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How do you quantify investor confidence in a country with a balanced budget?

Your basic point is obvious, but I have to question your accounting. A budget that is balanced is by definition financing all expenditures, including interest, out of current income. A surplus is money above and beyond this. So the opportunity cost of spending a surplus cannot be the refinancing of existing debt. It can be: 1. a foregone reduction in taxes, or 2. a foregone opportunity to call existing debt.

Not much government debt is callable (short of special legislative measures.) Debt that was callable on issuance would embed the option premium, negating your point about cheap money during recessions. A tax cut during a boom would goose the economy even more; not necessarily a good thing. If the cut were not sustainable during the next downturn, it would be procyclical, an automatic destabilizer. The ideal would seem to be to never run a recurring surplus, but to run persistant deficits such that the through-the-cycle rate of debt accumulation does not exceed the growth in the economy. Fine judgment is required! :-)

Hi Phil,

It isn't so much that the new debt is getting recalled, just that it isn't being re-issued when it matures.

"How do you quantify investor confidence in a country with a balanced budget?"

Balanced over what time frame? 1 nanosecond? 1 year? 10 years?

Balanced over what time frame? 1 nanosecond? 1 year? 10 years?

Google: "balanced budget investor confidence". You'll find many examples over many time frames - so obviously it is not an abstract issue - but neglected here.

Oh, do I just not know what "balanced budget" means? Apologies for that, and thanks for the education. (I had supposed that a balanced budget is one that pays debt as it matures, rather than rolling it over in perpetuity.)

Georgian - Huh? Are we talking about the same thing?

'Investor confidence' is pretty easily observed in bond yields etc, so why borrow trouble? As Mike points out, the cost of capital is usually lower during recessions, and tax revenue higher during booms. Suggests to me that balancing the gov'ts budget over the business cycle would be a good starting point, whereas picking some arbitrary fixed time interval - like one year - would be extraordinarily stupid. Just look at the pain in US states with annual balanced budget requirements.


Government debt may not be callable as such but it is most definitely for sale on the open market at predictable prices. There isn't much difference when the government wants to retire debt if they call it, purchase it or just plain redeem it without refinancing it. Around 2004 when we were running surpluses there were papers on Finance's website on this. The powers-that-be thought it was wiser to purchase smaller and "off-the"run" issues maturing in three years or less and concentrate the market on larger, more tradeable issues rather than just retiring each and every bond issue as it came due. The goal was to keep prices high and interest costs low.

Mike, this mistitled post makes a correct argument about public financing of one-time investments. But it does not have much to do with CIT cuts and does not even mention them (outside of the title).

Erin: Yeah, the title isn't the greatest. Just called it 'Part II' because it's a continuation of my thoughts from yesterday. Probably should call it something else.

There.. fixed.

Patrick,

If lowering CIT allegedly results in marginal investments, then running deficits (in fact extended in length due to CIT cuts) should have the opposite effect. No? Why not?

A "balanced budget" is one in which debt is neither increasing nor decreasing. If you are not rolling over debt, then you are running surpluses, not balancing the budget.

But as GDP is rising, and you really care about debt/GDP, then you would never want a balanced budget, you would want a budget that in general is in deficit.

Moreover, as the weighted average risk-free rates are in general lower than the growth rate of GDP, you would need to run larger deficits.

For example, using historical U.S. data, if you assume an income growth rate of 3%, risk-free rates for maturities in the 6 YR range of 1.7%, and an "ideal" debt/GDP ratio of 60%, then you would need to run a *primary* deficit of about 1% of GDP every year to keep the debt/GDP level constant. This means a structural budget deficit of about 2% of GDP, across the business cycle.

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