What Is the Golden Rule of Government Spending?

What Is the Golden Rule of Government Spending?

Let me explain the golden rule of government spending directly: it's a fiscal policy where a government should only borrow money to invest in things that provide long-term benefits, not to cover everyday current spending. You see, borrowing is fine for projects that will pay off in the future, but for short-term needs, governments should rely on tax revenues. This keeps things sustainable and fair.

Key Takeaways

Here's what you need to grasp about this rule: governments borrow solely for investments that deliver long-term gains, while current expenses get funded by taxes, not new debt. Countries in Europe and Asia have used versions of it, but the US hasn't. And remember, it usually includes wiggle room for crises like the 2008 meltdown or the COVID-19 pandemic.

Understanding the Golden Rule

If you're a supporter of this rule, you're probably thinking about protecting future generations from debt piled up for today's spending. I get that some economists point out other policies also impact debt burdens across generations, and they argue this isn't the best way to ensure fairness. Others back it simply to keep government size in check.

This rule has shown up in various countries, always built on the idea of spending less than what comes in through revenue. Most places that adopt it—again, not the US—change their laws or constitutions to make it stick. Some have seen deficits drop relative to GDP, but governments often need flexibility during downturns or emergencies.

Fast Fact

Just to clarify, this golden rule for spending isn't the same as the ethical one you might know from religious texts like the Talmud, New Testament, or Koran—that's about treating others as you'd want to be treated.

International Applications of the Golden Rule

Over the past three decades, many advanced economies have put some form of this rule into their fiscal policies, often as law or party guideline, with built-in exceptions for emergencies.

Countries like Canada, New Zealand, Sweden, Switzerland, and Germany have used it at times to cut spending growth and debt. The UK tried it starting in 1998, but by 2007, economic issues and tax shortfalls made it hard to follow, and the 2008 crisis forced them to drop it for stimulus needs.

In the EU, experience shows this rule works better as a flexible guideline than a strict mandate due to economic ups and downs. They introduced the Stability and Growth Pact in 1997 to keep deficits under 3% of GDP and debt below 60%, coordinating policies among members. Revisions in 2005 added flexibility, and more came after 2008. The COVID-19 pandemic led to suspending limits until 2023, with some pushing for even more changes. In May 2022, the EU proposed extending that suspension through 2023.

No Golden Rule for the United States

The US federal government hasn't gone for this golden rule approach. Some experts push for it, while others suggest a broader strategy. There have been proposals for balanced budget laws or even a Constitutional amendment, but nothing's stuck.

Right now, there's a debt ceiling that Congress raises when needed, which always sparks debate. Back in 1985, the Gramm-Rudmann-Hollings Act set deficit targets with automatic cuts if missed, but the Supreme Court struck it down as unconstitutional the next year.

Why Is Not Borrowing for Current Expenses Called the 'Golden Rule' of Government Spending?

Supporters say it safeguards future generations from debt that only benefited past ones, naming it the 'golden rule' to highlight its fundamental importance, much like the ethical version.

Is the European Union Following the Golden Rule of Government Spending Now?

As of May 2022, the European Commission proposed keeping borrowing limits suspended through 2023 to support green economy shifts, reduce Russian gas dependency, and recover from the pandemic.

What Is the US Debt Limit?

The US debt limit is the cap on borrowing to cover commitments like Social Security, Medicare, military pay, debt interest, and tax refunds. The government has never defaulted on its debts so far.

The Bottom Line

This modern take on the ancient golden rule insists that governments shouldn't saddle future generations with debt from today's routine spending—instead, borrow only for investments that last. Various countries have tested it, though the US hasn't, and it's often paused during crises, like the ongoing EU suspension since 2020.