The Great Deficit Dilemma

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Another flood of red ink dismays economists, bankers and consumers alike

The irony is all too obvious: Ronald Reagan, who built a political career, in large part, out of making lacerating attacks on Democrats for runaway spending and ballooning federal deficits, now finds himself presiding over an economic policy that threatens to produce the biggest run-up of federal debt in American history.

During the 31 years between 1950 and Reagan's Inauguration last January, the federal deficit swelled by about $430 billion. Yet in the four years of this Administration the national debt may well increase by an incredible $400 billion more. Including so-called off-budget expenditures, such as federal-loan-guarantee programs for farmers, students and small businessmen, the Administration's real credit needs by 1984 will be a towering $1.4 trillion. The question that now hangs like a shroud over Reaganomics is whether the economy can endure such huge deficits and borrowing requirements.

Quarrels about the effects of deficit spending by Government are as old as modern economics itself. Since the 1930s, followers of Britain's John Maynard Keynes have argued that deficit spending during recessions is not only justified but is often the only way to end periodic slumps in the business cycle. Experts generally agree that it was the huge deficit spending of World War II that finally got the U.S. out of the Great Depression.

Keynes, however, did not believe that deficits were necessary in periods of economic expansion. Nonetheless, the U.S. has run a deficit in both good and bad economic times for 20 out of the last 21 years. Conservative economists, and even some liberal ones, have long warned that inflation or recession, or perhaps both at once, would inevitably result from such free-spending policies.

Liberals and conservatives are joining forces now to warn of the dangers of the deficits. Walter Heller, a Democrat who was chief economic adviser to both John Kennedy and Lyndon Johnson, argues that the Administration's deficit spree might induce such tight money that it would abort any recovery. Heller wants to shrink the deficit mainly by raising taxes in 1983, a step that could batter the economy even lower. Some conservative economists predict that the result of the red ink will be higher interest rates. Says Burton Malkiel, an adviser to Gerald Ford and now dean of the Yale School of Organization and Management: "You have a $100 billion deficit running smack against a tight rein that the Federal Reserve has held on the money supply. That will push up interest rates."

Attempts last week by Administration officials to play down the importance of deficits sounded both forced and weak. Reagan spokesmen, for example, have been saying that the deficit is not so important because the new tax cuts will increase the savings rate and thus enlarge the amount of money available for borrowing. They point out that both Japan and West Germany run higher deficits than the U.S. in relation to the size of their economies, yet that is not a serious problem for these two countries because their level of savings is more than twice that of the U.S. Said Treasury Secretary Donald Regan last week: "By 1984 we'll have an additional $250 billion in the savings pool. That is way more than enough to handle the increased deficit."