hangemhi

    i’m using real rough numbers from a couple of quick google searches – but over the past 4 years avg annual trade deficit has been $500B, and avg annual debt deleveraging has been $250B per year. So the first $750B of gov deficits have gone to those two line items.

    As an aside, when it comes to the trade deficit, some argue that since that money is given right back to us via bond purchases it is as if our economy is buying stuff for free. So, for example, the growing debt to China are just digits on the computer to us – and to them. They won’t ask for their US dollars back since they can print the Yuan, and if they do ask for them back they’ll have $1T in dollars they’ll want to use to buy something – if France lets them buy the Eiffel tower and everything else in their country, then France will have $1T in US dollars – and guess what they’ll do with them – park them in Treasuries (or in a more complex set up transactions, the money will still always end up back in bonds). So, we get zero inflation, our people get stuff, and their people get jobs.

    Of course the other side of this argument is that it would be better for us to have more jobs, and be more productive, because creating a consumer class funded by deficits is long term detrimental to the health and wealth of any nation. But for now, that’s what we’re living with – $500B that must be spent into the economy or we risk deflation – and China and our other trade partners are kind enough to ship us our US dollars right back so we can do just that.

  • sammy


    like so many economists you assume too many things…
    first we do not know it yet but very likely the long term trend growth in US will fall to below 1% …so you can throw the output gap theory out of the window…
    next there are large unproductive rentier class has taken roots in this country since the credit boom of early 80s in the form of a huge financial (and legal to some extent) sector that will be decimated in the next few yrs///
    Countries reach upper limits of debt addition by the time it reached debt/gdp of 100%…esp as debt owners (the rentiers) get paid a major chunk of GDP growth…so at 1.5% 10 yr rates and GDP at or below 1%, debt servicing breaks the back of the govt…as it is seen in the history of mankind…

    Fear the debt my man..after gorging on it year after year…..

  • Dominic


    In 1920/21 private debt was a fraction of what it is now, we can agree on that…and o trade deficit either.
    However private debt DID NOT rise during the acute phase of the crisis (unemployment peak did surpass the great depression).
    While some of the dynamics of the recession were obviously different the same concept can be applied….we did let the chips fall where they should and “cleaned up”
    As I said before I rather take short term pain than long term agony.
    A significant reduction in nominal income for workers coupled with deflation (which is not bad as many people think.
    I do not care if my salary get cut in half if my cost of living goes down too by the same amount.

  • Ted

    Agreed. Understand the possibility of waste and fraud with govt spending, but a mix of infrastructure would be better. We have a lot of infrastructure in decay, and a bit of green infrastructure would go a long way. Any investment in things that reduce energy consumption would also help to reduce out trade deficit.

    I worry that tax cuts lead to investment in personal luxury items like granite countertops and Range Rovers.

  • Waitingtoretire

    As someone working in the private sector who has just completed a government contract the money was well spent with the private sector. When Reagan uttered his famous phrase he did a major disservice America.

    Surely, if government gets more to spend, it will be spent. If the private sector pays less taxes to the government how do you ensure this is going to translate in to the spending needed?

  • Waitingtoretire

    The net of all this is that America is in serious need of education. What I do like about Cullen’s writing is that he keeps the terms and description of the model simple. This in not true, however, of most of the people who comment. Most comments are not understandable. I can tell the people who get it from the commentators who do not. I guess that is progress.

    What I see present in these Cullen posts and nearly all of the comments is the hope that a solution exists that will allow America to continue as before. Things will get back to “normal”. I am not at all convinced that is going to happen.

  • d yoakam

    I think you really meant to say that we need to INCREASE our already huge 1T deficit by another 1.2T ? A total of 2.2 T if done in one year.

  • d yoakam

    The bottom line is not jobs. Its real disposable income. And it is not good.

  • Ray Lopez

    Flawed ideological thinking from Cullen. It’s the old Ricardo Equivalence Theorem, ‘deficits don’t matter, as we owe it to ourselves’. Yet does the author know the exceptions to the RET and assumptions behind it, and why it might fail? Deficits DO matter. History has shown that, even the history of the third world, which Reinhart et al in their book “This Time is Different” have shown is relevant to the First World.

  • LVG

    Cullen has never said “deficits don’t matter”. He says deficits don’t create a solvency risk, but do create an inflation risk. He just doesn’t (and hasn’t) forecast high inflation because of the deleveraging. And he’s been right unlike a lot of other people.

  • Cullen Roche

    Right. I have never said “deficits don’t matter”.

    Ray, you might want to see the education tab in the header and familiarize yourself better with my positions. I think it could be eye opening.

  • Hans

    LOL, LOL

  • Britonomist

    You make some good points but I think you need to account for expectations here. What if yields didn’t fall because they expected further easing in the future, or expected easing to occur if rates reach a certain threshold? Basically, imagine if the Fed announced they would immediately cease all open market operations in the future, what do you think would happen to yields then? How can we know without counter-factual analysis?

  • Anon

    Indeed whatever happens in Japan will prove a lot of people right and wrong… but the problem is that all this debate will never end – you will never admit it if you’re wrong.

    Japan’s debt isn’t going away. Therefore, every week, every month, every year guys like you will be calling for Japan to implode in a massive sovereign debt explosion. I’ll still be listening to you in 2020 saying “oh just you wait – Japan will implode – I’m just early, not wrong”

  • InvestorX

    Cullen stays out of politics, but from time to time he jabs into policy prescriptions, which is not the same as politics, but…

    Anyway describing how the machine works is much different than poposing bold plans how to pull levers around to steer it. Only because you know how a car works, it does not mean you have a driving license or skills to steer it. More humility on that front would do everyone a lot of good.

  • InvestorX

    Look at Latvia

  • InvestorX

    Too many assumptions here:

    1. You assume Okun’s law is stable and relevant for the current environment (BSR), which it is not

    2. You assume hat current UE and output gap are cyclical, but there is a large structural component. As you see stimulus recently stimulates:

    – the wealthy and income redistribution from the bottom to the top
    – Asian inflation and growth

    The U.S. is not a closed economy.

  • krb


    Sorry I’m late to the party…..away for 3 days.

    Nice piece and nice comments from everybody….congrats for being the rare/only location even trying to apolitically get their heads around these issues and numbers.

    In that spirit I have a couple questions……

    1. When using employment/unemployment figures in your calculations, wouldn’t it be more accurate to use an accurate analysis of actual employment…..which is available to us. Considering the statistically significant number of people who have been removed from the equation, use of the published BLS rate would only result in more unrealistic numbers when trying to determine what needs to be done/spent to revive the economy.

    2. I’ve always wondered about “leakage” (best term I can think of to convey my point) in the amounts of “stimulus” we each propose… matter whether tax cuts or govt spending increases. If taxes cut/spending increased, but additional money spent is on goods produced in China, military base vendors overseas, etc. are we not discounting…..quite substantially……the bang for our buck when trying to address what is required to revive our economy? And if so, could some requirements placed on the “stimulus” accelerate its effectiveness in reviving the economy?

    I agree with your view that these are NOT, or at least don’t have to be, politically motivated discussions…..and I appreciate your dipping your toe into the prescriptive uses of your know-how. Thanks, krb

  • Steve W

    Very good post from Cullen and good comments from IIuvatar (among others). I’m inclined to favor major tax cuts rather than more federal government spending because I have little confidence in the government’s ability to reduce spending when needed (meaning, when it would be appropriate.)