Scarcity has been a bedrock feature of economic reality and public policy since at least Adam Smith and possibly the expulsion from the Garden of Eden. Scarcity is the limited availability of productive resources relative to their unlimited beneficial uses. A key implication of this condition is that every use of resources requires giving up the benefits of some alternative beneficial use. That is, every use has an opportunity cost equal to the highest value given up by the necessary sacrifice of alternatives.
While opportunity cost sounds theoretical, it is critical to practical decisions we make every day. Because resources are scarce, we rationally attempt to allocate them among alternatives to maximize benefits. When deciding what to buy, for example, we compare expected benefits with opportunity cost and choose only those items with a net benefit. Without some sense of the cost of a choice, we are flying blind and can expect to make decisions we will later regret.
For the first 150 years, U.S. government policymakers were reminded of the opportunity cost of their actions by a “balanced budget norm.” This unwritten, but generally understood rule, meant that under ordinary circumstances, the federal government should spend no more than it expected to collect in taxes. In extraordinary times, such as war or natural disaster, borrowing to finance outlays in excess of revenues was acceptable, conditional on the debt being repaid when the crisis ended. This fiscal constraint created a salient awareness that spending for any purpose requires a sacrifice, or “trade-off,” of other benefits. Beneficial uses of resources were never “free.”
In the last 40-50 years, awareness of scarcity and opportunity cost seems to have faded from national policymaking. Currently, it borders on irrelevant. The decisive factor today in a choice to allocate resources to any use is whether a majority can be assembled to enact enabling legislation. Political support may be scarce, but resources are freely available.
The loss of resource scarcity from the policy process is not entirely without economic justification. At least since the 1960s, the U.S. has been enjoying the benefits of an enormous worldwide demand for low-risk, highly liquid U.S. Treasury debt securities. In combination with the expectation that those debt securities may be refinanced in perpetuity, this development is the equivalent of a fiscal Widow’s Cruse, a source of financing resource inflows without limit. The U.S. government – and by extension, its constituents – have been spared the necessity of choosing from among alternative benefits. We can have it all.
Anything that sounds too good to be true is probably less than it appears. The vision of the sale of U.S. Treasury debt as a bottomless well of free resources includes some features of a Ponzi scheme. In both cases, people are willing to invest their funds at an attractive rate of return so long as they are confident that they can get their money back.
And the maintenance of confidence assures that new investors will provide funds to refinance or purchase existing debt held by earlier investors. Confident expectations are self-justifying, until they are not.
In a rational world, creditors would be willing to lend to a sovereign only so long as the sum of expected future budget surpluses remain as large as the outstanding debt.
Current fiscal policy, however, provides little support for such an expectation. Indeed, long-term projections by the Congressional Budget Office show deficits and rising debt as far as the eye can see. Further, accruing interest and new benefits, such as tax rate reductions, pandemic relief and loan forgiveness, are increasing debt faster than Gross National Product, a rough proxy for the ability of the government to honor its commitments to creditors.
While it is impossible to know when or whether a disastrous loss of confidence by creditors might occur, it’s clear that current U.S. fiscal policy exposes the nation to a high risk of economic and political instability that would follow a collapse in the demand for and a run from U.S. Treasury debt.
Most of us are guilty of bad but comfortable habits that are inconsistent with our long-term goals for good health and economic security. Occasionally, a random event motivates us to change our undesirable behaviors by minimizing the frequency of trigger events or some other corrective lifestyle change. Similarly, several possible federal budget process reforms have been proposed to make it easier for policymakers to make better choices and reduce the growing risk of severe economic and political instability.
Budget process reforms most likely to succeed would do so by explicitly and saliently reminding policymakers of scarcity and the need to include both expected benefits and expected costs in budget decisions. That change could also accelerate the development and use of more relevant measures of social costs and benefits. The best time for policymakers to have adopted such a change would have been some years ago. The second-best time is now.
Marvin Phaup, a former Congressional Budget Office analyst, is an adjunct lecturer at the Schar School of Policy and Government at George Mason University.