Federal Debt and Entitlement Program Reform: Fiscal Policy

Introduction to Fiscal Policy

Much of the debate surrounding federal debt and public spending has been driven by the large costs incurred by the Bush administration in its war on terrorism. With the realization of the magnitude of the federal deficit — one so large that it would require the contributions of two additional generations to extinguish — public debate over fiscal policy has gained significant momentum. Fiscal policies are developed and implemented by state authorities, generally the governments of democratic countries or other forms of authority within non-democratic states.

The argued role of fiscal policies is to support the productive development of a country's economy, which in turn triggers social and technological advancement. More specifically, fiscal policy refers to the act of collecting money through taxes and using it to support the economic development of the country in question. Given this framework, two key questions arise: what is the true condition of the federal debt, and what reforms should be implemented to improve entitlement programs? The following sections address these questions by examining two recent articles by economist L. Randall Wray.

In a climate of public anxiety — where citizens feel they are paying more taxes than ever and where opinion about the soaring public debt worsens daily — Randall Wray offers a strikingly different perspective. He frames his argument through the long-recognized concept of the fallacy of composition. This concept holds that just because a truth is valid for one element of a whole, it is not necessarily valid for the system itself. Wray applies this idea to the understanding of federal deficits as follows:

The Condition of the Federal Debt

Within a household, income and expenditure must be kept in strict equilibrium; otherwise, the family risks spending more than it earns and reaching a state of insolvency. Despite the truth of this observation at the household level, it cannot be extrapolated to the entire financial system of a country, which must in fact spend more than it takes in at certain points in order to develop — hence the fallacy of composition.

In other words, Wray argues that federal debt does not, in its essence, represent a problem, but rather a means of enabling future development, improved living standards, investment, and job creation. He bases this claim on the complexities of the macroeconomic system and the impossibility of applying small-scale household rules to the principles governing national and international finance.

Wray illustrates why personal savings logic cannot be extrapolated to generate national savings through a straightforward example. Consider a random individual — named Mary by the author — who decides to eat one fewer hamburger per week in order to save money. Assuming she remains consistent and no outside forces intervene, such as an unexpected pay cut or unforeseen expense, she will achieve her savings goal. However, if all people simultaneously decide to eat one fewer hamburger, a national problem emerges. Consider McDonald's as the retailer of those hamburgers. The collective decision reduces demand for its products, forcing the company to cut costs, which could easily translate into downsizing. The final result is widespread job loss and a decline in living standards — all triggered by the initial act of saving.

The Fallacy of Composition Applied to National Savings

With this simple example, Wray makes the point that aggregate savings can harm the economy and reduce its capacity for development. Federal debt, by contrast, is a necessity for sustained financial advancement. By maintaining a higher level of consumption and investment, a country allocates more resources to the infrastructure and services that support long-term growth.

At a more specific level, Wray argues that economic development is generally driven by advancements within the private sector, but that these advancements are only possible because of prior investments in infrastructure, national security, and other elements funded through the national budget. If such expenditures were to decrease, the opportunities for economic growth would shrink alongside them. As Wray writes, "while it is commonly believed that continual budget deficits will bankrupt the nation, in reality, those budget deficits are the only way that our private sector can save and accumulate net financial wealth" (Wray, 2009).

The article selected to address the question of how entitlement programs should be reformed is also by Wray. This second article, entitled Social Security: Truth or Useful Fictions?, is written in a structured manner that is easy to follow. Like his earlier piece, it employs a balanced use of both common and specialized language, making it accessible to a wider audience beyond those with formal training in economics or finance.

Wray begins by placing entitlement services within their current context and arguing for their importance. They should be understood not as a comprehensive retirement plan or something to rely upon entirely, but as a safety net of last resort. Despite ongoing problems with healthcare coverage and social services, he contends that private investment funds do not offer a genuine solution. They represent, in his view, a scheme in favor of privatization, designed primarily to increase the revenues of fund administrators. Not only do such funds fail to provide transparent plans for how money is invested, they also offer no protection against political changes. Therefore, the first thing that should not be done with entitlement programs is to encourage their privatization.