Don't Sell The Economy Short

It's ludicrous, really. The coming federal budget deal seems to depend on whether negotiators decide the economy will grow at a 2.3% annual rate for the next decade, as forecast by the Congressional Budget Office, or at 2.5%, as gauged by the White House. Worse, the whole debate reflects only the constricted vision of conventional wisdom.

Fact is, no one knows how fast the economy will grow in the next year, let alone the next decade. Indeed, it's striking how many dire business and economic predictions have proved erroneous. In the 1980s, the Japanese semiconductor juggernaut was going to destroy its U.S. counterpart. But the U.S. chip business is thriving worldwide in the 1990s. Among economists, it has long been an article of faith that when the unemployment rate falls below 6%, inflation takes off. Yet the unemployment rate has been below 6% for well over a year, and inflation remains tame. Early in 1995, with the dollar in tatters and investors flocking to mutual funds, many market seers predicted a financial-market meltdown. Today, the Dow Jones industrial average has broken through the 5000 mark, long-term interest rates have fallen by nearly two percentage points, and household net worth is up by some 10% this year.

BUSINESS WEEK aligns itself with those economists who believe the economy can expand at a 3%-a-year pace without igniting inflation. Of course, the White House and the Republican Congress do need the discipline of a conservative growth yardstick, now that they've agreed to negotiate on balancing the budget in seven years. It's also true that, in the 1980s, economic forecasts during frequent budget battles were too rosy. Still, with the financial markets seemingly saying that the gains from corporate restructurings and the high-tech revolution have a way to run, we would encourage negotiators to lean more on a 2.5% forecast in their deliberations, shaving as much as $400 billion off the amount that needs to be cut over the next seven years.

More important than the economic number during the days of brutal talks that lie ahead is a reminder that eliminating the budget deficit isn't an exercise in hair-shirt economics. It's savings and investment that count. The economic idea behind a balanced budget is to raise savings, which in turn fuels investment. Just as business invests in machinery and equipment, the government must keep investing in education, research and development, and infrastructure to boost growth prospects in a world of fierce international competition. When people, companies, and nations invest in their human and physical capital, they're betting on new markets and new ideas--vital ingredients for faster growth. Yes, balance the budget in seven years. But avoid the danger that low-growth expectations become a self-fulfilling prophecy.

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