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Sunday | May 25, 2003

Is $10 Trillion a Big Deal?

In context of our ten trillion dollar swing in projected US fiscal balance, we discussed how much $10T is in real terms. OK, it's a lot of money, but is it a big hairy deal? There's a lot of confusion out there.

Back when deficits were mere billions or tens of billions, Demon Debt was a stump speech staple. Republicans and Southern Demagogues played hard on voter naivete regarding public finance. They boomed out powerful -- but specious -- appeals to kitchen-table economics, and progressives were left struggling up the mass educational gradient.

As conservative economist Bruce Bartlett explains:"Republicans had a hard time explaining why spending is bad, so they seized on the deficit as a proxy" (NYT)

Now the tables are turned. Neo-quasi-pseudo-crypto-conservatives are buying votes with money drawn on the voter's own accounts, and covering their tracks with the usual "It's No Big Deal" arguments.

In the right circumstances, these argument aren't necessarily wrong. National debt is no big deal IF ... if it finances acquisition of long-lived productive assets ... if economic output grows faster than debt service ... IF we retain borrowing capacity to address expected and unexpected shocks to the system.

Today, to clear the air -- and to set the table for a "What Happens Next?" discussion -- we survey the No Big Deal arguments.

First, it's no big deal because we never have to pay it back. True, in a way.

An individual ages and dies. A business eventually fails, no matter how magnificently it succeeds. If one owes you money, you want money back in finite time. A nation, however, has perpetual assets and income streams. Creditors come and go, their IOU's paid with proceeds of new IOUs sold on the open market.

But ... but ... BUT ... borrowing capacity is limited, because lending capacity is limited ... because interest expense mounts up ... and because lenders will start imposing incrementally harsher terms long before the borrow-from-Peter-to-pay-Paul pyramid crashes. Nobody wants to be last in line when they run out of Free Lunch.

It's no big deal because we can handle the payments. True, for now. In a $10T economy, interest on a $10T debt is a bearable 4% tax burden on aggregate GDP. (The percentage rate burden on taxable income higher, since TI is a subset of GDP.)

But ... but ... BUT ... the current sweet spot is a fool's paradise. The global economy may recover -- in which case interest rates will rise markedly. Or the global economy may stay depressed -- in which case our revenue projections are unrealistic. (Tax receipts will fall below forecast ... debt will accumulate faster ... and the expected lending pools of surplus private assets may evaporate.)

It's no big deal because the economy will grow and leave the debt behind. That's the normal scheme of things. Economies grow ... it's their nature. It makes sense to live in houses and drive cars we haven't paid off yet. It makes sense to finance public works that deliver decades of useful life. Run up debt in a $10T economy, pay it back out of petty cash in a $100T economy.

But ... but ... BUT ... the debt today is growing faster than the economy, and it is structured to keep doing so. Economies don't grow that fast ... it's not their nature. The tax-cutters aren't done yet, they're not making the kind of public investments that facilitate economic growth, and the Baby Boomers are inching closer to retirement. [Remember, just three years ago we had plans to pay off the entire national debt to position ourselves for this predictable strain.] At some point a combination of lender reluctance and taxpayer resistance will stop the game.

[Did somebody say it's no big deal because the cuts will pay for themselves? Forget it. No if's, and's or but's. No legitimate model -- no matter how dynamic -- produces any such result. No reputable economist -- left, right, center or future -- states any such case. You probably thought they said it in Reagan's time, but -- as Laffer himself points out -- none ever did. It was all clever juxtaposition and parsing. You won't hear it now, except from political operatives who can't be held accountable. The dissonance is probably why they just moved the Council of Economic Advisors out of the White House.]

It's no big deal because we owe it to ourselves. True up to a point. For every dollar in national debt there's a corresponding dollar in US bonds or other IOUs. Somebody owns that IOU, and they get a dollar back -- with interest -- when it's paid off. But ... but ... BUT ...

(1) The somebody who holds the IOUs matching your $100K (average household) share of the fiscal fiasco is probably not you. You might have a few hundred dollars in savings bonds, or hold US debt indirectly via a money-market account. "Somebody" owns millions ... probably somebody who got rich(er) by virtue of unrealistically low, debt-subsidized taxe rates. Even if you own nada, you get taxed (for the rest of your life) to redeem all of somebody's IOUs.

Paying the piper means a massive tax-mediated net transfer of wealth from the many to the few.

(2) That somebody doesn't necessarily pay taxes anyway. Bonds are held extensively in tax-deferred or tax-exempt trusts, nonprofit endowments, insurance reserve accounts, pension plans, government agency accounts.

Paying the piper means taxpayers do all the giving ... but less than half the getting.

(3) Somebody isn't necessarily one of us. Foreigners save, lending us their surplus ... so American consumers can live beyond their means, corporations can leverage their earnings, and politicians can spend without taxing. Our economy -- bathed in a gentle rain of "free" money -- is less prosperous than it looks, to the tune of several hundred billion dollars a year. After a while it adds up.

Paying the piper means American taxpayers give, and foreign creditors get ... even the (shudder) French. Think of it as a Louisiana Purchase in reverse.

In a closing segment, we'll take a closer look at what happens at closing time. The party's almost over ... Anybody got change for a Quadrillion?

RonK, Seattle

Posted May 25, 2003 02:07 PM | Comments (36)


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