Inflation Will Make Government Budget Problems Worse

“inflation is real. The all-item consumer price index (CPI) was up more than 5 percent on a year-over-year basis for July, August, and September, and now shows a 6.2 percent increase for October—the largest jump since 1990. The Fed considers 2 percent inflation to be its bright-line monetary policy goal. Obviously, there is a large gap between that and what we are seeing on the ground.”

“Individuals whose salaries, wages, Social Security payments, and even mortgage interest or rental rates are automatically adjusted for inflation have much less to worry about than their neighbors on fixed salaries, who must cope with ballooning grocery bills or pay twice as much at the pump. On these grounds, inflation may be devastating for some and almost meaningless for others. These gaps widen as inflation gets worse.”

“The rate of inflation gets captured in interest rates that borrowers must pay, especially for longer-term debt. Lenders hope to be paid back with at least as much purchasing power. If they believe inflation will tick away at 4 percent, interest rates tend to rise with this baked-in expectation.

In any case, higher interest rates mean higher interest costs on all forms of public and private debt. As a result, mortgage rates will rise, all forms of construction will suffer, and businesses will postpone making large investments in plants and equipment.

Now consider the public debt—especially the federal debt that ballooned from large deficits in recent years. (In 2020, federal revenues were $3.4 trillion and spending was $6.6 trillion.) The interest cost of the national debt in 2008 was $253 billion and remained at about that level through 2015. Even though the debt doubled in those years, sharply falling interest rates and low inflation worked to contain costs.

But that was yesterday. With today’s higher inflation and rising interest rates (perhaps with more to come), the Congressional Budget Office (CBO) estimates the interest cost of public debt to be $413 billion in 2021. Obviously, any dollar spent on interest cannot be spent on government benefits and services to taxpayers.”

https://reason.com/2021/11/11/inflation-will-make-government-budget-problems-worse/

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