Debt matters, but not that much
In 2011, as in 2010, America was in a technical recovery but continued to suffer from disastrously high unemployment. And through most of 2011, as in 2010, almost all the conversation in Washington was about something else: the allegedly urgent issue of reducing the budget deficit.
This misplaced focus said a lot about our political culture, in particular about how disconnected Congress is from the suffering of ordinary Americans. But it also revealed something else: When people in D.C. talk about deficits and debt, by and large they have no idea what they’re talking about – and the people who talk the most understand the least.
And then it gets worse from there:
But Washington isn’t just confused about the short run; it’s also confused about the long run. For while debt can be a problem, the way our politicians think about debt is all wrong, and exaggerates the problem’s size.
Deficit-worriers portray a future in which we’re impoverished by the need to pay back money we’ve been borrowing. They see America as being like a family that took out too large a mortgage, and will have a hard time making the monthly payments.
This is, however, a really bad analogy in at least two ways.
First, families have to pay back their debt. Governments don’t – all they need to do is ensure that debt grows more slowly than their tax base. The debt from World War II was never repaid; it just became increasingly irrelevant as the U.S. economy grew, and with it the income subject to taxation.
Second – and this is the point almost nobody seems to get – an over-borrowed family owes money to someone else; U.S. debt is, to a large extent, money we owe to ourselves.
And here’s where the fail begins. Governments that don’t pay their bills and debts turn into Greece. Governments that don’t pay their debts and continue to spend spend spend drive themselves into oblivion, and wreck their economies. The death of the New Deal caused by WWII allowed the American economy to expand. The huge returning labor force in the form of US troops caused the labor pool to expand for employers, while simultaneously bringing in new consumers. Those previously employed in wartime industries were able to manufacture goods that people, not government, wanted to buy. The debt from WWII also was handled differently because, unlike today’s spending, we didn’t keep spending on the military at WWII rates after WWII. In WWII we had a massive military, then we demobilized a great deal.
That led to unprecedented expansion of the economy.
To contrast to today, the bulk of US government spending is on entitlements and handouts. FY 2010 spending, in pie chart form from here:
Note that social security is 19.63%, unemployment/welfare is 16.13%, medicare is 12.79%, medicaid & SCHIP is 8.19%. 56.74% of government spending is mandatory handouts/entitlements.
Department of Defense spending (which is a legitimate function of government as outlined in the Constitution) is only 18.74%. Interest on nation debt is 4.63%, which dwarfs everything else after it.
Let’s look at this little graphic from the Washington Post:
Notice how “mandatory” spending, as in, entitlements that were promised to people to vote for FDR, then to vote for LBJ, and so on continue to expand? Percentagewise, they get larger, while DoD, which is “discretionary” only in DC, but not “discretionary” according to the Constitution, gets smaller? Worth noting is that these are percentages. The actual numbers will vary according to what the US govt spends. So in order to avoid lies and damned lies, note that the budget in 1962 was a total of $169 billion, while in 2010 it was $5,920 billion. SS, Medicare/caid and SCHIP have all increased not only in percentage, but vastly in size.
There will be no economic change like the end of WWII that will result in those dropping precipitously. As Reagan said, the closest thing to eternal life on earth is a government program.
The money in Krugman’s second statement that “we owe to ourselves” is the money that children will be working off to pay for their parents, and that the fewer children western societies have, the fewer people we have to pay for the entitlements our politicians keep giving away. Mark Steyn spends a lot of time pointing this out.
The WWII debt that Krugman cites existed before the perpetual ever increasing sarlacc pit of the welfare state existed. It disappeared in a world that still wasn’t ruled by the welfare state. Krugman fails to see that the mass expenditure that is analagous to the war effort is entitlement spending… because he’s an idiot.
Shah Gilani had this piece on Jan 9: Paul Krugman is Dead Wrong: Debt Matters:
Professor Krugman calls all the conversation in Washington about debt and deficits a “misplaced focus” and says all of the economic experts “on whom much of Congress relies have been repeatedly wrong about the short-run effects of budget deficits.”
He derides the fears that deficits will cause interest rates to soar by pointing out that they haven’t moved.
What he doesn’t say is that they haven’t moved because they’re not free to move.
The fact is that the U.S. Federal Reserve has corralled the free market in interest rates by knocking short-term rates to almost zero through successive open market operations and extraordinary quantitative easing measures.
Mr. Krugman mocks those waiting for rates to rise and notes that while they wait “rates have dropped to historical lows.”
Maybe what he doesn’t realize is that the Fed’s actions themselves have been nothing short of historical.
The crux of Mr. Krugman’s supposition that debt doesn’t matter much is based on his bashing of the popular analogy comparing America’s debt problems to those of a mortgaged homeowner.
First off, the homeowner analogy is excellent–not irrelevant.
Mr. Krugman is wrong when he says that homeowners have to pay back their debt. The truth is they don’t have to.
Just like the government, as long as their creditworthiness is intact and money is available, at whatever cost, homeowners can refinance their mortgages over and over. That’s no different than how the government rolls over its own debts.
We saw this phenomenon play out in stark reality during the housing bubble.
Not only were homeowners refinancing their homes to take out money for consumption purposes, they leveraged themselves to buy more homes to multiply the wealth effect they were already experiencing.
