Poll:US Public Debt Surpasses Established Danger Point

[haha]

Economists Ken Rogoff and Carmen Reinhart researched what they call eight centuries of financial folly and published their exhaustive results in This Time It's Different.
http://www.amazon.com/This-Time-Different-Centuries-Financial/dp/0691152640/ref=sr_1_1?ie=UTF8&qid=1360523381&sr=8-1&keywords=this+time+it%27s+different

Reading and remembering much of this is a real job, but one thing that seemed to stand out is that for many countries, at many different times, a 90% ratio of public debt to GDP has proven to strongly and negatively impact economic growth rates.
US public debt to GDP maxed out at 112% in 1945, after increasing rapidly during the depression and especially during WW2.
By 1974 it had been brought down to slightly less than 25%. Since it has been up and down; in the late 80s and early 90s there was even talk of paying it off completely. I remember earnest worries about how the world would be able to survive without US treasuries to invest in.

Anyway, no worries about that any longer, as the debt has mushroomed during the 21st century with no slowdown in sight so far.
So what are our chances of bringing this ratio rapidly down? My guess is less than nil. Coming out of WW2 the US had the only industrial plant of consequence still standing. We had bombed the enemy's plant to dust, and Britain was exhausted and the USSR far from being a commercial rival. So that, combined with excellent cooperative US politics in the postwar period allowed us to rapidly pay down the war debt.

Next question, is this perhaps finally the time that it will turn out to be different, and the special magic that some people attribute to the United States again pull some rabbit out of the hat so that we can continue blithely along with no meaningful ill consequences?

Ha

 

[Mulligan]

Based on the chart, 2002 seems a long time ago now doesn't it? I read recently that government owned lands may hold up to $120 TRILLION in oil and gas reserves, based on new discovery techniques. Maybe it can be used to finance this debt. Of course a lot of it is in the ocean and preserved land areas.

 

[MichaelB]

Total outstanding debt in the US has grown much more.

I would imagine over a long period of time the debt will not retain its purchasing power, compared with other assets.

 

[Independent]

I've never been a believer in the "It was easier to reduce the debt after WWII because European factories were destroyed" idea. My understanding of economics is that if some disaster strikes my trading partners, I am poorer.

But, I think that's a tangent.

I think the size of the public debt will increase the chances of inflation and make political decision making harder than it would have been with a smaller debt. The fact that more of it is held abroad today than 30 years ago makes this even more complicated.

BUT, I'm not sure how that should impact my retirement planning. Presumably, I should have bought gold coins a long time ago. I should be cautious in assuming that SS and Medicare will be there. Maybe US stocks will perform a little worse than they did in the 20th century, but most large "US" corps are really multinationals already.

The net is that I should spend a little less today. Other than that...?

 

[haha]

Regarding inflation, Rogoff and Reinhart found something they did not expect. Once public debt to GDP reached 90%, it led to inflation in developing countries, but this was not visible in developed countries. What they saw in developed countries was a big drag on economic growth rates. Possibly the poster child for this is Japan, where public debt to GDP is
twice ours, but they seem unable to get any inflation going no matter how hard they try.

Regarding the aside on being the only producer left standing. While you are likely correct wrt goods and services and standard of living, if what you need is cash to pay off debt, it is a more mercantilist situation and balances pile up fast, similarly to how China piled up balances since until recently they have had not the only the industrial plant, but almost the only plant that was economically competitive, due to their low labor costs.

Re: planning, I am not one who assumes that unless something gives immediately actionable plans that it is not worthy of study. But, going by all this history, I would not expect GDP growth to be as strong going forward, even after (if) we get a real recovery.

Ha

 

[eridanus]

Germany's ratio is 82%; France is around 86%, as is the UK. Heck, even China is ~80% if you include local government debt (which is federally guaranteed) and non-performing central bank loans. 1 We're in good company.


1 Chinese public debt: Coming clean | The Economist

 

[imoldernu]

Watch the FED, and where the debt is going. The reserves that they created last week, $237B, went to Eu Banks. This is a tricky balancing act.
Also, effective this month, China officially passed the US as the World trade leader... $390T... US trade deficit $728B, China surplus $279B.

None of this by itself, trickles down to the markets, but the $16T+ deficit is a
tough hurdle.
The neartime risks seem to be Italy and Spain.

The pundits are all over the lot... Doomsday from March 1st to three years from now... And these are the people who have been and are super-successful.

But we've been here before, haven't we? Since I'm basically a loser in this stuff, it's just something to watch. Going through my baseball cards to see if I have one worth $92,000.

 

[Htown Harry]

As readers of my posts know very well, I am not an economist. So be kind - I'm putting this out to learn from the responses, not for staking a position in a debate. I need more information before I vote.

There's one think I just don't get about the debt-to-GDP warnings. Why is the calculation not normalized by using the cost of the debt, with the interest cost to the government being the divided into the GDP instead of the absolute amount of debt? Our current federal interest expense as a GDP% is within historical ranges, and is expected to remain there for several years.

When one looks back at historical federal government interest expense as a percentage of GDP from 1940 to the present, it ranges from .3% (1942) to 3.4% (1947). It ranged from 1.2 to 1.5% for most years before 1975, then moved up to around 3% in the late 1980's and early 1990's. Through the 00's, it stayed below 2%. The executive branch's FY 2013 budget document shows it at 1.5% currently and projects a rise to 2.7% by 2017.

Source is Table 3.2 here: http://www.whitehouse.gov/sites/default/files/omb/budget/fy2013/assets/hist.pdf

I found this table attributed to CBO that appears to show the same numbers, projecting them out a few years farther:

"But Harry, we're at historically low interest rates. What happens when rates go up? Interest expense goes up."

Wikipedia says this about interest rate risk and the federal budget:

Despite rising debt levels, interest costs have remained at approximately 2008 levels (around $450 billion in total) due to lower interest rates paid to Treasury debt holders.[93] However, should interest rates return to historical averages, the interest cost would increase dramatically. Historian Niall Ferguson described the risk that foreign investors would demand higher interest rates as the U.S. debt levels increase over time in a November 2009 interview.[94]

Fair enough, but it seems to me that interest rate risk is also moderated by several factors.

First, I don't see any current indications of the holders of the debt are heading en masse for the exits, driving up Treasury interest rates. (Recent scares in the European economy even provide evidence to the contrary.)

Next, the government bond debt is spread out across various durations. (What's the average, maybe 10 years?)While there is of course an immediate mathematical impact from increasing rates when new debt issues are involved, the impact of higher rates on refinancing expiring debt in a given year is incremental (say 3% > 4%). And both types of debt issues at higher rates are diluted over a very large balance of non-expiring debt sitting at fixed rates.

Finally, there is the likelihood that a general rise in interest rates and pressure for increasing Treasury yields will be accompanied by increases in inflation. But based on the Fed's established and powerful position, this won't occur until the economy is humming as evidenced by lower unemployment. So, yes, the government's interest expenses will go up, but so will government receipts and GDP.

 

[ERD50]

As readers of my posts know very well, I am not an economist. ....

There's one think I just don't get about the debt-to-GDP warnings. Why is the calculation not normalized by using the cost of the debt, with the interest cost to the government being the divided into the GDP instead of the absolute amount of debt? Our current federal interest expense as a GDP% is within historical ranges, and is expected to remain there for several years.

Well maybe you should be an economist, that seems like a very worthwhile way to look at it.

But as you say later, duration is an issue. If rates rise, a 10 year duration means that about 10% needs to be replaced each year (is that correct, I'm not an economist either!), maybe at much higher rates. I think that's the 'gotcha'. If we don't reduce the debt significantly in 10 years, and rates rise - that expense rises.

Taking comfort in historically low interest rates seems a little like taking comfort in a market at it's peak - what could go wrong?

-ERD50

 

[ERD50]

Sorry, didn't vote. I'm somewhere between "we're cooked" and "meaningless", but leaning towards "We're cooked". I'm also not confident 'we will find a way to deal with whatever difficulties that may come along'. But we might find a way to mitigate it some degree (or in spite of it).

-ERD50

 

[haha]

As readers of my posts know very well, I am not an economist. So be kind - I'm putting this out to learn from the responses, not for staking a position in a debate. I need more information before I vote.

There's one think I just don't get about the debt-to-GDP warnings. Why is the calculation not normalized by using the cost of the debt, with the interest cost to the government being the divided into the GDP instead of the absolute amount of debt? Our current federal interest expense as a GDP% is within historical ranges, and is expected to remain there for several years.

When one looks back at historical federal government interest expense as a percentage of GDP from 1940 to the present, it ranges from .3% (1942) to 3.4% (1947). It ranged from 1.2 to 1.5% for most years before 1975, then moved up to around 3% in the late 1980's and early 1990's. Through the 00's, it stayed below 2%. The executive branch's FY 2013 budget document shows it at 1.5% currently and projects a rise to 2.7% by 2017.

Source is Table 3.2 here: http://www.whitehouse.gov/sites/default/files/omb/budget/fy2013/assets/hist.pdf

I found this table attributed to CBO that appears to show the same numbers, projecting them out a few years farther:

"But Harry, we're at historically low interest rates. What happens when rates go up? Interest expense goes up."

Wikipedia says this about interest rate risk and the federal budget:

Fair enough, but it seems to me that interest rate risk is also moderated by several factors.

First, I don't see any current indications of the holders of the debt are heading en masse for the exits, driving up Treasury interest rates. (Recent scares in the European economy even provide evidence to the contrary.)

Next, the government bond debt is spread out across various durations. (What's the average, maybe 10 years?)While there is of course an immediate mathematical impact from increasing rates when new debt issues are involved, the impact of higher rates on refinancing expiring debt in a given year is incremental (say 3% > 4%). And both types of debt issues at higher rates are diluted over a very large balance of non-expiring debt sitting at fixed rates.

Finally, there is the likelihood that a general rise in interest rates and pressure for increasing Treasury yields will be accompanied by increases in inflation. But based on the Fed's established and powerful position, this won't occur until the economy is humming as evidenced by lower unemployment. So, yes, the government's interest expenses will go up, but so will government receipts and GDP.

I cannot debate this. But the book is 388 pages of data from a sample of 60 countries over many years, plus many pages of footnotes and references, saying that all the modifiers do not matter. A country reaches certain critical levels of debt, certain things happen.

We will know eventually. But so far, Greenspan, Bernanke, and all the experts and government authorities that told us this time is different, were spectacularly wrong.

Ha

 

[heeyy_joe]

Not worried about the debt at all. I am worried about an over reaction, austerity will actually worsen the debt problem by reducing tax receipts and increasing entitlement payments. A bit of inflation wouldn't be bad (under 4%), will hasten reducing the debt with "cheaper dollars". Eisenhower had it right, when leaving office, he warned to beware of the military industrial complex. Transitioning our economy from guns to butter will take more than one decade.

 

[Htown Harry]

But the book is 388 pages of data from a sample of 60 countries over many years, plus many pages of footnotes and references, saying that all the modifiers do not matter. A country reaches certain critical levels of debt, certain things happen.

We will know eventually. But so far, Greenspan, Bernanke, and all the experts and government authorities that told us this time is different, were spectacularly wrong.

Ha

Kudos to you for digging into such a thick academic book.

I'll take the shortcut, by watching the author being interviewed on Charlie Rose last December:

Charlie Rose - Ken Rogoff

In the portions I have watched so far, Rogoff expresses concern about the "path we are on" in the U.S., but stops well short of saying we are cooked.

 

[AndrewJackson]

Not worried about the debt at all. I am worried about an over reaction, austerity will actually worsen the debt problem by reducing tax receipts and increasing entitlement payments. A bit of inflation wouldn't be bad (under 4%), will hasten reducing the debt with "cheaper dollars".

How people can view government finances as a separate universe from personal finances blows my mind. You honestly think that reigning in expenses will worsen our debt crisis? To fix the debt problem we need more debt? Call me confused, but that makes no freaking sense at all.

 

[ERD50]

Not worried about the debt at all. I am worried about an over reaction, austerity will actually worsen the debt problem by reducing tax receipts and increasing entitlement payments. ...

How people can view government finances as a separate universe from personal finances blows my mind. You honestly think that reigning in expenses will worsen our debt crisis? To fix the debt problem we need more debt? Call me confused, but that makes no freaking sense at all.

I was having trouble with that train of thought also. I don't think those that would be impacted by austerity measures are paying much in the way of Fed taxes. Recall that ~ 50% of filers pay no Fed Income Tax, though workers are paying payroll taxes.

Doesn't 'austerity measures' normally refer to reducing 'entitlement payments'?

I just don't follow.

-ERD50

 

[ejman]

How people can view government finances as a separate universe from personal finances blows my mind. You honestly think that reigning in expenses will worsen our debt crisis? To fix the debt problem we need more debt? Call me confused, but that makes no freaking sense at all.

It's interesting that the world now is sort of a laboratory for different economic theories. The UK followed the advice to reign in governmental expenditures substantially as a response to the events of 2008. This is apparently the result to that approach Triple-dip recession looms as economy shrinks by 0.3% - Business News - Business - The Independent

 

[heeyy_joe]

How people can view government finances as a separate universe from personal finances blows my mind. You honestly think that reigning in expenses will worsen our debt crisis? To fix the debt problem we need more debt? Call me confused, but that makes no freaking sense at all.

Consider your mind blown then. They are separate and distinct. Always have been. Only economic growth will solve the problem, if there is really even a problem. Cutting spending in a fragile economy is a fools errand.

 

[haha]

Kudos to you for digging into such a thick academic book.

I'll take the shortcut, by watching the author being interviewed on Charlie Rose last December:

Charlie Rose - Ken Rogoff

In the portions I have watched so far, Rogoff expresses concern about the "path we are on" in the U.S., but stops well short of saying we are cooked.

No suprise. The book is very dry, it really isn't trying to make any sweeeping statements, but at least to my reading it is all there. The poll offers "we're cooked", but this is hardly scientific language! I guess if I were asked I woihld say tha tit does seem to bea serious situation, adn one which apparently has in the past presaged difficulties.

Japan has reached over 200% debt ratio, and they still are alive. However, they have been in a 20 year slow down, which is pretty much what Ken and Carmen would predict. It is odd that we are in the 6th year post crash, and we still haven't crawled out. This is unusual in our history. Is this related to our debt burden? Who knows, but it is intriguing.

I think a modern industrial economy may take a lot of killing, but IMO the jury hasn't yet come up with a verdict. We'll see in due time.

I try to be proactive, as I have always used varying allocations and I try my best to see around the corners up ahead. I know that this is not a popular approach here, but I'm harmless to others.

Ha

 

[ERD50]

Cutting spending in a fragile economy is a fools errand.

Not all spending is equal. I can see a need for real 'investment' type spending, and by 'investment' I mean where you have a reasonable expectation of a return on investment. Enough to cover the inevitable mistakes, plus the cost of capital.

It's debatable (or maybe not) whether the govt is the best entity to making real investments.

-ERD50

 

[AndrewJackson]

Consider your mind blown then. They are separate and distinct. Always have been. Only economic growth will solve the problem, if there is really even a problem. Cutting spending in a fragile economy is a fools errand.

So what is the appropriate level of government spending and debt? Total government spending (municipal/state/federal) is 6.3 trillion/year. Total government debt is near 19 trillion. How much is enough? And as to the worlds being separate, does frugality and lbym not apply to governments?

 

[Dog]

The timing on this one is interesting. I just finished reading The Aftershock Investor (didn't read the first two books). I didn't vote above as I'm between "we're cooked" and "too complex". I won't pretend to understand economics, but I will say that DH and I saw the tech bubble, housing bubble and personal finance bubble and discussed it many times. We are at the same place with the government debt and spending bubbles and know that the continued printing of money and quantitive easings will lead to inflation and rising interest rates. Will that kill off any economic growth and recovery? I don't know. However, we are 3 years away from retirement and don't want that dream shattered. So, we will be looking to protect our nest egg.
I did search on comments on this site for Aftershock and saw the tin foil hat comments. However, I don't feel comfortable ignoring the signs. I'm still interested in other's comments since it appears that our debt and spending won't be addressed by our current leadership.

 

[LRDave]

So what is the appropriate level of government spending and debt? Total government spending (municipal/state/federal) is 6.3 trillion/year. Total government debt is near 19 trillion. How much is enough? And as to the worlds being separate, does frugality and lbym not apply to governments?

No, not at all IMO. A government's financial goals and an individual's or family's financial goals are not even remotely the same.

 

[Walt34]

No, not at all IMO. A government's financial goals and an individual's or family's financial goals are not even remotely the same.

Would you elaborate on that a bit? I keep hearing that from many other sources but no one explains why. At least not in a way that I was able to understand.

I've always been adverse to debt because debt and the interest one is then committed to pay on it reduces one's future options and opportunities. Eventually a limit is reached when further borrowing is impossible and one's entire income is then committed to the basics and debt service.

Why is government of any size different?

 

[urn2bfree]

Population demographics are not the same in the US as in Japan. Immigration to the US increases the number of young people as did the ECHO boo from 80-96. Young families need houses, car seats, minivans and baby food, and other stuff that will be the fuel of the next recovery. People are having kids later and the peak of the boom in earning and spending of the biggest part of the boom is only just emerging.
http://www.businessinsider.com/echo-boomers-will-save-the-us-economy-2013-2?op=1

 

[Khufu]

Would you elaborate on that a bit? I keep hearing that from many other sources but no one explains why. At least not in a way that I was able to understand.

I've always been adverse to debt because debt and the interest one is then committed to pay on it reduces one's future options and opportunities. Eventually a limit is reached when further borrowing is impossible and one's entire income is then committed to the basics and debt service.

Why is government of any size different?

The difference is that the economy is nothing at all like a household or a business even though it comprises households and businesses. The naive belief that the economy is like a household is an example of "the fallacy of composition", i.e. that the whole logically has the same properties as the parts.

It's easy to see the difference. Saving is good for a household, but if all the economic entities in an economy start saving at once you get a recession/depression. In terms of the history of fiscal policy it's also easy to see, it was Herbert Hoover's cutting of government spending along with the Fed's raising interest rates in 1932 that turned a recession into the Great Depression. The Cameron gov't in the UK similarly squandered the early recovery there (due to being able to devalue a national currency) into a double-dip recession by imposing a fiscal austerity program, i.e. cutting spending.

Rather than seeing the national economy as a big household that ought to follow the prudent husbandry of a single household, a better metaphor is to see it as a human body. Spending money is analogous to flowing blood. Stopping the flow would be disastrous. In 1992 in Japan the corporations were overloaded with debt and stopped spending, trying to repair their balance sheets. This included especially the banks that had lent on overinflated land values. The capital losses to the Japanese economy in the bursting of the housing and stock market bubbles was double the since, scaled to the economy, of the corresponding losses in the US in 1932, i.e. assets lost to bank failure and the stock market crash. However, Japan never experienced anything like the 25% unemployement rates of the 30's in the US. The reason is that the govt kept spending and the economy continued to have a positive trade balance.

It is not true however that debt simply doesn't matter for a government. It is true that during a recession, such as the continuing labor depression, govt spending is the only mechanism that can enable the economy and jobs to grow. And the long-term solution to govt debt is to grow the economy. The postwar US govt debt of 120% of GDP fell to 40% in 20 years. How did the govt pay off all that war spending in 20 years? It didn't. The economy grew, contrary to expectations and partly due to continue support of the economy by the govt in the GI Bill which was 15% of govt spending in 1947.

The time to pay down the debt is later, when the economy has recovered, such as the Clinton years.