Economic Commentary

We are going to have to pay the price…

Eventually we are going to have to pay the price. The government has reported that our monthly budget deficit was over $100 billion in July. Projections show that we could easily exceed a $500 billion deficit for this fiscal year. What caused these exploding deficits? There are too many factors to even count on one hand–but economic stimulus payments, rescuing financial institutions and fighting a war while the economy slows down are all part of the equation. Why is the government borrowing so much even important? When the government borrows it increases general demand for funds. Essentially, the government is competing against us when we are borrowing to purchase a home. This forces interest rates higher.

The long-term result of big deficits is higher interest rates. However, we need lower rates desperately right now to help the real estate market and thus the economy to recover. It is another catch-22. Higher rates make the deficit worse because the government pays more on the debt. Higher rates also slow down the economy. And that in turn makes the deficit worse. Therefore, the Federal Reserve Board knows we need lower rates to help the economy. Low rates in the face of large deficits can cause inflation to increase and the latest consumer price numbers show that we are indeed in danger of inflation running out of control. This is why the recent drop in oil prices is such good news. The message? We need to find a way to get the budget under control so that we have room to let the economy recover–without the strong medicine of higher rates. Our slow economy will force the President and Congress to consider more economic stimulus payments. Perhaps they should resist the temptation.