How can a budget deficit in the US lead to a recession and what would the global implications of this be?

Question

Please help by providing as much information as possible. Thanks, Colin

Answer 1

Everyone knows China will lead the world. How can you argue with an economy where the Americans are outnumbered nearly 4 to 1. Its funny how many Americans I've met who are convinced the US has been a world leader ever since it became a country in the late 1700s. The US was nothing on the world stage up until after world war two and has really only enjoyed its limelight for about 60 years. That's just a flicker of light when you consider the British Empire lasted for about 150 years, the Roman Empire for nearly a 1,000 years and the Chinese dynasties for even longer.

The Americans only greatly benefited from World War 2 because they didn't suffer any damage on their home turf and wasn't burdened by the costs of rebuilding their cities. That's the way the US has fought every war this century... from their safety zone back in North America that is out of range of all of their enemies. They're cowardly victors... always taking on "enemies" that have no way of returning fire... dropping bombs from 65,000 feet where they can't possibly be touched. They come home afterward flying their flag going "RA RA RA! Look everyone... aren't we great!? aren't we God's gift to the world as their saviors and 'liberators'?" Meanwhile I see no honor in picking a fight with a foe that can't defend themselves. That's like kicking an old man or a child to death and then coming home and saying, "didn't we do a great job at kicking their asses?"

If you ask me, the US deserves to crash and burn into infamy if they keep running their foreign policy the way they have been. "Those who have the power must be just and those who are just must be put into power".

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As for your question about budget deficits affecting the economy, imagine you're an investor looking for a place to invest your money and you come across a company that is losing money hand over fist and seems to not even care about the debt it is racking up. Would you invest if it will take 3 generations or more to ever get out of that debt back to pre-Bush levels? I would guess you'd keep looking. That loss of confidence is what snowballs into a country-wide recession. When the Fed lowers interest rates to spur consumer spending and still nobody spends because their jobs (and their income) have all dried up and moved to China (a country that doesn't fight fruitless and unpopular wars based on total fiction and propaganda) something is seriously wrong with the future of America. You can't drop interest rates below zero percent... there's only so low the Fed can go and inflation will kill off the rest of the hope.

Answer 2

A budget deficit would not cause a recession. Typically it might be the RESULT of a recession, as a declining economy would quite suddenly spin off less tax receipts than expected.

In fact the deficit in and of itself is probably neutral to economic growth. Keep in mind that the government has exactly 2 primary ways to acquire the money it needs to pay for government spending:

1) taxation, in which the government takes money by force from citizens, whether they can afford it or not

2) Borrowing (selling bonds), in which the government accepts money from people who voluntarily feel a government bond is in line with their investment goals, and who by definition can afford it.

Keeping this in mind I often wonder why some people prefer coercive taxation to voluntary lending. Borrowing is pretty benign as long as it's manageable -- which in the US today it certainly is.

It is a misconception to speak of the US relying on some certain entity to finance the deficit. For one thing, the majority of the deficit has always been and continues to be financed by American people and corporations. Second, there is always more than enough capital available to finance any deficit the US is likely to run. It's simply a question for investors of which asset to invest in today -- a Treasury Bond or some alternative asset? If the gov't wants to sell more bonds than the auctions are willing to buy at any given time and interest rate, they just raise the interest rate a nudge until the equation changes to attract sufficient buyers.

So too much of a deficit could theoretically cause a rise in interest rates ("crowding out"), but in reality a million different things also influence interest rates, and there is no real correlation at least for the US (and Japan) suggesting deficits cause rates to rise.

Answer 3

Well usually a govt runs a budget deficit in order to stimulate the economy so it usually solves a recessiion rather than causes one but the issue you raise is if it continues to run budget deficits what will happen... My university lecturer has pointed out that the US budget was during the 80's funded largly by the japanese household savings (which were enormous, i think they had something like 3 trillion US dollars locked up in their postal savings accounts), since then the japanese savings rate has decreased dramatically (thanks to the deregulation of the japanse financial markets and the subsequent Heisei recession)and now the central banks in asia (particularly china) are funding the US budget deficit (this is because the US is where most of their exports go so it's in their interest to keep the US economy going strong... the risk is that if the US budget deficit continues it may become impossible for the asian central banks to keep funding it.. if this happens then the US dollar will depreciate dramatically leading to a world wide recession.

