Is the National Debt that Big of a Problem?

Is the national debt that big of a problem? An article by John T. Harvey explains why it might not be as big as a problem as you think. Let me first start by stating that the current debt to GDP ratio is not the largest that the Unites States has ever experienced. The current debt to GDP ratio has slightly crept over the 100% mark but is still not as high as it was at the end of WWІІ which was around 120%. Having the debt to GDP ratio eclipse 100% is alarming because of how fast the ratio grew over the last decade but will it cause the U.S. government to go bankrupt? The answer is no.
You are probably frequently given the analogy between the government’s debt and a family’s debt to illustrate how bad the growing debt problem is. The problem with that analogy though is that those two things are not analogous. They are not comparable for a few reasons: the government has an infinite lifespan and can print its own money. That is why people and other countries are willing to lend to the U.S. at such low interest rates because they know it is a safe investment. Let me put it this way; if you could continually borrow money at 2% interest for an infinite lifetime and have the ability to print the money due, wouldn’t you run a deficit?
There are a few other fallacies that I would like to point out. Many compare the United States’ situation to Greece’s. This is another comparison that it not analogous for many reasons. One main reason is that Greece owes its money in a currency that it does not control. Once again, the U.S. can print its own money if it chooses.
One last fallacy that I would like to address is that China essentially owns the Unites States because of the huge amount of U.S. debt that China owns. Many Americans don’t know that much of the U.S. debt is actually held by the U.S. government. China owns around 30% of the debt which could be printed and paid if China wanted it. But keep in mind that China’s economy hugely relies on the U.S. to purchase their exports that their economy desperately relies on.
Before losing sleep about the national debt, remember that the United States does not even have close to the largest debt in the world. We do have one of the largest economies though.


Da Boy said...

While there are several good points made in this post, there are several misconceptions as well. First, when people compare the economy to a personal or family budget, the reason is to make the analogy into something that people understand, not to imply that both items are perfectly interchangeable. Next, Jon mentions several times that the U.S. could just print the money and pay off the debt. While theoretically this may be true, this is what leads to inflation and currency devaluation. If I could print my own money, I would still be in debt, but my money would be worthless. The final major issue I have with this comment is the last sentence where it is claimed that the United States doesn't have the largest debt of any country. At 16 trillion dollars, it's safe to say that our debt far exceeds most other economies in the world, if you meant to say that the debt to GDP ratio is not the highest, that would be more correct.

madhatter said...

Harvey may want to add a few considerations in his article and analogy of US debt in a post-WWII world versus the present situation. Jon, for your consideration:

1) He is focusing on current debt while ignoring additional long-term debt incurred by the government. The current 16 trillion dollar debt is a huge number but far smaller than the amount of all liabilities of US Government; estimated at anywhere from $65 trillion to $105 trillion depending on whom is doing the counting.

2) Governments do not have infinite life spans. Neither does the US dollar have an unending franchise as the reserve currency of the world. The previous reserve currency was the British Sterling. When the dollar took its place England experienced 10 years of recession. Democracies end, either when the masses learn how to loot the public treasury, or when a particularly good speaker convinces them to give him just a little more power.

3) Greece does have its own treasury that can print Euro’s. That’s part of the problem that the European Union has with any enforcement. The system is supposed to be self-regulating. But we see that politicians do whatever is expedient to get re-elected, not operate the government in a fiscally responsible manner.

4) The Federal Reserve is not part of the US Government. It is a private bank owned by the member banks and by extension their stockholders. It was incorporated in Delaware in 1933. It prints its own Federal Reserve Notes and can purchase the debt of the US Government from the Treasury, like many institutions. So no, China doesn’t own the majority of the debt, the bankers do.

I wonder if Harvey received a grant from the banks to make us all feel warm and fuzzy about the national debt. How much longer will people consider the Federal Reserve note a secure store of wealth? China and the other nations are currently considering internal exchanges that do not require use of the dollar. That sounds like what happened to the British Sterling 40 odd years ago. And it seems Harvey is in denial, and prefers warm and fuzzy to hard reality. Just saying...

