The continuing economic recession and President Bush's tax cuts have decreased Federal tax receipts, while huge increases in domestic spending, combined with the costs of waging the war on terror, greatly increased Federal expenditures. Less revenue coupled with higher spending can have only one result: massive deficits. The federal budget deficit is ballooning, and analysts now expect it to exceed $400 billion in 2003. Politicians and commentators on the left solemnly declare that the rising tide of red ink gravely threatens America's economic health. Their criticism of deficits reached a fever pitch with the passage of President Bush's recent ten year, $330 billion tax cut. Many Christians would agree that a policy which apparently mortgages the earnings of future generations to pay for profligate consumption in the present is wrong, fearing that the American government is repeating the foolishness of the prodigal son on a wider scale. Recently, some members of Congress have similarly charged that the deficit issue now transcends mere partisan politics and has become a matter of moral concern. In the words of Rep. John Spratt, a Democrat from South Carolina, "This is becoming more than a fiscal issue, it's become a moral issue." Rep. Spratt and others argue that tax cuts should be opposed on moral grounds because they increase deficit, and thus damage the American economy.

How should a servant of Christ approach this claim? Moral issues cannot be separated from God, and his revealed Word in the Bible. While scripture does not directly address the appropriate level of taxation and public spending in the economy, there is a strong biblical argument to be made that Christians should not support policies that inflict great harm to the entire economy and injure others. As servants of Christ, we are called to love our neighbors, and to pay particular attention to the plight of the poor and those in need. If tax-cut-induced budget deficits harm America's economy, increasing unemployment and making it difficult for poorer Americans with fewer skills to find jobs and sustain themselves, then moral arguments against the deficit have validity. However, this is not the case, and Christians should not feel that their faith impels them to support higher taxes to balance the budget. A budget deficit is merely a situation where the government spends more money than it receives in taxes. What matters to the economy is what causes tax receipts to fall below expenditures, the distinction between lower taxes or higher spending makes all the difference in the world. In and of themselves, budget deficits are merely a means of financing government operations, and are not intrinsically harmful to the economy. They can and do occur as a result of policies that impair economic growth, but deficit financing does nothing to inherently hinder economic progress.

Shortcomings of the Crowding-Out Theory

Some politicians and news analysts argue that deficits raise interest rates, harming the overall economy. The logic is that when the government runs a deficit, it greatly increases the demand for loans in the market. The act of the state borrowing hundreds of billions of dollars reduces the money available to be loaned to anyone else. With less money available, prospective borrowers bid up the rate of interest. The higher rate of interest will entice some individuals to increase their savings, increasing the total amount of money available to be borrowed, but the interest rate is still higher than it was before. Many prospective borrowers, who would have liked to take out a loan at the lower interest rate, now find it no longer feasible at the new, higher rate. The net effect is that government borrowing "crowds out" private borrowing, leaving less money available for the private sector to invest in new capital and businesses, and forcing everyone, such as homeowners and credit card owners, who have taken out loans to pay higher rates of interest. With less investment, and less money available to consumers to spend, fewer workers have jobs and companies earn lower profits, creating a less vibrant economy than if the government had balanced its books.

This analysis seems compelling, but it does not account for the cause of the deficit, which is what affects the economy. If increased government spending incurred the deficit, then the commentators are correct, and government spending does crowd out private investment and impair the economy. If, on the other hand, the deficit resulted from lower taxes, then the increased private spending and investment resulting from the reduced taxes offsets the upward pressure deficits place on interest rates, and the deficit-interest rate argument falls apart.

People do not borrow simply for the joy of owning money, they borrow in order to purchase something tangible, a good or a service, in the present. They are not actually borrowing money, but the immediate use of that item, and the interest rate they pay is the price of using that item now, and not waiting to obtain it in the future. When the government spends, it also consumes resources, and the more resources it uses, the fewer are available for private individuals. It is the government induced increase in demand for goods and services in the economy that drives up the price of borrowing - the more resources the government uses, the fewer are available for everyone else. The government can tax its citizens directly, or run a deficit, in order to pay for these resources, but what drives up the interest rate is government spending. Spending consumes resources, borrowing simply temporarily transfers the current use of resources from lenders to borrowers in exchange for interest payments, consuming nothing. A deficit is one financial instrument that enables the government to pay for its spending, nothing more. In and of itself, the deficit does not consume resources and has no effect on interest rates or the economy.

Tax Cut Induced Growth Counters the Effect of the Deficit

A simply analogy clarifies the issue. Imagine you have $10,000 in savings and have decided to buy a $1,000 computer, with the going interest rate at 10%. There are essentially three ways to pay for the computer. First, you could pay for the computer up front, in cash, removing a thousand dollars from your savings. Or you could borrow a thousand dollars today, and repay the loan, with interest, in a year. Finally, you would have the option of borrowing the thousand dollars with the intention of never repaying it, but simply paying the annual interest costs for the rest of your life. A year later, how much money do you have left?

