Fretting About the Future

In Krugman’s column today in the NYTimes, he made a pretty convincing case for turning on the federal government spending spigot—think: a New Deal on steroids—to help get us out of this economic rut. “It’s much better,” he writes, “in a depressed economy, to err on the side of too much stimulus than on the side of too little.” This may be true; but a few words of caution are in order before we start spending money like Sarah Palin at Neiman Marcus.

Let’s think, for a minute, about the financial condition of our government. The national debt stands today at around $10.1 trillion. The projected budget deficit for the single year of 2009 is projected at somewhere around $1 trillion. We are currently fighting two wars, and will be fighting at least one (Afghanistan) for the foreseeable future. The staggeringly long list of government bailout loans (AIG, Fannie, Freddie, all large banks) will only grow longer as Obama pushes to save the Big Three car companies. Tax cuts for the middle class are on the way, but tax increases for those making over $250,000 are likely on hold. Krugman’s public works idea, universal healthcare, and an Al Gore-backed high-tech energy grid are on the wish list of the Obama Administration and the Democratic Congress. All these proposals will cost money as tax revenue shrinks.

This new spending sounds good when thinking in the short term. But what about five years from now when the government balance sheet looks even worse than it does today? Krugman says this is not the time to fret. But what happens when the balance sheet gets so ugly that Asian central banks decide they would rather not continue to finance our ongoing war(s) and multiple bailouts through purchases of US government debt? If and when that day of reckoning arrives, the easiest way out of the hole will be to inflate our way out. By turning the printing presses “to 11,” as Nigel would say, the government can devalue the dollar and more easily pay back its loans to the Chinese. As any politician will tell you, this strategy is much easier than raising taxes and cutting expenditures to balance the budget.

But the big problem with inflating away our debt is that it ends up punishing the very people Obama and the Democrats want to help. Ron Paul rightly calls inflation a “tax on the middle class.” Those who have modest savings and have a salary that is not easily adjusted higher for inflation—that is, the middle class—have their purchasing power eaten away, while those who have ample savings and have investments that rise in price along with inflation—that is, the upper class—do not suffer as much. In other words, inflation is a regressive tax. This injustice is a worthwhile price to pay, one might argue, if we are avoiding another Great Depression. Perhaps. But the specter of high inflation in the future is something to keep in mind as we grapple with this broken economy.

I’m not making a case against bailing out Detroit, or against universal healthcare, or against a comprehensive energy plan. I’m in favor of all those proposals. We just need to understand that, by supporting these programs today, we are making it much more likely that inflation will punish the middle class in the years to come. And politically, Democrats will be on the hook next time around.