Friday, April 29, 2011

US budget as a percent of GDP - different alternatives

John Taylor always provides insightful work on macroeconomics and his latest piece as an op-ed in the SJ on April 22 is no different. The picture above is needs little explanation. The stimulus from a recession is expected to be temporary. This is counter-cyclical fiscal policy. Over time, the stimulus should be reversed as private sources of growth offset the government stimulus. Consequently, the discussion should be about the path to move back to the long-term government/GDP share.

The Ryan deficit reduction path takes us back to the size of government that existed before the recession. Given the stimulus was supposed to jump-start the economy, this path is reasonable given it will take years to get there. The original Obama budget would never get us to the old level. The size of government would permanently be larger. Even at the new Obama budget proposal, the size of government is still permanently larger.

In this context, the budget choice relative to the long-term deficit is clearer. The end of the world is not coming if we are moving to a proposal that brings government back to pre-2008 levels.

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