PETER S.GOODMAN
ESSAY


At some point, the U.S. must decide when to shut the cash spigot.


BORROWING AND SPENDING beyond ordinary limits largely explains how Americans got into such economic trouble. For decades, businesses and consumers feasted relentlessly, as if gravity, arithmetic and the tyranny of debt had been defanged by financial engineering.

Armed with credit cards and belief in a bountiful future, Americans brought home ceaseless volumes of iPods and cashmere sweaters, and never mind their declining incomes and winnowing savings. Banks lent staggering sums of money to homeowners with dubious credit, convinced that real estate prices could only go up. Government spent as it saw fit, secure that foreigners could always be counted on to finance American debt.

So it may seem perverse that in this new era of reckoning many economists have concluded that the appropriate medicine is a fresh dose of the very course that delivered the disarray: Spend without limit. Print money today, fret about the consequences tomorrow. Otherwise, invite a loss of jobs and business failures that could cripple the nation for years.

Such thinking carries the moment as President-elect Barack Obama puts together plans to spend more than

$700 billion on projects like building roads and classrooms to put people back to work. It is the philosophy behind the Federal Reserve’s decision to drop interest rates near zero while lending directly to financial institutions. This is the mentality that has propelled the Treasury to promise up to $950 billion to aid Wall Street, Detroit and perhaps other recipients.

But where does all this money come from- And how can a country that got itself in peril by borrowing and spending without limit now borrow and spend its way back to safety?

In the case of the Fed, the money comes from its authority to print dollars from thin air. Since late August, the Fed has expanded its balance sheet from about $900 billion to more than $2.2 trillion, creating $1.3 trillion that did not exist to replace some of the trillions wiped out by falling house prices and vengeful stock markets.

In the case of the Treasury, the money comes from the same wellspring that has been financing American debt for decades: Investors in the United States and around the world - not least, the central banks of China, Japan and Saudi Arabia, which have parked national savings in the safety of American government bonds.

Americans have gotten accustomed to treating this well as bottomless, even as anxiety grows that it could one day run dry with potentially devastating consequences.

The value of outstanding American Treasury bills now reaches $10.
6 trillion, a number sure to increase. Worry centers on the possibility that foreigners could come to doubt the American wherewithal to pay back such an extraordinary sum, prompting them to stop - or at least slow - their deposits of savings into the United States.

That could send the dollar plummeting, making imported goods more expensive for American consumers and businesses. It would force the Treasury to pay higher returns to find takers for its debt, increasing interest rates for home- and auto-buyers, for businesses and credit-card holders.

“We got into this mess to a considerable extent by overborrowing,”said Martin N.Baily, a chairman of the Council of Economic Advisers under President Clinton and now a fellow at the Brookings Institution.“Now, we’re saying,‘Well, O.K., let’s just borrow a bunch more, and that will help us get out of this mess.’It’s like a drunk who says, ‘Give me a bottle of Scotch, and then I’ll be O.
K. and I won’t have to drink anymore.’Eventually, we have to get off this binge of borrowing.”

Some argue that the moment for sobriety is long overdue, and postponing it further only increases the ultimate costs.“Our government doesn’t have enough spare cash to bail out a lemonade stand,”declared Peter Schiff president of Euro Pacific Capital, a Connecticutbased trading house.“Our standard of living must decline to reflect years of reckless consumption and the disintegration of our industrial base. Only by swallowing this tough medicine now will our sick economy ever recover.”

But most economists cast such thinking as recklessly extreme, akin to putting an obese person on a painful diet in the name of long-term health just as they are fighting off a potentially lethal infection. In the dominant view, now is no time for austerity - not with paychecks disappearing from the economy and gyrating markets wiping out retirement savings. Not with the financial system in virtual lockdown, and much of the world in a similar state of retrenchment .

Since the Great Depression, the conventional prescription for such times is to have the government step in and create demand by cycling its dollars through the economy. That such dollars must be borrowed is hardly ideal. But the immediate risks of not spending them could be grave.

“This is a dangerous situation,”says Mr.Baily, essentially arguing that the drunk must be kept in Scotch a while longer, lest he burn down the neighborhood in the midst of a crisis.“The risks of things actually getting worse and us going into a really severe recession are high. We need to get more money out there now.”