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On balancing the budget

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Andrew Watt has written an especially cogent piece on why the balanced budget rule proposed for the Euro area by Merkel and Sarkozy is a very, very bad idea.

It also makes relevant reading for Canadians.

Andrew points out (1) that fiscal rules have to take into account overall balances and that the public sector cannot balance if the private sector wants to save, unless a country (or in this case the Euro area), is running a large balance of payments surplus; (2) that it makes no sense not to borrow to finance public investment; and (3) that talk of balancing the budget over the cycle cannot be translated into operational rules for annual budgets since we can only identify the cycle ex post.

Meanwhile, Finance Minister Flaherty effectively said he will balance the budget regardless of the darkening economic outlook, which means that he will force spending cuts despite a probable increase in household saving, a probable decline in business investment (and thus an increase in business saving), and despite a probable further deterioration in the external balance.

This article was first posted on The Progressive Economics Forum.

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