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Economy

Why there is no “Debt Crisis” in America

Why there is no “Debt Crisis” in America

By Michael Califra, Staten Island

June, 2012

We need to stop the spending! The country is broke! We’re passing on a crushing burden of debt to our children!

How many times have you heard those words over the last few years? How many times have you recited them yourself? They do sound logical. After all, the country has a trillion-dollar deficit and a 14 trillion-dollar national debt. So the need to slash government expenditures is just a simple fact of life, right?

Wrong.

The problem is that most people think of government finances in terms of households or companies. When households or companies pile on too much debt they have to tighten their belts; another phrase we’ve been hearing a lot lately. But government finances are nothing like those of households or companies. Governments don’t have a limited working life during which they have to save for a (hopefully) lengthy retirement. Nor do they have to earn ever-increasing profits or worry about share prices. Governments also have the ability to print money, raise taxes and control interest rates – something households and companies cannot do.

And there is one more important distinction: households and companies have to pay back the money they borrow. Governments don’t.

Yes, you read that correctly. A government does not have to pay back the money it borrows. Not in the traditional sense.

When governments incur debt, that debt automatically gets smaller in relation to the economy as the economy grows. Think of a nation’s economy as an inflating balloon that gets bigger and bigger over time as the amount of debt gets correspondingly smaller.

The United States borrowed twice its GPD – nearly $30 TRILLION in today’s dollars – to fight and win World War II. The result was a Debt to GDP ratio much higher than anything we know today, (the debt was 125% of GDP in 1946). Yet economic expansion, with help from inflation, eroded that debt, so by the 1970s it was negligible. The government simply had to keep paying the interest until the principal just about disappeared. And today, the demand for US Treasuries is so high that the government’s borrowing costs when adjusted for inflation are effectively zero.

But what about Greece? Isn’t Greece buried under a crushing mountain of debt? The answer is yes. But profligate spending in Greece is nothing new. What is new is the euro. When the Greeks gave up the drachma, they also gave up the ability to inflate their way out of debt by weakening the currency. That’s a problem the United States cannot have as long as we keep the dollar.

Does all this sound too good to be true? No. It’s just basic macroeconomics that you can read in any textbook. Textbook economics aside, try to imagine the economic hell this country would be if we hadn’t been deficit spending on things like unemployment insurance, FDIC insurance and Medicaid over the last three years. Millions of American families would have been made utterly destitute by the Great Rescission, losing not just their homes, but their bank deposits and their health.

So the next time you hear a politician or talking head screaming about a “debt crisis” and all the things this country can no longer afford, you should know that they are either being deliberately ignorant or deliberately deceitful. And usually it’s both.

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"They first came for the Communists, and I didn't speak up because I wasn't a Communist. Then they came for the Jews, and I didn't speak up because I wasn't a Jew. Then they came for the trade unionists, and I didn't speak up because I wasn't a trade unionist. Then they came for the Catholics, and I didn't speak up because I was a Protestant. Then they came for me - and by that time no one was left to speak up" - Pastor Martin Niemöller

Discussion

2 thoughts on “Why there is no “Debt Crisis” in America

  1. DS comment:

    The problem with this argument is that government spending does not cause the economy to grow. It’s causing it to sink because government spending is inherently less efficient than private sector spending. If not, then North Korea would be wealthier than South Korea, East Germany would have been wealthier than West Germany until reunification, China would have been wealthier than Hong Kong and Taiwan, the Soviet Union would have been wealthier than the United States.

    But countries that prefer government spending to the private sector inevitably collapse. In Western Europe, the process is slower because Greek, Italian, etc policies are not as hardcore as the Soviet, North Korean, etc policies, but the result is still an eventual, though slower, collapse.

    It’s also worth noting that the cost of debt repayment is not “effectively zero.” This year, the United States will pay almost half a trillion – $450 billion – just in interest payments, not counting the cost of repaying the actual debt. http://www.treasurydirect.gov/govt/reports/ir/ir_expense.htm

    Half a trillion in interest payments annually is not “effectively zero,” nor does inflation cover it. First, even after inflation, we still have a couple hundred billion dollars left. Second, if the money were not spent on interest, it could have been spent on something else. Just because there’s inflation, does not mean these money could not have been spent on something useful.

    Interest payments and payments on the actual debt is almost a trillion a year. The government collects only $1.366 trillion a year. This would mean that we could have reduced taxes by 2/3 if we did not have all this debt. Think about that!

    Posted by Jewish Courier | December 4, 2011, 12:38 pm
  2. The above response to my article is wrong on every level. First, North Korea, East Germany, the USSR, had command economies where the government determined what and how much would be produced according a 5-year plan; there were no free markets responding to the principles of supply and demand.
    Second, when the government builds a bridge, it is not the government building the bridge – it is the government hiring private contractors to build the bridge. The money spent on the bridge comes from the government, but it works its way into the economy the same way private spending does. Some projects are simply too big for private industry to undertake and turn a profit on (think of the Interstate Highway system) so there is no alternative to government taking the lead.
    Third, the interest payments we are now making come from borrowing in the past, typically on 10-year Treasuries coming due. Not borrowing under current conditions where interest rates are effectively zero. The government can and does in effect refinance old debt into new zero-interest debt. And inflation does erode debt over time; it’s just a basic economic principle, which is why periods of high inflation are good for borrowers and periods of deflation are good for creditors.
    Nevertheless, with the ability for the government to borrow for free and so much work that needs to be done rebuilding this country and with so many workers sitting idle, there is no reason for us not to get to work! – Michael Califra

    Posted by Michael Califra | December 30, 2011, 3:46 pm

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