That Monster Deficit

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international competitiveness of American industry.

By keeping interest rates high in the U.S.

in comparison with what they are in other countries, the budget gap spurs foreigners to put money into American bank deposits, bonds, Treasury bills and other investments. First, though, they must convert marks, pounds or francs into dollars. That raises the value of the U.S. currency on exchange markets. The Council of Economic Advisers reports that since 1980 the dollar has risen 52% against an average often major currencies. As the dollar goes up, American products become more expensive abroad, while foreign goods become cheaper in the U.S.

This has made life difficult for American companies that sell overseas and for those facing foreign competition in the U.S. American exports of manufactured goods fell 5.2% last year, while imports increased 13.5%. Even the healthiest U.S.

industries were hit. Exports of computers and office machines rose 15%, but imports surged 58%. Feldstein predicts that the U.S. merchandise trade deficit will reach a record $110 billion this year.

The flood of foreign capital into the U.S., some $46 billion in the first nine months of 1983, has, of course—, had a beneficial side effect. Without that inflow, U.S. interest rates would have been an estimated 1 to 3 percentage points higher. But it has also raised the almost shocking possibility that the U.S. will soon become a debtor nation for the first time since 1917.

At the end of 1982, Americans had investments abroad totaling $834 billion, while foreign holdings in the U.S. amounted to $665.5 billion. Projections of present trends indicate that some time in 1985 the U.S. may owe foreign countries more than they owe America.

Another concern is that the U.S. appetite for foreign money has made the country vulnerable to a sudden flight of capital. If investors abroad were to lose confidence in the U.S. economy, the value of the dollar could decline, perhaps dive. Many foreign investment advisers are now counseling their clients to be wary. Says Economist Richard O'Brien of the Amex Bank in London: "The dollar is like a long rubber band. The longer it stretches, the harder it snaps back on you."

The dollar is already showing a bit of weakness. In the past month it has fallen 7% against the West German mark and 5% against the British pound. American economists expect the dollar to drift downward, by perhaps 10% this year. Moreover, experts do not rule out a precipitous dollar plunge. If that happened, it could drive up American interest rates and fuel inflation in the U.S.

The most serious damage caused by the large deficits is a slow corrosion of the American economy. In many ways, the deficits are creating a false sense of prosperity. They are putting spending money in consumers' pockets, but they are draining funds from badly needed investment. By consuming too much and building too little now, the U.S. is damaging its future industrial capacity. "The real harm done by deficits," says Congressional Budget Office Director Rudolph Penner, "is the negative impacts on long-run growth and future living standards. The process is gradual, with no easily identifiable, traumatic event that clearly illustrates the effects of deficits."

In trying to cut the budget, Congress and the Administration face the fact that