The Skeptical Optimist

Deficit and Debt Burden Watch, March 2008

No balanced budget in sight yet, but the deficit (1.5% GDP) is low enough to keep the debt ratio essentially in balance (debt ratio = debt/GDP). 

Nothing from any of the candidates about that, of course, because during an election year, dollars of debt accumulated by the "bad guys" is always the headliner.  Nothing about our ability to service debt, nothing about the size of the economy, nothing about debt incurred by the government being the same thing as credit extended by the lenders—just dollars of debt.  Single-entry accounting, in other words.  It's financial nonsense, but the scare factor nonetheless makes it a political goldmine. 

I suppose it's time for some election-conscious journalist to calculate which planet all those debt dollars would stretch to if they were laid end-to-end.  Probably Jupiter or so.  (Good thing our GDP would stretch way beyond that—to Saturn or so—isn't it?)

In any case, the burden of the debt is still one-third lower than it was in the mid-1990s (burden = percentage of tax receipts it takes to pay the interest).  Below are the charts; click to enlarge.

The two biggest myths in American conventional wisdom

Myth #2
Don't you wish all of the water we drink could be of the same pristine purity as the crystal clear, refreshing water of our Rocky Mountain streams and lakes?  Almost everybody does . . .

. . . and that included me, up until one summer twenty years ago when my family spent a week vacationing in Rocky Mountain National Park.  The beginning of that week was when I promptly changed my mind about the desirability of drinking crystal clear Rocky Mountain water.  Reason: First thing the ranger told us, in no uncertain terms, was, "Please, do NOT drink any water from the streams and lakes.  Imagine for a minute what the bears, beavers, and moose are doing in the water upstream from here." 

The national park folks have been kind enough to repeat that warning on their web page, under the heading "Hazards":

Giardiasis ["beaver fever"] is a debilitating intestinal disorder, caused by drinking contaminated water, that you will want to avoid. Do not assume that stream and lake waters are safe to drink.

The "pristine purity" of Rocky Mountain water is the second biggest myth in American conventional wisdom. 

Myth #1
The biggest myth of all, however, is in first place by a wide, wide margin.  It was repeated last night by the President of the United States, George W. Bush, in his 2008 State of the Union Address:

American families have to balance their budgets.  So should the government.

Bipartisan applause broke out.  Even Vice President Cheney—Mr. Deficits Don't Matter—was applauding along with Speaker Pelosi. 

It's a powerful idea, but it's a myth.  One to which both parties feign allegiance.

The false idea that federal deficits are bad (and surpluses are good) seems to be an immovable object.  I've been trying to chip away at that dangerous myth for three years here, but the dogma is so engrained, and so easy to exploit for applause at political events (either side's), I'm starting to wonder if anything can ever dislodge the falsehood.  Maybe not. 

The federal government will run out of excuses for not balancing its budget—as soon as General Electric and Wal-Mart stop using a mixture of growing debt and growing equity to fund their growth—and as soon as the Smith, Jones, and Rodriquez families (all generations, moving through time) stop accumulating growing debt for houses, car loans, and family businesses even as their total family incomes continue to grow.  When everybody else stops borrowing, the federal government will be out of "excuses."  [Don't hold your breath waiting for that day to arrive, however.] 

Never mind that I could support a budget goal of holding the debt/GDP ratio steady—which means the debt can grow up to the same rate the economy grows, without violating the goal.  Never mind that the goal of steady debt/GDP would itself become a big challenge soon, due to demographic shifts.  Never mind that it would be far more realistic and achievable than the sophomoric sophistry of insisting on a balanced dollar budget.  A growing economy is what we need, far more urgently than a balanced dollar budget.  It's not the money, it's what we get for the money, and it's the real wealth we create that backs up the money we print. 

But apparently, few voters want to understand it—and politicians would much rather demagogue it than explain it.  (Those who do understand it, such as Mr. Deficits-Don't-Matter Cheney, immediately get their heads bitten off by those who don't understand it, and by those who know how to play false dogma for political gain.  No wonder those who understand it tend to back off; it's just human nature.  When you get struck by lightning two or three times, you tend to get off the hill.) 

