Government Debt: Why it Doesn’t Matter for the U.S.
September 16, 2009
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For the past few months there has been a great deal of controversy over government debt and the cost of issuing additional stimulus and new programs such as health care reform. Critics say the U.S. is taking on too much debt and that it will eventual implode the country. Well is should come as no surprise that the U.S. government is not like me and you when it comes to finances.
U.S. debt doesn’t matter; it is merely a statistical score sheet. You can actually liken U.S. government debt to the dead beat that never pays his credit cards or other bills and simply rolls over debt with consolidation loans or uses one credit card to pay for another. The problem for the individual is this credit line eventually gets cut. However, the U.S. credit line will likely never get cut and here’s why.
The U.S economy is still the largest economy with Gross Domestic Product (GDP) of 14.4 trillion dollars for 2008 (13.3 trillion in 2005 dollars) and is approximately double that of China for all the hype it gets. In terms of a percentage of U.S. public debt to GDP the U.S comes in ranked number 24 or about 61%. This is better than notable economies such as Germany (64.4%), Canada (63.8%), India (61.3%), France(68.1%), and Japan (173%) of outstanding debt based on IMF estimates (https://www.cia.gov/library/publications/the-world-factbook/rankorder/2186rank.html). The worst country in terms of debt as a percentage of GDP is Zimbabwe coming in at 259.40%. Many joke that the U.S dollar will become the Zimbabwe dollar but it seems we have ways to go before that happens. If you look at debt in terms of a fraction of GDP, then the U.S. is far better than it was in 1940 (http://en.wikipedia.org/wiki/United_States_public_debt) and in reality we are circa the 1955 levels. In terms of GDP using purchasing power parity (ppp) aka bang for your buck, per capita the U.S ranks 6th in the world by the IMF and is by far the best largest country in the top 10 while China only comes in at 100th. Being that China has many more people, they should be producing much more. Seeing that 61% of our GDP is foreign national debt, foreign nations have a vested interest in keeping the United States alive and well. To “stop buying” our debt would be suicide and akin to trying to only burn down only 25% of your house; especially for larger economies. US debt is pretty much owned by every major economy. China coming in at number one with 24% followed by Japan at 20% Like it or not, every nation is in this together. Worse comes to worse, the U.S. debts will just be forgiven as countries are left with little alternative until they find another consumption behemoth or another planet to trade or invest with. Debt forgiveness happens frequently with African governments and many times over.
In terms of consumption, the U.S represents approximately 7 trillion dollars or about 11% of the entire world’s consumption http://www.bea.gov/newsreleases/national/gdp/gdpnewsrelease.htm. This is roughly 1.4 times the size of Japans economy and about 1.6 the size of Chinas (http://en.wikipedia.org/wiki/List_of_countries_by_GDP_(nominal)). This is a staggering number that shows the United States ability to spend that cannot be ignored by any nation. Certain news articles even state that it would take “five earths” if the entire world consumed like the U.S (http://www.naturalnews.com/022890.html). Environmental concerns aside, this is a powerful percentage that simply cannot go away. Foreign economies depend on our excessive appetite for consumption and are left with little alternative. This mutual dependence is why foreign economies depend on the U.S. debt and are being forced in. This brings me back to the financial model. If banks have no one to lend to, then how would they make money? In theory, it is the same for government. Foreign governments are forced into buying other nations debt because they need to do something with their money. The sheer dollar volume involved (trillions) makes it impossible to be absorbed by the private sector and so the only alternative is to lend to the world’s largest economies no matter how fiscally irresponsible they may be.
