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Blanchard Defends a ‘More Relaxed Attitude on Public Debt’

Michael Rainey

Renowned macroeconomist Olivier Blanchard made waves in fiscal policy circles with his recent work that finds that government deficits and debt are less harmful than many experts have assumed, and in some cases may be appropriate and even necessary.

Blanchard, an emeritus professor at MIT and senior fellow at the Peterson Institute for International Economics who served as the chief economist at the International Monetary Fund from 2008 to 2015, has received some pushback on his analysis, and this week responded to some of his critics in a short piece written with his colleague Ángel Ubide.

The authors address two primary points:

Criticism: Governments are “naturally spendthrift” and shouldn’t be given an excuse to “misbehave.” Blanchard and Ubide say that it makes no sense to pretend debt is catastrophic when it is not. Instead, economists should analyze the limits and opportunities inherent in each country’s fiscal situation and provide advice accordingly. For example, the authors say that Japan should maintain its primary deficit in order to sustain domestic economic demand, while their advice to the U.S. is to gradually reduce its primary deficit as it moves toward a more optimal fiscal trajectory.

Criticism: Low interest rates may not last, so there’s no reason to deviate from the orthodox goals of smaller deficits and lower debt. The economists argue that long-term projections for interest rates have moved steadily downward for decades, and there is little reason to think rates will rise anytime soon. At the same time, there is always some risk that rates will rise, but since “nearly all policy decisions imply risks,” that is insufficient reason to start reducing debt – a policy choice that would generate its own risks, including the increased likelihood of higher unemployment and weaker economic growth.

In the end, the authors reiterate their view that the fiscal outlook has changed in ways that suggest that policymakers should increase their toleration for public debt:

“We believe the trade-off between debt consolidation and activity has dramatically changed, and that taking all the risks into consideration, it should tilt fiscal policy in a more expansionary direction. In this new environment, being too fiscally conservative and not supporting demand is in fact a risky strategy. It does increase the risk of permanently depressing activity with potentially adverse political implications, as we have already seen in some countries. If we turn out to be wrong and interest rates sharply increase without a simultaneous increase in growth, then the strategy should, of course, be reassessed again, just as we argue for a reassessment today.”

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