Economic Reform Australia Blog

A Government Surplus is a Private Sector Deficit

It is well known in economics that the net sum of private, public and foreign sector balances is zero. Thus if the foreign sector is equally balanced by imports and exports, then a federal government deficit implies a private sector surplus. Likewise if the government aims to go into surplus, it must remove money from business, industry and households through increased fees, taxes, etc.

A private industry surplus (public sector deficit) is good policy because it allows further development and expansion and the economy can grow. Thus, arguably, the federal government should always aim to run at least a small deficit. Running a deficit means the government spends more than it receives from taxation, and the net result is that the private sector’s savings (financial wealth) increases. This allows more investment and growth in national income. But if the government runs a surplus, income to the private sector is reduced, thus reducing its ability to purchase goods and services and to finance desired business plans, and so national income falls.

If the private sector reverts to financing its plans through increased debt, sometimes on the assumption that its assets will continue to increase in value (as it did in the decade prior to the Global Financial Crisis), then in the short term productivity and employment will increase, the government will possibly go into surplus (at least temporarily), and the government of the day will bask in glory, as we have seen and continue to see today.

But this debt is fundamentally unsustainable: last-minute financial restructuring and panic debt swaps inevitably produce a dramatic collapse and surpluses are invariably followed by recessions. This process has been spelled out in many well-informed publications, including those of Economic Reform Australia.

Recalling the glory days of a government surplus is mischievous in the extreme, for those days, if repeated, will result in the same disasters that we have seen in the past.

Government surpluses must be generally avoided. Government deficits will always be necessary on average, if we are to grow and avoid similar crises in the future.

Darian Hiles