Guns and butter: we can’t have infinite amounts of both

In macroeconomics, the guns versus butter model is an example of a simple tradeoff problem. It demonstrates the relationship between a nation’s investment in defense and civilian goods. In this example, a nation has to choose between two options when spending its finite resources. It can buy either guns (invest in defense/military) or butter (invest in production of goods), or a combination of both. This can be seen as an analogy for choices between defense and civilian/domestic spending.

Under the gold standard, with LBJ and Nixon the US had to prioritize its fiscal policy to some degree. Failure to do so created inflation and triggered President Nixon’s decision to go off the gold standard and switch to fiat money.   This reduced the pressure to make cutbacks in either defense spending or domestic programs; in a sense it eliminated the need for budget prioritization.

Once the government didn’t have to decide between competing priorities it could have all the  guns and butter it wanted. So government and people forgot that government was about deciding between limited resources and instead thought the government was simply a dispenser of funds.   Now 40 years later people are wondering why there’s an inability to compromise? We forgot how.

Take a look at the FRB’s chart of Total Loans and Investments at All Commercial Banks (LOANINV) – FRED – St. Louis Fed:  this went exponential roughly the same time Nixon took the US off of the  gold standard.  Paul Volcker was able to crush inflation in the early 80’s with punitive interest rates; and global wage arbitrage (China) eliminated wage pressures.  However the US has now reached a point where debt issuance is problematic: prioritization of government spending is necessary.

What’s it going to be: guns or butter?


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