Dallas Morning News columnist Scott Burns wrote June 1 that the government's debt is actually "a mind-numbing $43 trillion. . . ."The hysterical blogger thereupon concluded that "we" are bankrupt because "our" debt outstrips "our" net worth. As I tried to explain to the hysterical blogger, the $43 trillion is not debt "we" (householders) owe today, it's an estimate of the present (discounted) value of future, unfunded obligations of the U.S government. Only about 1/6 of that amount is now on the government's books (the current, gross federal debt). The rest won't become a legal obligation unless and until the government is required to borrow money because future outlays exceed future revenues.
Burns said the Federal Reserve has put the net worth of all U.S. households at just $40.6 trillion. . . .
Dr. Kent Smetters [an economist on a Treasury Department project], testified before a subcommittee of the House Judiciary Committee, Burns wrote.
Smetters told the subcommittee: "The government reports that the national debt in 2003 was about $3.6 trillion in the form of government 'debt held by the public.' But that number ignores massive imbalances in Medicare and Social Security programs and the government's other programs.
"When the liabilities associated with those programs are taken into account, the nation's fiscal policy is currently off-balance by over $43.4 trillion in present value, a number that is not reported in standard budget documents," he told the subcommittee. . . .
Let me elaborate: $43 trillion is an estimate of the present (discounted) value of debt the U.S. government might eventually owe, given certain projections about revenues and spending (including spending on entitlement programs such as Social Security, Medicare, and Medicaid). Those projections might prove to be wrong, either because of (1) cuts from projected entitlement benefits (which wouldn't mean cuts in actual benefits, as benefits are scheduled to become more generous), (2) increases in the taxes that partially underwrite those benefits, or (3) some combination of the two. The same is true for government's general accounts (the ones that fund actual government operations as opposed to transfer payments), which also are subject to future changes in spending and taxes.
But let's assume that all of the projections will come to pass, so that the discounted value of future government spending less future taxes is in fact $43 trillion. Does that somehow mean we are bankrupt or on the verge of bankruptcy? No it does not. Consider this example: Mr. & Mrs. X apply for a mortgage loan. Based on their current family income of $100,000, the lender gives them a $250,000 loan to buy a house. Now, I know that the loan becomes a real, current obligation (unlike the $43 trillion), but bear with me. The loan doesn't bankrupt Mr. & Mrs. X; otherwise, the bank wouldn't give them the loan. The loan doesn't bankrupt Mr. & Mrs. X because the lender is pretty certain, based on the couple's employment history and prospects, that the couple is going to keep making $100,000 a year, and more.
How does that relate to the $43 trillion? The $43 trillion includes today's federal debt (which already is being serviced) plus a stream of projected future deficits of, let's say, $1 trillion a year. Now, I don't like that extra $1 trillion a year any more than anyone else (except liberals, to whom I'll come). My reason for not liking it is this: It is part (and only a small part) of a massive redistribution of resources by government; taking from those who are productive and either pouring the resources down ratholes or giving the resources to people who haven't earned them. Regardless of that, Americans can "afford" the extra $1 trillion a year because they're now making about $12 trillion a year (GDP), less federal, state, and local taxes (excluding transfer payments) of $2+ trillion a year. So, like Mr. & Mrs. X, we taxpayers can afford the annual "mortgage" payment (the additional $1 trillion a year) from future income (GDP), so we're a good credit risk. Or, rather, the U.S. government is a good credit risk because it can always tap into our pockets by raising taxes.
That brings me to the question whether the U.S. government's debt can continue to grow, and at what rate. I addressed that question at length in an earlier post on "debt hysteria"; for example:
Because individuals and institutions are quite willing to lend money to the federal government, it can keep piling up debt indefinitely. In fact the federal government has been able to increase its debt almost continuously since opening for business. From January 1, 1791, to April, 19, 2004, the federal debt rose at an average annual rate of 5.5%. During that period, the debt reached a low of $33,733.05 on January 1, 1835. From then until April 19, 2004, the debt rose at an average annual rate of 11.3%. That's a much greater rate of increase than we've experienced recently or expect to experience in the next several years.What about debt service? It comes down to the same thing. One person's interest payment is another person's income. The interest rate on the government's debt does fluctuate, but that's due less to the size of the debt than to conditions in credit markets. U.S government debt, as large as it is, is a small component of global capital markets -- currently less than 10 percent. (There's a relevant chart about interest on the debt in this post by The Skeptical Optimist.)
What about those future generations? Well, future generations not only "inherit" the debt, they also inherit an offsetting asset. If you lend the government $10,000 by buying a 10-year Treasury note, and you keep rolling the note over (that is, buying a new 10-year note when the old one matures), the note eventually will pass to your heirs.
Future generations of taxpayers also inherit an obligation to pay interest on the federal debt. But those same future generations receive the interest that is being paid.
What about those "foreigners" who hold U.S. government debt? There is the notion that, by holding our debt, foreigners have a "hold" over us. How so? It hurts them if U.S. debt loses value. Foreigners have absolutely no incentive to "dump" U.S. debt unless financial markets already have signaled that it's losing value, or unless they get wind of a sudden, unanticipated change in America's economic picture. The $43 trillion isn't such a change; it's long been anticipated by financial markets. In any event, given the liquidity of U.S. government securities, there is scant room for speculative attacks on those securities. If any large investor were "dumping" U.S. debt, in the absence of new information, that would be the investor's loss because the investor would be driving down the value of its own holdings. The value of those holdings would return to something like their former levels once the investor had finished its "dumping," thus rewarding the buyers with windfall profits.
Variations in the price of U.S. government debt depend mainly on inflationary expectations for the U.S. vis-a-vis other countries. Inflationary expectations and trade deficits also influence exchange rates, and exchange rates play back into the price of debt. We've been through periods of high inflation, high interest rates, large trade deficits, and low exchange rates at varying times, and we'll go through them again. Today we have relatively low (but rising) inflation, and relatively low (but rising) interest rates, a persistently large trade deficit (willingly financed by foreigners), and therefore a falling exchange rate. But all of that can and will change as higher interest rates and lower exchange rates work their way through the economy, dampening investment and consumption spending and, therefore, imports.
Today is not forever. Doomsaying is an ancient and long-discredited profession. Remember the ten years between the "oil shocks" of the early 1970s and the end of double-digit inflation in the early 1980s? Remember the next 20 years of almost unmitigated economic growth with low inflation? Extrapolating from current economic conditions is a sucker's game, unless you bet on the underlying trend in the U.S., which is long-term economic growth.
Yes, we could go through a prolonged period of higher inflation and higher interest rates, but that doesn't mean the U.S. government won't be able to fund its debt. Someone always steps up to buy U.S. government debt, because it's so secure. And given the underlying strength of America's economy, which is the source of the U.S. government's good credit, someone always will buy U.S. government debt.
And now we come to the real problem: government spending. Whether government spending is financed by debt or taxes, it is a generally destructive force. Government spending (with some exceptions for defense and justice) results in the gross misuse of resources. And the ways in which Americans are taxed to fund government spending (which is still how most of it is funded) tends to penalize, and thus discourage, growth-inducing initiatives.
Let me say it again: The real problem isn't government debt, it's government spending. Government debt is the effect, not the cause; the symptom, not the disease. Our "leaders" in Washington obviously don't want to do anything to fight the disease; they're like terminal alcoholics who keep ordering triple shots.
It's up to libertarians and legitimate conservatives to make some real noise about government spending. Focusing on debt plays into liberals' hands because they've come around to "fiscal responsibility" -- their kind of fiscal responsibility: higher taxes to support higher spending.