The massive stimulus response and quantitative easing by the US government to address the recession will ultimately not affect the U.S. economy. While the bailouts and stimulus packages have been criticized by many calling it socialism bailout advocates are simply taking a page out of Keynesian economics. Government intervention is nothing new. In fact it has always been a major component of GDP and is actually part of how the formula is calculated. Without going into the macro economics side of things too much, GDP = C (Consumption), I (Investment), G (Government spending) and X − M (Net Exports) (or GDP = C + I + G + (X − M). John Maynard Keynes, a famous economist, essentially states that the private sector screws up sometimes and leads to inefficient macroeconomic outcomes (no need to inform TARP recipients) and therefore advocates public response through either monetary or fiscal policy to stabilize the business cycle. He also states that excessive saving is a serious problem encouraging recession or worse depression. So it comes as no surprise that the US government enacts monetary policy by making saving the least profitable endeavor by lowering the fed funds rates in turn affecting all interest rates and making borrowing that is either used for investment or spending cheaper. All this is in an effort to boost the economy. With fiscal policy, we could call this a bridge loan until things get better and we are able to pay it back. Aside from the eventual crowding out affect of fiscal policy because the government essentially "pushes out" the private sector by creating artificial demand, fiscal policy is not an issue as long as it eventually unwinds. In economics “eventually” can be years so time will tell. While I personally favor more the Milton Friedman’s view of economics that only favors monetary policy, stimulus is sometimes needed. Political agendas aside, when properly utilized economic stimulus is a tool that has been successfully and unsuccessfully utilized for centuries dating as far back as the Roman Empire.
With stimulus there comes the question of how do we pay for it? The U.S. can finance and eventually pay for stimulus either through higher taxes or inflation. Since no one favors higher taxes either politically or socially, inflation is the easy answer. Now inflation often gets a bad rap because it could be considered taxation without legislation, but it is nothing new and is actually necessary for a healthy economy as long as it is controlled. The definition of inflation is “a rise in the general level of prices of goods and services in an economy over a period of time" (http://en.wikipedia.org/wiki/Inflation). You just have to listen to your grandparents talk and I am sure you have heard “a cup of coffee used to cost 10 cents” and “I remember when the movies were 50 cents” etc. So inflation is actually good for markets and the economy since companies now have pricing power and can raise prices resulting in higher profits and most likely expanding and subsequent employee hiring. Companies can only raise prices when there is more demand for their product. Furthermore, with inflation would you rather own cash (dollars) that is becoming less valuable or say stock in a company that is increasing profits and probably expanding? So the fear of rampant inflation and the subsequent tanking of markets is wrong. The U.S. would have to spend something to the tune of 30 trillion dollars in a single fiscal year to become the next Zimbabwe. So the whole goal is for the U.S. government is to bring back inflation across the board steadily and not just in certain sectors like healthcare.
In summary, the U.S is still in decent shape despite all the mass headlines and articles to the contrary. There is no need to go procuring food and ammo. The U.S. productivity in terms of working hours is still one of the highest in the world with the average working hours per week coming in at 35 hours. (http://www.billshrink.com/blog/working-around-the-world/ ). While unemployment remains high, it had to reach these levels and will be actually be a good thing moving forward. Companies have gotten rid of the waste and have become more efficient at utilizing their capacity and are now more productive. A reallocation of the U.S. workforce is needed to shift from traditional stagnant industries to new growing ones. The industrial revolution, widely held as one of the most successful economic periods in our time, had very high unemployment. Traditional peasants were being replaced by machines and new technology but eventually this new technology caused a sustained rise in real income per person despite the debate over the definition of the standard of living for the time. Today, one could even draw the same similarity to what is going on in the U.S. car industry. The U.S. is simply in the midst of a workforce “shift”. Laid off auto workers may now change professions and head toward growing sectors like alternative energy. Reallocation and an improvement of technology are essential for a growing economy. The free market is very efficient and while not always seemingly fair, it forces the best outcomes. Competition breeds excellence and capitalism will always prevail if simply not for the plain fact that humans are inevitably greedy.
With that, the United States finds itself with economic conditions that are quite manageable. However, to coin John Adams “all the perplexities, confusion and distress in America arise not from defects in their Constitution or Confederation, nor from want of honor or virtue, so much as downright ignorance of the nature of coin, credit, and circulation”…seems like we are still working on that 200 years later.
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