The federal deficit matters now more than ever

A decade ago, the U.S. was deep into a misguided elite-driven freakout about the federal budget deficit. Back then, inflation was low, interest rates were low, and unemployment was high. In other words: There was no urgent reason to have a debate about ways to reduce federal borrowing.

Now the situation is transformed in every respect. And yet there is no serious political discussion about the need to cut the deficit.

Current unemployment is very low and has been low for a while. Inflation has moderated considerably but remains above the Federal Reserve's 2 percent target. And curbing inflation required interest-rate increases that are putting real stress on the markets for housing, renewable energy and other capital-intensive goods.

So why the reluctance to talk about the deficit, much less do something about it? Paul Krugman, for example, who despite his reputation as a deficit enthusiast is in fact true to his Keynesian convictions, wrote last week that "now would be a good time to rein in deficits" but advised against spending too much time on the subject because "the chances of serious action on the deficit anytime soon are near zero."

Pessimism about decisive political action on major problems is almost always warranted. There are a lot of veto points in the U.S. political system, and a House Republican caucus that can't even install a speaker is very unlikely to revisit GOP anti-tax dogma.

That said, merely recognizing the significance of the deficit is a big deal. President Joe Biden was a strident deficit hawk for most of his career before pivoting to favor aggressive stimulus in the wake of the pandemic. But his administration sometimes acts as if it doesn't realize economic circumstances have changed. An Oct. 4 tweet from the official White House account argued that the administration's student-debt relief program "also grows the economy. Benefits everybody. Hurts nobody."

If the U.S. had a deeply depressed economy, that logic would make sense. Even though student loan relief only directly benefits a minority of the population, putting extra cash into the pockets of borrowers drives them to spend more. That means more diners at restaurants, more tips for waiters, more jobs building and shipping durable goods, more tax revenue for state and local governments, and an all-around more prosperous economy.

But the Biden economy isn't deeply depressed. It's not even slightly depressed. Thanks to Bidenomics, the U.S. is fully employing the manpower and resources available to the country for the first time in my career. That's great news – but it means that government money isn't free. Both the extra borrowing needed to finance the student-loan relief and the inflationary pressure of recipients' added spending tend to push interest rates up.

That doesn't necessarily make the student-loan forgiveness program a bad idea. But it does mean this is not a world of free lunches. People looking to get mortgages, for instance, will have a harder time.

More broadly, as Krugman used to emphasize, the whole economic picture changes when you flip from a world of depressed demand to a world of full employment.

A decade ago, writing in defense of planned new regulations on power plants, Krugman explained that even if the rules did push up electricity prices, they wouldn't hamper the overall economy "because neither costs nor lack of capacity are constraining the economy right now." Instead, by essentially forcing utilities to prematurely retire old coal plants and replace them with accelerated investments in renewables, the rules would actually create jobs. That's the logic of what he memorably called "Depression Economics" – an entirely different set of policy rules that apply when unemployment is high and interest rates are low.

Even if Biden has no realistic way to enact large-scale deficit reduction, he has a lot of freedom on regulatory matters.

It's important for both the administration and its progressive allies to understand the significance of this point. When Barack Obama was president, the idea of cutting red tape and identifying unnecessary or overly burdensome regulations made sense as a political message, but it had very little actual upside to the economy. At the same time, when regulations were accomplishing something useful, it was fine to treat their alleged costs as largely illusory, just the way the White House characterizes its student-loan efforts.

But in a world of non-depression economics, all that is inverted. Eliminating or reducing unnecessarily strict regulations will bring large economic benefits by increasing the productive capacity of the economy. And new regulations, while not necessarily a bad idea, have costs and tradeoffs that are worth taking seriously.

Aside from the various policy and economic considerations, there's also the matter of next year's election.

Democrats might want to mention that if Republicans win, they are likely to do what new GOP administrations always do: Blow out the deficit with tax cuts. That would have more force as a complaint if coupled with a plan for deficit reduction.

Speaking of which – what are Democrats' plans if they do really well in 2024 and retake the House while holding the Senate and the presidency? Granted, it's not the most likely scenario, but given the narrowness of the current margins, it's not particularly unlikely either. Based on my conversations with people on Capitol Hill, Democratic governing priorities amount to a loose agreement to take up some of the unfinished business of Build Back Better.

Some of those ideas are probably salvageable. But it would be a big mistake to put forward in 2025 an agenda designed for the economic circumstances of 2021. It's all well and good to say that deficit reduction is unlikely to be achieved right now because Republicans won't agree to raise taxes – but if Democrats win, they get to decide for themselves what's politically realistic. A promise to tax the rich in order to reduce deficits and interest rates makes a lot more sense than an agenda of tax and spend.

Again, neither a bipartisan deal this year nor a Democratic electoral sweep next year is very likely. But the odds aren't zero, and it's worth talking now about ideas that make economic sense.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Matthew Yglesias is a columnist for Bloomberg Opinion. A co-founder of and former columnist for Vox, he writes the Slow Boring blog and newsletter. He is author of "One Billion Americans."