Free money != Free wealth. Every time the government consumes a $1 of free money, $1 of resources (wood, metal, machines, labor) becomes unavailable to the private sector, reducing consumption & investment opportunities. Just because the government can access free money doesn't mean the resources already there wouldn't have been invested or consumed. By spending that $1 of free money (sub-optimally as governments apt to do), it increases government spending portion of the GDP, but reduces the private consumption and private investment part of the GDP, and by removing private investment, it removes GDP growth that could be manufactured by the private sector for $1, for theoretically, eternity. Borrowing money to spend now for consumption equates to bringing forward future consumption and future investment to be consumed right now, and for losing future growth you get extra consumption today, like eating your seed corn. And by removing private investment, the economy doesn't grow, less labor is required to work the existing land & capital (due to technological progress), reducing % of the population in the labor force.
As the U.S. government has been spending the free money it is generating from bond sales, and as a consequence consuming and investing resources and capital in a sub-optimal manner, you see what's exactly has been occurring, U.S. % of population in the labor force is dropping precipitously, corporations borrowing the free money for share buybacks instead of investing it (there are too few investment opportunities available because resources & capital is being soaked up by government spending). As a result the U.S. economy is anaemic enough the U.S. Fed isn't confident enough to raise rates by a mere 0.25%, 7 years after the 2008 financial crisis.
“That’s why I often said that monetary policy was not a panacea — we needed Congress to do its part. After the crisis calmed, that help was not forthcoming. When the recovery predictably failed to lift all boats, the Fed often, I believe unfairly, took the criticism.” - Ben Bernanke
It does not follow that borrowing cheaply today reduces private spending today (expanding credit = more $ in circulation). It creates future tax obligations, but this is offset by growth in the economy. Growth happens because the government's spending is income to businesses, which increases tax revenues. As this gets spent and re-spent, it creates a virtuous cycle that expands the economy.
You're right, reducing government spending today will contract the economy today.
It does not follow that borrowing cheaply today reduces private spending today
Correct, it increases spending today, and reduces it in the future. The "growth in the economy" will be lost when credit must inevitably contract again. expanding credit = more $ in circulation, more goods will be consumed, less goods in market, less goods invested in the long run. Government's spending is income to businesses, which increases tax revenues. As this gets spent and re-spent and invested, it leads to over-investment for a short period of time, because businesses re-invest the income to produce goods, and the government is unable to increase their spending exponentially to consume those goods without raising taxes. The government must eventually repay the debt it has borrowed, and by forcing interest rates down to reduce its obligations, the income to the private sector from investment in government bonds is reduced. Private sector income is further reduced by expansion of taxation. The reduced income meaning less $ is available to purchase the increased goods that came from the increased government spending, causing temporary deflation that you see today. Expanding available credit to subprime borrowers is the last gasp of the economy trying to keep the expansion of credit before contraction over takes and economic decline returns to the economy[1].
So far the data works out. Labor participation dropping, private investment & private consumption going down, deflation widespread.
Lower savings rate = lower long term economic growth. Keeping interest rate near zero had the effect of temporarily holding the GFC back, but is now going to cause economic malaise in the American economy.[2]
EDIT: tcbawo: I like to see cutting government consumption to increase government investment expenditure. I don't agree with cutting government investment either. Iceland is the only country so far to do what I'd like to see governments doing, and is the only country to have recovered to pre-2007 growth. As a reply to RobertoG: Yeah, I hope I'm wrong because what I'm saying is there's no free lunch. We'll see how long it takes U.S. economy to completely recover, I doubt it will recover for the common person within the next two to five decades, but maybe I'm wrong and there's hope.
Anyway, you say "businesses re-invest the income to produce goods" that is not always true as we can see at this moment. They just hoard the money.
And "Private sector income is further reduced by expansion of taxation", but expansion of taxation is not necessary if the economy is not overheated and the people in charge understand what a public deficit really is.
You could point to government programs where the initial cost paid for itself many times over: the interstate highways system, the GI Bill, telecommunications and science grants, even renewable energy investments. How much of the US's technology industry owes its start to Department of Defense funding?
Also, ut's not clear what you mean by "the data works out". Deficit spending (or national debt hysteria) hardly began with the most recent financial crisis. Demographics are shifting as baby-boomers retire. The vast majority of countries that cut spending in the downturn have lost more in GDP than they gained in debt reduction.
Yet, your point of view still appears to drive policy in Europe and is a factor in US policy. Let the beatings continue until morale improves...
You're saying that the government should never invest in infrastructure. If it's ever a good idea to invest in our transportation, water, electric, etc. (not to mention R&D) then now that private money doesn't seem to have any good ideas is the time to do it.
Now is a good time to reduce the size of the military, cut the TSA, NSA, CIA, Homeland Security, DEA bureaucracy (all of which are consumption activities that provide political power to certain sections of the government), to reduce borrowings and invest in public infrastructure, yes.
Will it happen? No.
What will happen is the U.S. national debt will grow so large, the cans receive a few more dozens of kicks, the "emperor is naked" fable finally comes into play, U.S. will eventually declare bankruptcy, and force to cut its bureaucracy to the bone. The sudden political change will increase political instability in the U.S., and the government may or may not survive, and no matter what happens, a U.S. state will rebuild, starting with expanding the government through investment in public infrastructure, to justify concentrating political power in its hands once again.
But that's another two to five decades away. It will happen no matter what you or I say.
Meanwhile China continues to dramatically invest in all aspects of its economy and surpasses the US while our investments from last century dwindle away. Because people like you have won and we are not ever allowed to invest in ourselves as a country anymore.
I wrote my comments as an observation what U.S. is doing, not what U.S. should be doing. It's only the reality of the situation.
I would like to inform you I am in fact Chinese (living in Australia), and I save 80% of my income for my retirement, and invest in myself. You can blame your government for operating in a way to cause the Fed to lower the interest rate to zero, so that everyone borrows to consume and no one likes to save anymore.
I put away 80% of my income every month to invest in Australia's economy. How much do you save and invest in yourself and your country? As the saying goes, to take care of the world, first take care of your country. To take care of the country, first take care of your family, and to take care of your family, first take care of yourself.[1]
Regardless of nominal debt, the US will never declare bankruptcy. There is no reason to. Our debt is denominated in a dollars, which we have the ability to collect in taxes, or print.
This isn't free money. The interest is free. The principle still needs repayment.
The government could in fact profitably invest a bunch of money in infrastructure. The problem is that the government invests, not where investment is needed, but instead where Congress politically decides to invest money. The results tend to be... sub-optimal.
Is this a good opportunity for the government to invest in needed infrastructure? Yes, definitely. Is it a good opportunity for Congress to decide to spend a bunch more money? Not in my book.
A 0% nominal interest rate combined with a positive inflation rate is a negative real interest rate.
Money borrowed at a negative real rate isn't free, of course, but it is on sale. If we have a billion dollar project that needs to be done, you could save ~five million by spending the money today and paying for it three months from now.
Investing in infrastructure is good beyond the Keynsian stimulus effect. If the return on the investment is greater than the 0% interest of borrowing the money than we come out ahead.
