Balanced Budget Amendment Is Dangerous

The Wisconsin Assembly recently endorsed the convening of a constitutional convention for the limited purpose of requiring an annual balanced federal budget. This good-sounding-but-misguided measure has been coordinated on the national level by the American Legislative Executive Council (ALEC), an organization that Wisconsin Republicans often look to for guidance when designing their economic positions. ALEC drafts model legislation, coordinating the wording across the states that adopt their template, assuring compatible legislation. Another national group that advocates for a balanced budget (although not officially promoting a constitutional convention) is NO LABELS, a non-partisan organization begun by Jon Huntsman, former Presidential candidate and former Governor of Utah. At present, the Wisconsin Senate is considering the Assembly’s endorsement of a constitutional convention (the call for a convention requires endorsement of 34 states; Wisconsin would be number 28).

Currently, the national debt owed to the public is approximately $14 trillion, roughly 78% of national income. While large, it is far less than in 1946, when the national debt was 120% of national income. During most of the post-WWII period, this ratio fell steadily due to economic growth; i.e., national income grew faster than national debt. The ratio was lowest at 30% in 1980, and then it rose due to the large Reagan administration deficits, only to fall again during the dot.com bubble of the late 1990s. Since then, it has steadily risen, primarily due to the efforts of Presidents Bush and Obama to use deficit spending, i.e., borrowed money, to fight the Great Recession.

In nations as well as households and business firms, debt is a tool for growth, not a retardant. Households and businesses borrow money to buy assets like houses and business equipment, fully intending to reduce their debt out of future income and retained profits. Because borrowing permits assets to be used much sooner than they could be bought without borrowing, debt accelerates their economic growth. Like these private sector counterparts, the federal government uses debt to buy assets. However, many of these are intangible, such as victory in World War II or the health of the population or the boost in productivity resulting from modern roads and water systems. Such intangible assets are not carried on “capital accounts” to be directly compared to financial liabilities.

The greatest danger to the nation from the balanced budget amendment is the elimination of the deficit as recession-fighting tool. Recessions occur when consumer and business demand for goods, services, and assets is insufficient to maintain full employment without inflation. Because interest rates tend to be low during recessions, it is an especially good time for the government to invest in infrastructure. The government can borrow at low cost to invest in the construction and repair/replacement of roads, water/sewer, structures, ports, broadband and a host of other infrastructure assets. Such spending not only builds the productive asset base of the nation, it also employs people who would otherwise be unemployed. By contrast, a balanced budget amendment would require the government to take money out of the economy during recessions, just when the opposite is needed.

Requiring a balanced budget in all years would impose unnecessary economic hardship during recessions, far worse than what we’ve seen in the past nine years. Borrowing to pay for infrastructure investment during recessions not only shortens and ameliorates such downturns, it also uses such time periods to increase the competitiveness of the nation by investing in assets that boost productivity and reduce costs. These preparatory investments are much like the Green Bay Packers working out in the off-season in order to have a better season. A balanced budget amendment would miss such perfect opportunities to upgrade infrastructure, rendering the nation less competitive when the economy expands again. With advances in computers and economics, economists can now estimate what would have happened had the balanced budget amendment been in effect during the Great Recession of 2008-9. Alan Blinder and Mark Zandi, highly respected macro-economists, describe the estimated disaster as follows: the unemployment rate would have peaked out at 16% and remained there for years, instead of peaking at 10% and quickly falling; national income would have fallen by 14% rather than by only 4%.

The balanced budget amendment would violate the most basic essentials of market economics, and it is opposed by the majority of the economic profession.

William L. Holahan is emeritus professor and former chair of the Department of Economics at the University of Wisconsin-Milwaukee. Charles O. Kroncke served as Professor and Associate Dean of Business at UW-Madison as well as Dean of the School of Business at UW-Milwaukee and the School of Management at UT-Dallas. They are co-authors of “Economics for Voters.”