News: CJ Exclusives

NCSU Professor Discounts Deficits

Research suggests that gov't taxes, spending do matter

RALEIGH — Government deficits, often given profuse media attention, are actually less important to the overall economy than spending and taxing patterns, an economics professor said Monday at a John Locke Foundation luncheon.

John J. Seater, North Carolina State University professor of macroeconomics and monetary economics, explained that the government spends money in two ways: as transfers between citizens, such as welfare, and purchases. He said transfers from one group of individuals to another have no significant impact on the overall economy, while purchases — of schools, roads, and services — can change the way in which the economy functions.

This type of government spending takes money for its own uses, reducing the income and spending of private citizens, he said.

“Is what the government is doing valuable?” Seater asked. If not, individuals are less well off because of government spending, he said. Government spending affects supply and demand and affect the economy in a way that transfers of wealth cannot. Government purchases cause prices to rise as demand increases.

Tax structure, not average tax rates, also dramatically affects the economy, Seater said. The average level of taxation equals the average level of government spending and does not affect the overall economy. Marginal tax rates, whether as lump-sum taxes, flat-rate taxes, or progressive taxes, influence incentives in the economy, he said.

Progressive taxation discourages normally productive employees from working because the cost of not working is lowered by high marginal taxes, Seater said. When individuals receive less of each dollar they earn as they work more, incentives to work disappear. On the other hand, lump-sum taxation and flat tax rates encourage work because additional productivity is rewarded.

Government debt and the national deficit have limited effects on the economy, Seater said. Despite the attention they receive in the media, deficits do not really matter. “Suppose the government cuts taxes today by $100, and instead borrows $100 in the form of Treasury bills,” he said. In one year, the government must collect as taxes the $100 it borrowed, plus interest in order to pay back the Treasury bill. However, an individual can plan for the future by buying Treasury bills so that the amount of taxation cancels the amount paid.

He argued that many opponents of deficits fail to consider that individuals plan for future spending when making fiscal decisions. The issuance of government debt acts exactly in the long run like transfer spending and has no net effect on the economy.

Seater explained that government deficits are normal either when government spending increases or when the economy shrinks, as in a recession. In both situations, the amount of government spending grows as a proportion of the GDP. The only alternative to issuing debt in these situations would be to raise taxes. He argued that issuing debt is a better way to deal with recession because it does not complicate the tax structure.

Seater concluded that the only facets of fiscal policy that significantly affect the economy as a whole are the total level of government spending and the structure of the tax law. He said that the national media are asking the wrong questions, that they should be addressing taxes and spending instead of the national deficit.

Ashley is an editorial intern at Carolina Journal.