Myth #1 is still the all-time champion political falsehood—way, way ahead of "pristine" Rocky Mountain water.  Just ask President Bush.  Just ask any presidential candidate still in the running, on either side.  In fact, Myth #1 is a good bet to outlive the cockroach, which has been around for 350 million years. 

Why so much fuss over the national debt? (A generic letter to the editor)

[Note: Please don't miss the end note to this article.]

False alarms about the national debt still flood the editorial pages, blogs, and candidates' press releases.  For hundreds of examples just in the past week, follow this link to Google news. 

Yesterday, while wishing I had more time to submit responses, I thought, Why not recruit some help from this blog's readers?  So, if you agree with the underlying message at this blog (i.e., that a managed level of debt can be harmless, even desirable, in a growing economy), and you'd like to help inject some sanity into the debate this year, here's the deal: Copy the two generic letters to the editor (below) to a convenient place on your computer; then, whenever you spot someone whining about the debt while ignoring our growing ability to service the debt, submit a response by using either the short or the long version below, whichever you think is more appropriate. 

Letter to the editor, short version:

I read [name of whiner goes here]'s sob story about the size of our national debt, and wondered why there was, as usual, no mention of our nation's growing ability to service the debt.  Yes, our debt is $9 trillion and growing . . . but our economy is $14 trillion, and has been growing faster than the debt.  Result: Just as the burden of my car payment decreases whenever I get a raise, the burden of our national debt decreases whenever the economy grows faster than the debt.  Why don't we ever hear that side of the story from the fear mongers? 

How about less whining about the debt, and more ideas about how to enhance economic growth, which improves our ability to service the debt? 

Letter to the editor, longer version:

[Name of whiner goes here]'s sob story about our $9 trillion national debt leaves out some very important information: Our national economy is $14 trillion, and it has been growing faster than the debt.  Guess what: That means our ability to service the debt has been improving. 

Think the interest on the debt is a problem?  Well, in the mid-1990s, it took around 15% of federal tax receipts to pay the net interest on the debt; but now, it only takes 9%.  That's a 40% reduction in the debt "burden" in a dozen years.  Again, our ability to service the debt has been improving. 

Think it would be a problem for future generations if, instead of paying down the debt, we allowed it to keep growing at a rate of, say, 2% every year, year in and year out?  Well, if our economy and our federal tax receipts grew at a rate of, say, 3% every year, our debt "burden" would decrease, year in and year out.  Future generations would be better off than we are, in spite of the debt growth. 

So instead of stirring up fear about the negative side (the debt), why don't we start giving at least equal time to the positive side: a growing economy?  That's the best antidote to a growing debt level. 

I, for one, have heard enough whining about the debt and the interest payments.  Does anyone have any ideas about how to enhance economic growth?  If so, let's hear them.  Steve Forbes said it succinctly:

You can't cut your way to prosperity; you've got to grow the economy.

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Important end note: 

A happy, healthy, and prosperous new year to all of you.  Thanks for spending a little time here. 

FQ.07.50: Favorite Quote for This Week

We should tax the private sector sufficiently to free the resources that we find desirable for the government to command, but no more than that.  This is likely to entail a stable debt/GDP ratio in a growing economy.
—Robert Eisner, The Misunderstood Economy

Fun with Deficits

Whether you're left of center or right of center (...or you don't care to be measured relative to whatever "center" means), today's budget deficit of 1.2% GDP is a non-issue. 

That is, unless you're one of those on the left or right who likes to play political games with deficits.  A few politicians and concerned citizens disliked the idea of deficits so much they formed an organization, in the '80s I think, called The Concord Coalition.  (I wrote them a letter nine years ago, but haven't yet received an answer.  I'm starting to think someone lost it at the bottom of her inbox, or buried it in Concord's too-hard-to-do file.  Too bad; back then we still had three years left to shift our priorities before 9/11/01 arrived.) 

Recently, I've noticed left-leaners having some rhetorical fun with the deficit.  Their typical assertion:

"No wonder the administration touts the 'unified budget deficit'; it looks really small.  Why don't we ever hear about the deficit that really matters, the dreaded, bloated General Fund deficit?  It's a sinister plot to keep you uninformed about the tragic raid of the social insurance trust fund surpluses." 

Yes, and I'm sure Karl Rove was behind that plot, too. 

