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Economist warns of dangers of federal budget deficits

August 25, 2006 By Dennis Chaptman

A “painful period of world economic adjustment appears inevitable” unless the White House and Congress can develop a workable plan to ease federal budget deficits, according to an article co-authored by a University of Wisconsin–Madison economist in the current edition of The International Economy.

Menzie Chinn, professor of public affairs and economics at the UW–Madison La Follette School of Public Affairs, and Benn Steil, director of international economics at the Council of Foreign Relations, urged the White House and Congress to adopt a serious plan to cut the federal deficit during the next five years.

The authors criticize the Bush administration for ignoring the “twin deficits” of the current account and federal budget, which combine to threaten the long-term prospects of the U.S. economy.

Rather than acting to address its deficits, the United States is looking to China and a revaluation of its currency as the solution to deficit growth at home. Revaluation will not come close to eliminating the trade deficit, nor will it spur the return of some factory production that has moved offshore in recent years, the article says.

“Textile factories that have closed over the past decade won’t reopen even after a steep dollar decline,” the authors say. “A significant Chinese revaluation will lead to higher imported sock prices at Wal-Mart, not a sprouting of new American sock plants.”

The United States needs to attack its federal budget deficit, which will help reduce the trade deficit, Chinn and Steil say.

“America’s standing in the world very directly hinges on what others believe the country can give to them or withhold from them,” they argue. “Washington can prevent a dollar-driven decline of U.S. global power by demonstrating that it has the political leadership and will to make the hard decisions necessary to sustain American economic strength.”