Answer 4

What? We cant understand for inflation the FED prints out money by way of fact its a private/significant financial corporation we can't audit the FED. "Fascism ought extra exact be called corporatism by way of fact it particularly is the suited merger of ability between the corporate and the state." -- Benito Mussolini answer Congressman Ron Paul has presented HR 1207 - The Federal Reserve Transparency Act of 2009. This invoice might enable the government duty place of work to audit the Federal Reserve, an action that's at the instant crippled below the regulation. i motivate everybody to call their representative and urge them to co-sponsor HR 1207. --Federal Reserve Transparency Act - HR1207 - Ron Paul people who do no longer learn from historic previous are doomed to repeat it Fiat forex by no ability Lasts Ever by way of fact the FED has been been in ability the procuring ability of the dollar is dropped ninety 5% from 1913. “i've got faith that banking institutions are extra risky to our liberties than status armies. If the american people ever enable inner maximum banks to regulate the project of their forex, first via inflation then via deflation, the banks and firms that will improve up around will deprive the people of sources until their babies wake-up homeless on the continent their fathers conquered. The issuing ability could be taken from the banks and restored to the people to whom it exact belongs. “ Thomas Jefferson, letter to the secretary of the treasury albert gallatin 1802 "that's certainly adequate that folk of the country do no longer comprehend our banking and fiscal equipment, for in the event that they did, i've got faith there could be a revolution in the previous the next day morning." -----Henry Ford yet oh, we could by no ability query our government. in simple terms get in line at the back of the different sheep in silence and obey, please. It makes it plenty much less complicated for the rest people.

Answer 5

Economies of several countries could suffer because US is the biggest importer of several goods from various countries.

Answer 6

Reasons for an impending US economic recession
For the US, this rapid, steep decline in the growth of consumer spending is the first decisive consideration to expect in the United States impending serious recession...
Trying to assess the situation and further growth prospects of the US economy, the first important fact to see is that the US economic recovery since November 2001 has been by far the weakest in the whole postwar period. Just a few tidings composed by the Economic Policy Institute in Washington:

First, inflation-adjusted hourly and weekly wages today are below where they were at the start of the recovery in November 2001; second, median household income (inflation adjusted) has fallen five years in a row and was 4% lower in 2004 than in 1999; third, total jobs since March 2001 (the start of the recession) are up 1.9% and private jobs 1.5% (at this stage of previous business cycles, jobs had grown 8.8%); fourth, the unemployment rate is low only because several million people have given up to look for a job.

And here are some cursory remarks on our part: First, job growth has steeply fallen during the last three months, from 200,000 in February to 75,000 in May; second, all the job growth has come from the artificial net birth/death model, implying that it is booming among small new firms not captured by the payroll survey, while slumping in existing firms; third, private household indebtedness since 2000 has soared by 70%. This compares with an overall increase in real disposable personal income by 12%.

Reasons for an impending US economic recession: US consumer spending

According to the popular GDP accounts, US consumer spending in the first quarter has burst by a record rate of 5.2%. That is the fact on which everybody happily focuses. Few people realize, first of all, that this is an annualized figure. The true increase against the prior quarter was 1.3%.

In any case, though, it is a grossly distorted figure. The reality of the first five months of 2006 is that the consumer-spending boom of the past few years has effectively broken down. But to realize this, it is necessary to look at the sequence of monthly data. Here they are, from the same source as the GDP numbers, the Bureau of Economic Analysis (BEA):

By these figures, measuring spending and income growth from month to month, consumer spending in the US in the first quarter has increased 0.6%, or 2.4% annualized, less than half the 5.2% as reported in the GDP accounts. As we have stressed several times before, the big difference between the figures arises from the fact that the GDP measures changes in averages. The big increase in consumer spending happened in reality in November/December 2005, resulting in a large "overhang" for the following quarter. To detect a recent change in trend, it is necessary to focus on the changes from month to month, as above. For May, reported retail figures showed an increase by 0.1% before inflation. With a monthly inflation rate of 0.3%, total real spending should be at a minus.

This sudden weakness in US consumer spending has an obvious reason. The spending bubble on consumer durables - that is, on autos and housing durables - is going bust. It was largely spending borrowed from the future to be implicitly followed by payback time. For the US, this rapid, steep decline in the growth of consumer spending is the first decisive consideration to expect in the United States’ impending serious recession; and remarkably, this is happening with record credit growth and even before the housing bubble is truly bursting.