Well, now it's my turn to have some fun with deficits.  First, let's review what has happened in the last fiscal decade (i.e., ten years ending October 2007).  The federal government's receipts and outlays net out to the surpluses and deficits shown in the far right column below:

The bottom right corner, $1.1 trillion, is the ten-year increase in publicly-held debt -- which most economists (...those who refuse to let politics get in the way of economics, anyway) say is the most important of several measures of federal debt.  Here's an excerpt from a summary page at the US Treasury website:

Debt held by the public is the most meaningful of these concepts and measures the cumulative amount outstanding that the government has borrowed to finance deficits.

So, let's see what the deficits look like under three different accounting scenarios.  The first is the way the feds actually chose to account for the receipts (because it's the law).  Here's what the deficits look like; the orange star is the additional amount that was borrowed from the public. 

Now for the fun part.  Let's "shore up" the General Fund, just by assuming the law mandated accounting for the receipts a little differently.  (Note: same total receipts, same total outlays, nobody's social security check changes by even a penny.)  All we do in Scenario 2 is call all social insurance receipts by a different name: "General Fund supplemental taxes." 

Note that there's no change in the amount borrowed from the public (see orange star); we just changed which government pocket owes government-backed money to the other government pocket. 

Now let's assume the law mandated that all trust fund surpluses be classified as "General Fund supplemental receipts."  (Again, same total receipts, same total outlays, nobody's social security check changes by even a penny.  Again, we just changed how much one government pocket owes government-backed money to the other government pocket.  Again, no change in the amount borrowed from the public.)

Bottom line: Because the unified budget deficit is the change in publicly-held debt, that is the important deficit number to track.  It is currently 1.2% GDP; it's small.  When you hear anyone assert that the general fund deficit is a more important number, start suspecting a political agenda attempting to masquerade as economics. 

The never-mentioned way to keep the publicly-held debt to a comfortable percentage of GDP is to grow GDP at least as fast as the debt grows.   Because sufficient growth makes debt a non-issue, I wonder which candidates have some positive ideas about how to enhance the growth of the economy.  [A few Republicans do (...not all); but I'm having trouble remembering any specific growth proposals from any Democrats.  Maybe I haven't been listening enough; help me out if you know of some.]      

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End note:
If you know anyone who asserts that the above analysis is invalid because it "steals from the trust funds"—including your Senators or Congressman or Congresswoman, ask them how they'd answer the following brain teaser:

If you were in charge of financial management for the federal government's social insurance trust funds, and the trust funds ran a surplus, would you:
(a) hoard the US-government-backed cash; or
(b) exchange it for interest-earning US-government-backed bonds? 

If they picked (a), ask them why they'd choose not to earn interest on their multi-trillion dollar financial asset.  If they picked (b), congratulate them for choosing the method by which trust fund surpluses are already being managed. 

The debt ceiling: a long-term remedy

Treasury Secretary Henry Paulson has asked Congress for an increase in the federal debt ceiling as soon as possible, from $8.965 trillion to $9.82 trillion.  That proposal leaves room for improvement; I'll explain why below. 

First, here's part of what he said yesterday:

"The full faith and credit of the United States, to which we all remain committed, is a national asset and a cornerstone of the global financial system," Paulson said in his letter. "In light of current developments in financial markets, which would be exacerbated by uncertainty in the Treasuries market, I urge the Senate to pass the legislation reported by the Finance Committee to increase the debt limit as soon as possible." 

He's absolutely right about US creditworthiness being a national asset.  Unfortunately, it's impossible to place a value on that asset, so we can't know how much it helps to offset the government's widely-publicized "unfunded liabilities."  That's too bad, because creditworthiness (not quantifiable) is one of several intangible assets helping to keep interest rates down in spite of the (quantifiable) unfunded liabilities. 

A better idea
Anyway, I think the recommended change to the debt ceiling could be much better.  Instead of changing the debt ceiling from $8.965 trillion to $9.82 trillion, I recommend changing it from $8.965 trillion to 75% of GDP. 

Making the debt ceiling dependent on the size of our economy—which is a good proxy for our ability to sustain a given level of borrowing—would immediately yield at least two major benefits.  First, it would put a stop to the meaningless, time-wasting debates and grandstanding about dollar limits.  Second, it would force Congress to introduce a new element into the fiscal debate: how to enhance the growth of our economy. 