If you paid when you bought the computer, that left you with $9,000 at the time. With ten percent interest, a year later you have $9,900. If you borrowed the money, and are now repaying the loan, your $10,000 savings will have earned $1,000 in interest, leaving you with $11,000. From this you repay the $1,100 loan: $1,000 for the computer, and $100 in interest on the loan. This leaves you with ... $9,900, exactly the same as if you had paid up front.

What if you never intend to repay the loan? Then your savings will have grown to $11,000, but you must pay $100 in interest, leaving you with $10,900. At first it appears as though you are better off than you were under either of the first two situations, but you still have that $1,000 outstanding loan, forcing you to pay out $100 a year for the rest of your life. As a result, you will need to set aside part of your savings to earn enough to cover your annual interest payments. To provide an annual stream of $100 in interest, you would have to set aside $1,000 of your savings. This effectively leaves you with $9,900 left, exactly the same as you would have had if you paid for the computer immediately, or if you repaid the loan. What affects your net wealth is how much you decide to spend, not how you finance that purchase.

The same situation holds true when considering how we pay for government spending, it is not important how we finance government spending, all that matters is how much gets spent. In the preceding example it might have seemed unrealistic that you could both save and borrow money at the same interest rate. However, when dealing with the economy as a whole, this is no longer the case. Our government borrows from the bond markets, paying the market rate of interest. If the government wasn't borrowing the money, private individuals would, investing in businesses and projects that would also have to pay a return equal to the market rate of interest.

If our representatives raised taxes to pay for their spending in order to achieve a balanced budget, then that would leave less money in private hands to be spent and invested in the economy. With less money being spent, businesses would have lower revenues and have to lay off employees. With less money being invested, there would be less capacity for the economy to grow in the future. Counter-balanced against these difficulties would be the fact that the government would no longer have to pay any interest on the national debt. If our representatives choose not to raise taxes but to borrow the money, creating the dreaded deficit, more money would remain in the hands of private individuals to be spent and invested back into the economy. But while the economy would grow faster, this benefit would be negated by the need to pay interest on the national debt. Raising taxes or borrowing money are merely alternate methods of accomplishing the same task. It is the level of government spending that consumes resources, raises interest rates, and crowds out private activity in the economy, not the method of financing that spending. Consequently, tax cuts do not exert any effect on interest rates.

Lower Taxes Encourage More Investment and Work

It should be noted that taxes discourage economic activity. The more the government takes from people's paychecks, the lower the incentive to work. People will work harder and more often when the income tax rate is at 35% than when it is at 70%. Raising taxes to balance the budget could thus depress the economy by more than the amount of money taken out of private hands, if higher taxes caused people to work less. Conversely, if lower tax rates caused individuals to work harder and save more, then this could provide more growth in the economy than the drag caused by having to pay the interest on the national debt.

This is why criticism of President Bush's tax cuts for increasing the size of the deficit is so off base. Yes, tax cuts increase the deficit, but economically, that doesn't matter. Leaving that money in private hands, and paying for government spending with additional borrowing, doesn't raise interest rates. The increased government borrowing from the private sector is offset - probably more than offset - by the increased money in private hands, and the resulting increase in economic growth. Bush has reduced the top marginal tax rate by twelve percent, the capital gains tax rate by twenty five percent, and the tax on dividends by over sixty percent. Working and saving now provide a considerably higher return than they did before Bush cut taxes, and, consequently, Americans are likely to do more of both. This causes the economy to grow and helps it move out of the current period of stagnation. Tax cuts, even those that lead to deficits, increase the reward for working and saving, and provide greater benefits to the economy than a budget balanced through tax increases.

The real problem is uncontrolled government spending. When a budget deficit is caused by excessive spending, it does decrease the amount of money available for people and businesses to borrow - for that money is not returned in a tax cut, but is spent by the government. These deficits do raise interest rates, decrease private investment, and generally harm the economy. When government spending increases, it takes control of more of the resources in the economy and leaves less room for individual action. This, unfortunately, has been a serious problem in Washington in recent years, even under the Presidency of a conservative Republican. Government spending has increased by hundreds of billions of dollars since the inauguration of President Bush, with the Federal budget now exceeding $2.3 trillion and consuming well over one fifth of America's gross domestic product.

To say that a deficit is inherently harmful is akin to saying that weighing two hundred pounds is inherently harmful, regardless of whether the weight comes from fat or muscle. It is what leads to the deficit that matters. Christians should support tax cuts despite the risks of deficits. Those "unbalanced" budgets will not raise interest rates, impair the economy, or harm the poor and the needy. Deficits do not harm your neighbors, government spending does.