The Macro Identity Cuts the Cant

I’ve been pretty busy, and in lieu of writing a real post, I’ll mostly quote Yves Smith:

The reason most people don’t like government deficits is that they are assumed to crowd out private sector borrowing, thus discouraging business investment. But companies in the US, even in the last expansion, were net savers. That pattern has taken hold in advanced economies, even in many emerging economies ex China, since the mid 2000s, and some as early as the late 1990s. Andrew Haldane, the director of financial stability for the Bank of England, confirmed that companies and investors are taking an excessively short-term perspective, which is leading to underinvestment.

In simple terms, the household sector always wants to save. If the business sector also perversely wants to save, then government needs to take up the slack and deficit spend, otherwise wages and GDP will contract (if you run a big trade surplus, you can escape that conundrum, but that isn’t germane for the US). If GDP contracts, debt to GDP gets worse, not better. Conversely, when the economy is strong and the business sector is borrowing to expand operations is when the government sector should run a surplus.

What she is doing here is simply applying the fundamental macro identity, one of whose forms is that the sum of private and public budget positions plus the current account is zero. I’m increasingly convinced that just starting from the relevant version of the identity eliminates the 90% of economic debate that is nonsense. After that we can start discussing the other 10%—like whether the net savings of the business sector are only due to short-termism. (I think not, but that’s another, longer, more time-intensive post.)