That this most important fact goes completely unnoticed says something about the depth of research. Moreover, this sharp slowdown in consumer spending strikingly conforms to the downward shift in the growth of real disposable personal incomes. In 2005, it was already down to 1.3%. So far in 2006, it is zero.

Under these miserable US income conditions, the strength of future consumer spending manifestly depends on the possibilities of ever-higher cash-out mortgage refinancing against rising house prices. It hardly requires any intelligence to have realized by now that this is flatly impossible.


Reasons for an impending US economic recession: Current credit expansion

Looking at the accelerating credit expansion, we are, as a matter of fact, more than doubtful that the slowdown in the US economy and the housing bubble has anything to do with the Fed’s rate hikes. What crucially matters for both is the current credit expansion, and that keeps accelerating. But the problem is that more and more credit creates less and less economic activity, as measured by GDP.

The unrecognized problem in the United States is that economic growth driven by a housing bubble is extremely credit and debt intensive. It needs, firstly, heavy borrowing to drive up the house prices and, secondly, further heavy borrowing to turn the resulting capital gains into cash. Put this together with minimal or now zero real disposable income growth and you have something like a credit Moloch devouring credit and leaving less and less for economic growth.

Yet we are sure that the US economy’s extraordinary debt addiction has other reasons unrelated to the housing bubble. One is the huge trade deficit, and the other is extensive and rapidly increasing Ponzi finance.

The American consensus view holds that the trade deficit, however large, does not matter because foreigners easily finance it. This view reveals the total absence of any serious analysis of related domestic income and debt effects. The obvious first major harmful economic effect is that domestic producers lose an equal amount of domestic spending and income creation to foreign producers, and that today in a staggering annual amount of more than $800 billion, equal to about 7% of nominal GDP.

Such persistently large and growing income losses from the trade deficit would have pulled the US economy into recession long ago. It has not happened because the Greenspan Fed, by way of loose and cheap money, provided for a compensating increase in domestic demand through additional credit creation. It succeeded, true, but the thing to see is the additional credit and debt creation. This was justified with low inflation rates. Ironically, the import boom in the trade deficit has been very helpful in suppressing US inflation.

Yet there is still a second major harmful effect to the trade deficit that American economists completely ignore. Implicitly, the alternative demand created by the looser US monetary policy is different from the demand that emigrates to foreign producers. The big loser is the export industries in manufacturing. The gains, via the surrogate demand, have been in consumer services and goods.


Reasons for an impending US economic recession: The US trade deficit

In essence, the trade deficit alters the US economy’s structure in a negative way. The losing manufacturing area is the sector with the highest rate of capital formation, and therefore also the highest rate of productivity growth. For good reasons, it also pays the highest wages. Consider that US manufacturing lost 3 million jobs in the past few years. To be sure, the trade deficit is not its only reason, but unquestionably a major one.

Pondering the US economy’s unusually high addiction to credit and debt growth in relation to GDP growth, we are sure of another evil factor - Ponzi finance. Principally, every increase in spending brings about an equivalent increase in incomes. But this is not true in three cases of spending: first, spending on existing assets; second, spending on imports; and third, Ponzi finance.

Ponzi finance means that lenders simply capitalize unpaid interest rates. Ponzi finance creates credit, but it is bare of any demand and spending effects in the economy. In the conventional American view, balance sheets of private households are in their very best shape because increases in asset values have vastly outpaced the sharp increases in debts. So Americans see no problem.

With such great optimism about the US economy still prevailing, it is a safe assumption that lenders have been more than happy to capitalize unpaid interest rates as new loans, at least until recently. As widely reported, lending standards have been extremely lax for years. Nevertheless, there is bound to come a point where Ponzi lending stops.

The crucial difference is in the ghastly difference between runaway debt growth and nonexistent real disposable income growth as the income component from which debt service has to be paid. In 2000, consumer debt growth of 8.6% compared with real disposable income growth of 4.8%. During the first quarter of 2006, private household debt growth of 11.6%, annualized, compared with zero real disposable income growth.