In the case of the housing crash, borrowers were counting on rising property values to finance their expanding debts. That’s the same as what Krugman says governments should do: make sure debt expansion doesn’t outpace revenue growth, in this case taxes.
In the end, though, didn’t the bursting of the housing bubble prove that debt eventually matters?
To me, the housing bubble was a pretty darn good analogy as to what happens when mounting debts aren’t repaid. When it happens on a systemic basis, the entire economy suffers.
There’s a bit more, and I suggest reading it for another rebuttal of Paul Krugman, Keynesian idiot.
And yesterday in the New York Times, of all places, there was this piece:
The Dangerous Notion That Debt Doesn’t Matter
By STEVEN RATTNER
WITH little fanfare, a dangerous notion has taken hold in progressive policy circles: that the amount of money borrowed by the federal government from Americans to finance its mammoth deficits doesn’t matter.
Debt doesn’t matter? Really? That’s the most irresponsible fiscal notion since the tax-cutting mania brought on by the advent of supply-side economics. And it’s particularly problematic right now, as Congress resumes debating whether to extend the payroll-tax reduction or enact other stimulative measures.
Here’s the theory, in its most extreme configuration: To the extent that the government sells its debt to Americans (as opposed to foreigners), those obligations will disappear as aging folks who buy those Treasuries die off.
If that doesn’t seem to make much sense, don’t be puzzled — it doesn’t. Government borrowing is still debt that must eventually be paid off, just as we were taught in introductory economics.
Failing to repay the debt would mean not only the ugliness of default but also depriving the next generation of whatever savings their parents parked in government bonds.
The basic understanding that debt is a big deal gets through. Of course, what little understanding there is turns stupid partway through the piece:
Of course every modern economy both tolerates and benefits from some amount of debt. But the United States has been on a binge, brought on by a toxic mix of spending increases and tax cuts that began with the Reagan tax cuts in the 1980s and were later turbocharged by those of President George W. Bush.
Tax cuts allow businesses to grow. Increased business results in greater tax revenue. It’s economy of scale, stupid. Plus when tax cuts are blocked and taxes are raised again, hindering expansion of business, then the revenue that comes from greater economic activity as a result of those deleted tax cuts obviously never materializes. Entitlement spending increasing is already addressed.
the dark shadow of the Tea Party movementhas made added spending — the route for most new government investment — taboo.
While public investment may take longer to unleash its positive forces, the case for it is compelling, in part because rising entitlement expenditures have crowded out government’s investment activities.
Because “public investment” is pork barrel spending. Because “public investment” for anything other than what’s outlined in the Constitution inevitably turns into a boondoggle. Because government didn’t create Carnegie Steel, Union Pacific, Hughes Tool Company, Dow, Ford, IBM, Apple, Microsoft, Google, Vivid Entertainment or PWS. Individuals, unhindered by government, not controlled by government, and often even despite government regulation, create them.
Franklin D. Roosevelt’s much-praised Works Progress Administration spent the equivalent of at least $1.5 trillion over eight years on projects that in New York City alone ranged from building La Guardia Airport to reroofing the New York Public Library to creating a lasting body of literary and artistic work.
FDR’s $1.5 trillion was taken from productive sectors of the economy and stuffed into pet projects. La Guardia got a reroofing because politicians with pull got it done. NYC’s public library is for NYC to deal with. For the fedgov to take money from a rancher in Colorado or an oil rig worker in southern California (back in those days) and give it to New York to have some fluffy effite snobbery “lasting literary and artistic work” is the height of conceit. This is the mindset of the limousine liberal, who believes that artistes are the highest form of life and should be patronized via the guns of the IRS taking from “the masses”.
Not only that, but La Guardia is owned by NYC. They should pay for it. It’s their property. If it generates money for the city, they should have no problem reroofing it. Same goes for their library. If their public library generates revenue for the city, they should improve it. Oh, but wait – if they did generate revenue, they could’ve offered city bonds. If people believed they were good investments, those bonds would’ve been purchased by all kinds of investors wanting a good return. Except… libraries don’t make money. And La Guardia must not have needed a new roof. The money taken from the citizen and stuffed into government pork helped no one but the politicians and their select constituency who are being bribed for votes.
Also, FDR’s NIRA/NRA, PWA and WPA were dictatorial fiat that were ultimately ruled unconstitutional.
Government spending would not result in the best AR rifles for the civilian world (they resulted in the poor performance of the original military M16, issued without cleaning gear), and certainly not the best customer service, nor would it result in the best adult entertainment. A porn movie designed by government committee would be … pretty damned hilarious, actually, but only in a pathetic, sad way. There would be a lot more Janet Reno/Napolitano of Washington, DC, and a lot less Linda Ann Hopkins of Great Falls, MT.
Going all the way back to the titular Keynesian idiot, Mr. Paul Krugman, he finishes his most recent chart-topping magnum idiopus with this, which if you noticed was parroted by Mr. Rattner a couple weeks later, as all Keynesians always do:
So yes, debt matters. But right now, other things matter more. We need more, not less, government spending to get us out of our unemployment trap. And the wrongheaded, ill-informed obsession with debt is standing in the way.
Krugman, watch and listen carefully: