Concerns about the national debt nearly managed to shut down the government last Friday, and although we avoided that particular bullet through last-second compromise, we now face the looming threat of the national debt ceiling, which has to be raised in the coming weeks. That battle is likely to feature more of the same unreasonable demands and general childishness that our congressional leaders are so well known for. A combination of these two events makes this as good a time as any to ask something that virtually no one ever does: what is so bad about the national debt anyway?
The surprising answer is: a lot less than is commonly assumed. Therein lies the strangest thing about the national debt. Everyone simply assumes it is a horrid monster – and everyone always has. Thomas Jefferson went so far as to describe it as “the greatest of all enemies to be feared” some 200 years ago. We discuss solutions to the problem to no end, but very rarely, if ever, is it such a problem to begin with. All sides of the spectrum just blindly agree it is, only looking at the cost of getting there as something to disagree about. The root of this problem is the horrifically simplified assumption that if a household (or even a state) has to balance a budget, then so too must the federal government. Now, if this household happens to have control over a currency that is a major reserve currency for the entire world, this is a perfectly valid metaphor. However, this is not true of any American households that I’m aware of.
The dream of fiscal conservatives is to get us running a surplus again. A good thing to do would naturally then be to look to countries around the world that have reached the fiscal Promised Land. The results are enlightening. Who are those economic powerhouses blessed with low debt loads? The answer is nations with such enviable living standards as Libya, Angola and Kazakhstan. The only industrialized nation that keeps a debt load of less than 10 percent of GDP is Russia. Essentially, all of the Tea Party rhetoric about cutting government spending to save us from becoming Soviet Russia would turn us into modern Russia, only without the oil. Savor the irony of that for a bit. Meanwhile, the U.S. debt-GDP ratio is on par with countries such as Germany, and is less than half of that of Japan’s (pre-tsunami) total.
The common fear is that the United States could default on its debt obligations. This, given the international role of the dollar, which is a bit too complicated to go into here, is the height of stupidity. As long as the government can tax, float bonds or print money, the only way the government could conceivably default is if it refuses to raise its own debt ceiling. Failing that, the only real risks would be the “crowd-out” effect where the government drives out investment from going to more profitable uses, or runaway inflation. However, the empirical evidence that either of these things will occur in the case of the United States is weak at best. Robert Eisner, for example, found in examining past debt rates and inflation rates that no correlation exists between the two.
Long-term concerns certainly exist. There is no doubt that absent entitlement reform, interest payments on the debt will become increasingly costly. One also has to realize the dollar might not be the world’s choice reserve currency forever. Those objections being stated, the real risk right now is that deficit cutting zealots manage to jeopardize long term growth, which would do more to increase the long-term deficit than just about anything else. The lessons of 1937, when deficit obsession led to a series of spending cuts and tax hikes that extended the Great Depression for another four years, should not be forgotten. Great Britain continues to learn these lessons today, where the much hyped “austerity” measures have failed to increase business confidence or help sluggish growth rates. The danger is real, and positive signs of economic recovery in the news should not lead us to fixate our gaze on what is not the real danger.