WHEN Vice-President Dick Cheney said “deficits don’t matter”, economists took it as proof of the economic illiteracy of the Bush administration. But it turns out there is a case to be made that Cheney was onto something.

On the deepest level, the vice-president was echoing, in slightly exaggerated form, an idea put forward a few years ago by Irving Kristol, the godfather of the neoconservatives who have had such a wide-ranging effect on the Bush administration’s policy. Kristol wrote then, and still believes: “We should figure out what we want before we calculate what we can afford, not the reverse.”

On the political level, treating deficits as a non-issue also proved a successful strategy. After all, despite the torrent of red ink that splashed across the national budgets during his first term, George W Bush was re-elected by a substantial margin. His opponent’s attempt to saddle the president with the label “profligate” just did not resonate with the voters.

This brings us to the economic level. The deficits that Bush ran up in the years in which America was teetering on the verge of a serious recession had the beneficial effect of righting the economy. In that sense, deficits not only didn’t matter, but were a force for economic good.

But that was then, and this is now. The economy, growing at an annual rate of between 3.5% and 4.0%, is hardly in need of further fiscal stimulus. Yet the budget that the president sent to Congress last week promises deficits as far ahead as the eye can see — if the eye is practised in reading these massive documents.

The president claims that his $2,570 billion budget is the first step on the road to fulfilling his campaign promise to halve the deficit by 2009, even if Congress agrees to make his tax cuts permanent and enacts still more reductions. That claim is completely unfounded. Indeed, if the White House team that drafted this budget were subject to the Sarbanes-Oxley act on accounting rectitude, criminal indictments would be flying.

Let’s start with the fact that most of the spending reductions the president proposes will be rejected by Congress. The budget calls for the elimination or curtailment of some 150 programmes. But last year the president proposed eliminating 65 programmes for a saving of $4.8 billion and Congress agreed to eliminate only four programmes for a saving of less than $200m.

Although Congress is under pressure to keep spending down, it is under even more pressure from the farm lobby, the business lobby, the veterans’ lobby, the poverty lobby, and the oldies’ lobby, to mention only a few groups that will fight Bush’s cuts.

But even if the president’s budget is adopted, it will not begin to cut into the federal deficit for several reasons. First, spending on the largest items — Medicare, social security and the military — is scheduled to rise. Second, the budget does not include any money beyond this year’s outlays for the wars in Iraq and Afghanistan. Third, it does not include the trillions that will be required if the president succeeds in persuading Congress to allow some participants to divert to private accounts a portion of the money they are now paying into the social- security (pension) system.

On the other hand, and in all fairness, we cannot ignore the fact that previous Bush budgets were also pronounced “dead on arrival” and then adopted within the spending limits the president had proposed.

Moreover, the projected budget deficit is not threateningly large relative to GDP. Larry Lindsey, Bush’s former chief economist, points out in his latest advice to clients: “The projected 2006 budget deficit of 3.0% of GDP is reasonable if the economy continues to grow.”

And all the signs suggest that the economy is likely to grow. The Institute for Supply Management reports that the manufacturing sector expanded in January for the 20th consecutive month, due in part to renewed international competitiveness due to the lower dollar, and in part to a scramble to restock depleted inventories. My own tour of shopping malls from Phoenix to Chicago to Washington revealed that retailers had been caught by surprise by the strength of Christmas and post-Christmas sales. Stocks are low.

The housing market remains strong; the unemployment rate is a low 5.2%; more than 2m new jobs have been created in the past year; the service sector is growing; inflation is low, as are long-term interest rates; and American companies are increasingly optimistic, “bolstered by unprecedented cashflows”, according to Goldman Sachs. The budget deficit may be larger than we would like, and Cheney may have been overstating things a bit, but so far it is hard to say that his view of budget deficits is clearly wrong.

The trade deficit is another matter. Alan Greenspan, the Fed chairman, stopped by in London last week to speak at Gordon Brown’s latest entrepreneurship bash, and to assure one and all that the market was gradually taking care of that problem.

The dollar has fallen, giving American manufacturers an edge over their European competitors. Short-term interest rates in America are now above those in euroland and Japan. Added to the more rapid growth being experienced in America, this rate differential will make investment in America even more attractive than it has been.

I am less certain than Greenspan that we have seen the end of the dollar’s decline, but it would be foolish to bet against a man who has got things right through years of international and domestic turmoil.

In short, all may not be for the best in a best of all possible worlds, but almost everything seems to be — unless you are a euroland exporter, caught between a falling dollar, China’s refusal to allow the renminbi to rise, and the appalling regulatory and tax environment in much of Europe.

Irwin Stelzer is a business adviser and director of economic policy studies at the Hudson Institute

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