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Falling deficits added to national savings but increased deficits meant a claim on savings and a rise in interest rates. Foreign investors were tempted to buy more US assets. The net demand for dollars rose on the foreign exchange market and this led to a rise in value in the dollar and increased the exchange rate. This made goods and services more expensive abroad and reduced the prices of foreign goods and services in the US. The value of exports fell. This led in the 1980s to an allied trade imbalance. Between 1980 and 1985, the budget deficit went from 0.6 to 4.3 and the trade deficit went from a surplus of 0.2 to a deficit of 2.3. A discussion could be sustained about the effects of this on different sectors of the US economy and society and there could be consideration of political consequences. 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In economic terms, increasing federal budget deficits were held to be responsible for upward pressure on US interest rates. Falling deficits added to national savings but increased deficits meant a claim on savings and a rise in interest rates. Foreign investors were tempted to buy more US assets. The net demand for dollars rose on the foreign exchange market and this led to a rise in value in the dollar and increased the exchange rate. This made goods and services more expensive abroad and reduced the prices of foreign goods and services in the US. The value of exports fell. This led in the 1980s to an allied trade imbalance. Between 1980 and 1985, the budget deficit went from 0.6 to 4.3 and the trade deficit went from a surplus of 0.2 to a deficit of 2.3. A discussion could be sustained about the effects of this on different sectors of the US economy and society and there could be consideration of political consequences. Budget deficits were a consequence of a reduction in taxes and a continued commitment to social security and a greater expenditure on defence.

Budget deficit stood at $73.8b and then rose hugely despite Republican ideas of fiscal control and limited government. By 1983 at $207bn debt amounted to 6% of GNP. By 1986 it was $211bn and by 1991 $269bn. Interest payments rose in the 1980s from 2.0% of GNP to 3.4% and there was a big increase in debt held by the public in terms of government securities. This rose from 26.8% in 1980 to 44.2% in 1990. As taxes were cut many Americans had money to invest in government bonds and so for those with spare capital there was a double benefit. Long term interest rates did fall for gilt edged investments but remained high at 9%. This increased the gap between those who could benefit and those who faced cuts in social spending in an attempt to restrict the growth of the deficit even further. These were mainly not older people but those whose benefits were likely to change and unemployment insurance was the main victim. Increased charges for servicing the deficit and a much higher level of defence spending were consequences of an acceptance of a considerable growth in debt. The 1980s saw a rise in level of defence spending after a post-Vietnam decline.

The inflationary possibilities of large deficit and spending were generally managed by the Federal Reserve but there was widespread political and economic concern which Reagan and his successors were in a limited position to address.

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Evaluate the consequences of ongoing budget deficits in the 1980s and early 1990s.

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