|Fed funds rate (%) and Federal Deficit as percent of GDP|
But, you might say that those rates won't stay that low forever. You would be correct only because nothing is forever. The Fed controls rates and will keep them low for years or until employment has recovered substantially.
Then you may argue that if the interest rate is not high enough, no one will be willing to buy our bonds. Then I would have to point out that deficit spending creates its own demand for Treasury bonds. James Galbraith makes this point as follows:
So long as U.S. banks are required to accept U.S. government checks -- which is to say so long as the Republic exists -- then the government can and does spend without borrowing, if it chooses to do so. And if it chooses to issue Treasuries to meet the demand, it can do that as well. There is never a shortfall of demand for Treasury bonds; Treasury auctions do not fail.He discusses it again in an interview with Ezra Klein.
Too much government spending may lead to inflation. Currently, at our high levels of unemployment, inflation is not as much of a threat as deflation. That threat is increased by recent increases in commodity prices and the unrest in the Middle East that is causing increased oil prices. Ordinarily such increases would be considered inflationary. Now they are deflationary. The argument is that oil prices will increase the prices of food and many other things. However, labor does not have the leverage to obtain increased wages, and firms are not experiencing the demand that would allow them to increase prices. It follows that people will have to do with less discretionary spending and firms will have lower profit margins. These are deflationary indications.
Clearly, we have greater problems than debt interest. The best way to fight deflation is with a bit of inflation. That would indicate more deficit spending.
Oh no! A different story leads to the same conclusion. Cutting deficits now is wrong.