The issue of debt and government

There has been a bunch of web ink spilt on a recent article by John Cochrane (both pro and anti, we do discuss a little here) – I plan to spill a little bit more, but on a slightly different issue.

In the article he suggests that current people won’t loan to individuals but they will loan to the government – he suggests that the government could loan the money out to individual firms and household in order to get the economy rolling again.

This reminded me of Ricardian equivalence.  In Ricardian equivalence households expect any cut in taxes, without a cut in spending, to lead to higher future taxes – so they increase savings.  In this case, if government started putting money into risky projects, wouldn’t it increase the rate of return that the investors would need in order to invest in Treasuries?  If this is the case, then the existence of the type of “roundabout” lending that Cochrane discussed does not really exist – although I’m not sure how comfortable I am about spreading risk around like that 😛

Then I remembered that, if the government loses money on loans it will just increase taxes on everyone – so if people think that buying Treasuries leads to risk being “spread around” from risky ventures they will be more willing to.  I wouldn’t say this is a good thing – but if this is why money is flooding into Treasuries at the moment it does give government “scope” to lend some of it out …