Patrick said...

One of the major disagreements that I have with this article was addressed by madhatter in his second point. I do not believe that our government has an infinite life span. I think that if we continue in the direction that we are currently heading, we will reach a point where other countries will no longer be willing to lend to us.

Dave Tufte said...

Jon: 94/100 for spelling.

This is off-topic for ManEc ... but I'm a macroeconomist at heart ... so I'll give you my two cents worth.

First off ... gosh ... Jon's post sounds a lot like what I say in my macro classes.

I agree with Jon that the debt/GDP ratio is troublesome (because it's been rising) but still OK (because we've seen worse). I also agree that the family analogy is not good.

The comparison to Greece is even poorer than Jon makes it out to be. In a very real sense, Greece solicited for more debt from outside its borders and in a currency whose value it couldn't control. The reason it did that is that they'd exhausted the willingness of their own citizens to lend to their own government. The U.S. is far from that. Plus, we have citizens of many other countries who would rather lend to our government than their own.

I also think the China argument could be stronger. Let's state this baldly: we have their money, and they have our pieces of paper called IOU's. Who is in the position of power? In part, this is why Greece has been able to run circles around the rest of Europe: they already have their money.

But, there's another issue with China. When China exports goods here, they get paid in dollars. And those dollars have to be spent here. In technical terms, the Chinese exports contribute to our current account deficit, while the Chinese buying stuff here with the dollars they've earned contributes to our capital account surplus. What China would really like is to bring the money back home to, say, Shanghai ... but instead it is staying in, say, Los Angeles. That's good for us.

This comment is getting long, so I'm going to cut it off here, and reply to the commenters in a new one.

Dave Tufte said...

Da Boy: 50/50.

Da Boy's first and last points are fine. I would take issue with the middle one: it isn't at all clear to macroeconomists that funding spending by printing money is worse than funding it by taxing or borrowing. Most of the evidence that this is worse comes from countries that have many other problems whose adverse effects get conflated with the problems created by printing money. To a macroeconomist, the primary problem is always the spending; the choice between the 3 methods of financing it is secondary at best, and quite possible irrelevant.

Dave Tufte said...

madhatter: 47/50 for grammar.

My number's correspond to madhatter's.

1) Agreed. The present value of the stream of underfunded future commitments is a much bigger problem than the current debt. And yes, that range is accurate.

2) Technically, the issue is that the hazard rate is increasing for people, and tends to be constant for governments and firms. This makes the first order approximation that "governments don't die" pretty accurate, even though they do in fact die.

3) Greece's ability to "print" Euros isn't relevant. Internally, the EMU maintains what is essentially a fixed exchange rate system. So, this isn't really any different than opening up your wallet, and examining the seal on the left side of your one dollar bill: it's very likely that you have dollars "printed" by different Federal Reserve banks. So, strictly this is true, but it's more of a curiosity.

4) Agreed.

Lastly, John Harvey is a contemporary of mine.

Dave Tufte said...

Sorry ... Blogger got weird, so I saved that last comment. This is a continuation.

John Harvey is a contemporary of mine. We have run in the same (macro) circles from time to time. He is almost certainly more pro-Obama than I am ... but he isn't saying anything that in the article that would be controversial to a conservative macroeconomist.

Dave Tufte said...

Patrick: 47/50 for spelling.

I think the infinite lifespan is a lark, obscuring an issue that both you and madhatter are missing.

In short, do foreigners lend to us because we want to borrow, or do we borrow because foreigners want to lend to us?

The position that Patrick and madhatter are taking is that it must be the first one. But what if it isn't?

Why would foreigners want to lend to us? Part of that would be because they have funds to lend, and part would be because we're better at servicing our debts than others. Both of those appear to be true.

I would actually start to worry when foreigners start to balk at lending more to us. But, of course, that's the situation Greece is in. If anything, we seem to be in the opposite position. But (and no offense intended) conflation of opposites is a common problem in macroeconomics, and one that often misleads.