I can think of several experts whose testimony would help Congress understand how the government might be able to enhance the economy's growth, starting with Paul Romer.  Robust growth will be especially important in light of the unanimously-recognized upward pressure on government obligations, coming within the next decade or two.  It deserves more time in the national debate. 

New debt ceiling: 75% of GDP.  How about it? 

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I explained this rationale in more detail a while back, in an article titled "Fiscal Responsibility Defined at Last."
If I sound like a broken record, it's for a reason.

Easy National Debt Quiz for the Candidates: Part 1 of 2

Here's an easy question for the next presidential debates, if only we could get somebody to ask it.  It's the first of two simple questions about the national debt; it's a question about today's circumstance.  (The second simple question will be coming soon; it will be a question about how the national debt situation might change in the future, both near term and longer term.) 

The question is simple enough, and it's intended especially for politicians fond of pointing only to the big, scary debt number of $9 trillion, while mysteriously avoiding any mention of the big, encouraging GDP number of $14 trillion.  When they talk only about a single debt number ($9 trillion), out of context, it's single-entry accounting—but that became obsolete several centuries ago.  It's time we introduced our politicians to double-entry accounting, don't you think?    

I do.  That's the reason for this two part quiz.  After seeing what kind of response this one brings in, I'll post the part two question (...the one about the future). 

Why not just drop the AMT, and forget how to "pay for it"?

The Alternative Minimum Tax was designed decades ago to prevent a handful of rich people from getting away with zero taxes.  Congress unsurprisingly "forgot" to index it for inflation; as a result, millions of today's non-rich people are getting unfairly snagged by the AMT. 

The tax code's complexity, even back in the '70s, had created loopholes permitting those few rich people to get away with zero taxes.  The solution, as usual, was to make the tax code just a little more complex, instead of simplifying the tax code to eliminate the loopholes.  Politicians haven't changed much, in other words. 

The question everybody is asking today:

"When we eliminate the unfair AMT, how should we pay for it?" 

That's the question Charlie Rangel and Jim McCrery (both Congressmen on the Ways and Means Committee) kept getting on Larry Kudlow's show yesterday.  Think about it: If we dropped the AMT, how would you "pay for it"?

Sorry, that was a trick question.  The key question—the one nobody is asking—is this:

Who cares whether we "pay for it"?  Why not just drop the AMT, PERIOD?

Just for fun, ask your friends to ponder that one over the weekend. 

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End note:

I can almost guarantee what your friends' reflex answer will be: It will contain the word "deficit" or "debt" or both.  The obvious followup question should then be, "Why, what's wrong with having a deficit?"  Before accepting any answers to that question, send them to the following links:

• The Debt Doomsday myth
• "Fiscal responsibility" defined

Uncle Sam, your banker, will see you now

Did Paul Craig Roberts mistakenly omit a comma when he scripted the title to his August 8 article, "Uncle Sam, Your Banker Will See You Now"?

I started wondering about that after I went down to my bank and took out a certificate of deposit.  Upon returning home, I reflected on that transaction.  I'd had a few dollars I'd rather earn interest on instead of stuffing them into a mattress, so I loaned them to the bank.  In return, I got a piece of paper that said the bank would pay me back with interest.  I was the lender, my bank was the borrower.  Everybody was happy. 

Moreover, that transaction was similar to all the times I'd gone down to that same bank over the years and purchased a United States Savings Bond.  Each time, I had a few dollars that I wanted to invest safely, and that Uncle Sam serendipitously wanted to borrow from me—so Uncle Sam traded me a piece of paper that said he'd eventually pay me back with 5% interest.  I was the lender; Uncle Sam was the borrower.  That was perfectly okay with me, because Uncle Sam is the ultimate bank for dollar transactions.  Everybody was happy. 

China, too, has been accumulating a few dollars they'd rather not stuff into a mattress.  China's government is like I am, in one respect: they wanted to invest some of their dollars in a safe, interest-bearing security.  By a fortunate coincidence for China, Uncle Sam wanted to borrow those dollars, too (in addition to mine).  So Uncle Sam traded China some pieces of paper that said he'd be happy to pay 5% interest for the privilege of borrowing those dollars.  China was the lender, Uncle Sam was the borrower.  That was perfectly okay with China, because Uncle Sam is the ultimate bank for dollar transactions.  Everybody was happy. 