These numbers suggest that, in the aggregate, all debt service occurs through Ponzi finance. Essentially, borrowing against existing assets is required to service debt. Another striking evidence of extensive Ponzi finance is the unusually large difference between rampant credit growth and much slower money growth. Capitalizing unpaid interest rates adds to outstanding credit and debt while adding nothing to bank deposits (money supply).

To get an idea of the actual extent of Ponzi finance, we make a simple calculation. Total outstanding debts in the United States amount to $41.8 trillion. Assuming an average interest rate of 5%, this implies an annual debt service of about $2 trillion. This compares with an increase in national income before taxes of $616 billion in 2005. Consumer incomes are even stagnant.

Under these conditions, the only question is the severity of the impending US recession. In this respect, we are a great believer in the axiom of Austrian theory that every crisis is broadly proportionate to the size of the excesses and imbalances that have accumulated during the prior boom. Our basic assumption is that the American consumer is bankrupt when house prices fall 20 - 30%.

The most important thing to realize is that the spending and debt excesses that have accumulated in the US economy and its financial system on the part of the consumer during the past 10 years are altogether of a size that vastly exceeds the potential for debt service from current income.

Reasons for an impending US economic recession: Debt trap

With stagnant real disposable income and double-digit debt growth, the American consumer is caught in a vicious debt trap. What, then, makes most people so optimistic of further economic growth? Apparently, there is a widespread view that households have sufficient equity cushions in their balance sheets to not only weather any storm ahead, but also to continue higher spending.

In our view, the most important thing to see is the fact that the US consumer has accumulated debts at a level vastly exceeding his abilities of debt service from current income. Probably many never had any intention of such kind of debt service. The general idea, certainly, has been to settle debt and debt service problems simply by selling later to the highly appreciated greater fool. That is what most economists take for granted.

What all these people overlook is, first of all, the vicious dynamics of Ponzi finance through compound interest on unproductive indebtedness. During 2000, total financial and nonfinancial credit and debt growth in the US amounted to $1,605.6 billion. In 2005, it had accelerated to $3,335.9 billion; and in the first quarter of 2006, it has run at an annual rate of $4,392.8 billion, and this now with zero income growth. Note that this debt explosion has happened with little change in GDP growth.

Given this precarious income situation on the one hand and the debt explosion on the other, it should be clear that at some point in the foreseeable future, there will be heavy selling of houses, with prices crashing for lack of buyers.

As to the level of asset prices in the United States, an additional comment is probably needed. Normally, the money for asset purchases comes from the savings out of current income. In the US economy, with savings in negative territory, all asset purchases essentially depend on available domestic credit and capital inflows. Buying assets on credit used to be the exception. In America today, it is the rule. For good reasons, the Fed is fearful to make money truly tight; it would crush the markets.

A study by the International Monetary Fund published in 2003 under the title "When Bubbles Burst" examined the differences in economic effects between bursting equity bubbles and bursting housing bubbles. It left no doubt that the latter are the far more dangerous specimen:


Reasons for an impending US economic recession: House price crash

Housing price crashes differ from equity price busts also in three other important dimensions. First, the price corrections during house price busts averaged 30%, reflecting the lower volatility of housing prices and the lower liquidity in housing markets. Second, housing price crashes lasted about four years, about 1 1/2 years longer than equity price busts. Third, the association between booms and busts was stronger for housing than for equity prices.

The situation today in the United States reminds us strongly of late December 2000. At its previous meeting in November, the Federal Open Market Committee directive had called future inflation the economy’s greatest risk. But then, all of a sudden, the bottom fell out of the economy. At its next meeting, on December 19, the FOMC changed the bias, declaring that the risk of economic weakness was outweighing the risk of inflation.
Two weeks later, Jan. 3, 2001, shocked by worsening economic news, the Fed dropped its funds rate, through a conference call, by 0.5% - twice the usual rate.

As we have stressed many times, the US economy today is incomparably more vulnerable than in 2000. All the growth-impairing imbalances in the economy - the trade deficit, the savings and incomes shortage and the debt levels - have dramatically worsened.

Very rapid interest rate cuts and prompt massive government deficit spending succeeded in containing the recession. The phoney "wealth effects" derived from the escalating housing bubble became the key source of demand creation in the United States. But the unpleasant longer-term result of the new policies was an unusually weak and lopsided economic recovery, particularly seeing drastic shortfalls in employment and income growth.