For Californians, the ballooning federal budget deficit looks a lot like home. Unlike Sacramento, however, Washington doesn't have to contemplate painful measures to pay off its debt, which the Congressional Budget Office is predicting will hit $480 billion in 2004 and nearly $1.4 trillion over the next decade. But the fiscal consequences will be similar, saddling the next generation with this one's profligacy. Shades of President Lyndon B. Johnson's "guns and butter" policy.
President Bush is right in arguing that temporary deficits can help the nation pull out of a downturn. Consumer confidence is up and the stock market has climbed fitfully in recent months. The key word is "temporary." With Iraq costing $4 billion a month, massive new tax cut increments scheduled in coming years and the baby boom generation preparing to retire, the deficit is about to become a permanent fixture.
This is a replay of the late 1960s, when Johnson insisted on conducting the Vietnam War while expanding domestic programs. His approach, partly intended to mute objections to the war, gummed up the economy for years. When the government goes that deeply into debt, it drives up interest rates as it seeks funds to pay for the deficit. Add in an oil crisis in the early 1970s and the result was years of stagflation -- a stagnant economy and high inflation. The situation persisted into the 1980s; in 1981 there were 18% mortgage rates and a 10.3% inflation rate.
Current oil price increases are already a wet blanket on recovery. Long-term interest rates have also begun to increase as investors worry about the deficit.
Some on Wall Street are starting to worry about business losing capital as the federal government siphons off investments into government bonds to pay for the debt. Investment firm Goldman Sachs & Co. warns that the nation's long-term budget outlook is "terrible, far worse than the official projections suggest."
In fact, the Congressional Budget Office says the deficit will grow even larger if Congress enacts a prescription-drug benefit under Medicare and makes temporary tax cuts permanent. With the costs of the Iraq occupation soaring, the government could be in the hole by more than $5 trillion in 2013. The Center on Budget and Policy Priorities, a liberal research group, says even the current official projections are too optimistic.
The numbers are eye-glazing. But higher unemployment and interest rates won't be.