Or almost everybody.  A few headline-writers now seem to think China owns us, and can have their way with us whenever they'd like.  Frankly, I don't get it.  Uncle Sam is the bank—i.e., the borrower.  China is the lender, the holder of that bank's certificates of deposit... or, one of the many holders, anyway.  If China, the buyer of Uncle Sam's CDs, now wants to sell them before they mature, they'll either find plenty of buyers at going rates (such as the British), or they'll have to take a loss by selling them at a discount.  That's the financial equivalent of shooting themselves in the foot.  That's why I don't get it.

If I were the lender (and, in fact, I am one of them, because I own several US Savings Bonds), I'd prefer to hold onto Uncle Sam's securities until they mature... then roll them over into new ones.  The rest of the world's lenders in the vast bond market still seem to think Uncle Sam's treasury securities are among the safest financial instruments on the planet; not only is the bond market correct in that assessment, but as long as the US economy remains healthy and growing, those securities will remain safe and secure.  Why would I want to reduce the value of my own treasury securities by dumping them?  And why would China? 

The only logical scenario I can think of for dumping my US securities would be if I saw some kind of ominous threat to the US economy—such as, come to think of it, the threat of a protectionist trade war.  Could that be what the article was hinting at by mentioning "the idiots in Washington"?  Could protectionist American politicians, instead of China, be the biggest threat to our economy, and therefore to the value of dollar-denominated securities that Uncle Sam, the banker, is issuing? 

I must admit, that is a threat; how sadly ironic that it's coming from our own politicians. 

Last week's "favorite quote" by Paul A. Samuelson bears repeating here: 

Protectionism breeds monopoly, crony capitalism, and sloth.  It does not achieve a happy and serene egalitarian society.

An $800 billion freebie, hidden in the national debt

Once a quarter, I like to update this pie chart showing who owns the national debt—mainly so you and I can keep our politicians honest.  I'll explain the $800 billion freebie below.  Click to enlarge.

Private sector owners of the debt
This time I added a breakout of the private sector's ownership: insurance companies, pension funds, and others.  Well hidden inside the private sector's portion (until now) is $800 billion of treasury securities that, in essence, is merely a token entry on the asset side of the Federal Reserve's balance sheet.  It's the cumulative result of the Fed's so-called money printing operations: the bonds purchased by the Fed from the public, using brand new money the Fed has the authority to create out of "thin air" (...to the unjustified horror of many). 

The Fed's inventory of these token bonds will only get bigger and bigger.  That's because our growing economy will forever (I hope) require more and more money injection—to prevent deflation as we produce more and more goods and services.  And here's the good part about that T-bond inventory: nobody will ever have to "pay it back."  [See end note for even more good news.] 

Why not?  Because the Fed's T-bond parking lot is a lot like that place in the Arizona desert where we park all those defunct military airplanes.  That's why I think of it as the "T-bond boneyard."  Others might like to think of it as an $800 billion freebie.  I don't care what we call it; the important point is, even if you know someone who thinks the $8.9 trillion federal debt is a problem, you can at least make them feel $800 billion happier about it.  Just explain the Fed's boneyard to them; they'll be all smiles after that.

Foreign owners of the debt
Anyway, the Chinese still don't own nearly as much of our federal debt as the Japanese do—and neither of those countries has been purchasing nearly as much as the British have.  Here's an idea: Maybe if the Chinese would sell their excess US treasury securities to the Brits, everybody (Chinese, Brits, American doom-peddlers) would be happier, and we could spend more time debating how best to grow the economy faster, and less time conjuring up nightmares about when the Chinese government might turn itself into a financial suicide bomber by dumping their US treasuries all at once. 

Dream on, Steve.

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End Notes:

Data sources
• US Treasury data (breakout of foreign holders)
• SIFMA summary of Federal Reserve data (breakout by institution)

For-what-it's-worth fact about paying back the debt:

The present value of paying back all of the debt principal is exactly equal to the present value of never paying back one penny of the principal (i.e., of paying interest forever and ever).