One casualty of the upcoming election in America, is the Republican’s obsession with “the deficit”, which is apparently all Obama’s fault (not of course Bush, who spent $4 trillion, about $1.09 billion a day, on a pointless series of wars, sat on his ass while another $22 trillion went up in smoke during the financial crisis….).
Either way, both parties seem to have gone awfully quiet about this issue lately. Given the promises Hillary has had to make to placate the Sanders camp, its likely she will have to borrow to pay for it all (of course whether she will get that through Congress is another thing). However, even Hillary at her worst would pale in comparison to what Trump proposes. He even boasts about spending double what she will, promising to borrow most of it. And he’s shown a distinct lack of understanding for the problem of debt (hardly surprising for a guy whose gone bankrupt 4 times!), going so far as to suggest he’d just run the printing presses and print money or even just up and default on it altogether.
So given that the Republican’s nominee is now suggesting he will do the very things they spent the last election trying to claim Obama would do (which of course he didn’t, actually the deficit has dropped under Obama), the GOP appear to have abandoned any talk of deficit reduction. And of course across the Atlantic here in the UK, post-Brexit, the Tories aren’t even pretending to care any more about the deficit.
So it raises the question, should we be worried about national debts? Or is it just all political smoke to serve one party or another. Well the answer is a bit of both.
Firstly there is nothing wrong or new about government’s borrowing money, no more than its wrong for you or I to borrow to buy a house or start up a business. Governments have been borrowing money off one another, or their citizens, throughout history. Consider that the average person in the UK will be spending anything from 10-40% of their income servicing and paying down debts (mortgages, personal loans, student loans, etc.). Debts to earnings are typically in a range from 2-5 times annual income (i.e. debt levels 200-1000% of earnings) for most people.
Now consider that the UK government spends about 8% of its earnings on servicing its debts and has a debt to GDP ratio of 85%. America spends 6.5% of its budget on interest payments and has a debt to GDP ratio of 76%. If most of us ran our finances the way that governments do, we’d be accused of being downright frugal. And keep in mind that the bulk of most nations debt is private debt (mortgages, company loans, etc.) rather than public debt.
And there are some who argue that given the low interest rates right now and the fact that the bond markets are practically throwing money the way of finance minsters, we should borrow more and quit worrying about deficits until some other time. However in much the same way as during the financial crisis unemployed people were being issued NINJA loans, just because someone is prepared to lend you money, doesn’t mean you should take it.
One could argue that interest rates are artificially low at the moment. Brexit and global economic jitters means the markets see government bonds as a safe haven. Once they’ve had a chance to recover, borrowing costs could well rise. And for a government its usually when times are tough that they really get squeezed. In a recession government expenditure goes up at the same time as tax revenue falls and borrowing costs tend to go up as well. So its all to easy to see how a state who has borrowed recklessly (e.g. Greece) can get in way over its head very quickly.
Brexit and Trump’s loose talk of defaults also raises the risk of further market jitters. If Trump makes it into the White house, bond markets will have to price his recent comments into future lending costs. Interest rates will go up, meaning he’ll have to spend more just servicing the debts he already has. And given that all loans will rise (such as mortgage rates) at the same time many will see a sudden jump in mortgage costs, rents and inflation. Its all too easy to see how even the US could get into trouble very quickly in such a scenario.
But can’t we just renege on all this debt, give two fingers to the Chinese and not pay it back, just like Trump suggests? Well that depends….on how much you fancy living in a dumpster and hunting down mice and rats for food!
There’s a common misconception that most of US debt is owed to China. In truth its closer to 8%, although it was as high as 30% a few years ago (before the tea party came along and the Chinese realised that Americans were no longer responsible adults). About 65% of US debt is domestic, in other words owed to other Americans, with the rest owned to people abroad. Some of the biggest holders of US debt are in fact pension plans, both public and private schemes, as well as financial institutions (insurance companies, banks, hedge funds, etc.). If you have a savings account, a pension plan or any sort of insurance policy, you are likely to be a creditor to Uncle Sam.
So if the US did default as Trump has suggested (be it a soft default of just printing money to render the debt worthless or a hard default of refusing to pay it back), the real losers would be on main street. Yes the Chinese, Japanese, Europeans etal would be hopping mad. But the impact on their finances would pale compared to the collateral damage inflicted on ordinary Americans, who would see their life savings and retirement income wiped out. Given that borrowing costs would then sky rocket, mortgage rates and rents would go up, inflation would spiral out of control and millions would find themselves unemployed and homeless pretty quickly.
And this assumes that the US government can actually still borrow money. If international credit markets stopped lending, as they did in the last financial crisis, Trump would not be able to borrow, he’d have to launch a massive program of austerity that would make Osborne look like Santa Claus. We’re talking millions of federal jobs going (at a time when the private sector is also shedding jobs), mostly in areas such as defence (i.e. areas where the government has discretionary spending powers), we are talking of a fire sale of state assets (federal buildings, fighter aircraft, aircraft carriers, federal land, etc.).
In short, Trump would have created an economic mess than would make the recent financial crisis seem pretty mild by comparison. Voting for him is only a good idea if you fancy seeing the USS Ronald Reagan becoming the CLN Zhang He or the USS Gerald Ford becoming the FN Richelieu.
So debt and a national default is potentially very scary and something we should be worried about. But under normal circumstances its pretty unlikely to happen….so long as you don’t elect a lunatic as President that is! The major threat posed by national debt is more long term.
For example, Ireland has a debt to GDP ratio of 110% and a budget deficit of 3.5%. That sounds scary next to the UK or US economy, particularly when you consider the sky high levels of private debts Irish people hold. However, Ireland’s economy has now recovered from the recent downturn, we’re expected to return to a budget surplus by 2017 (we’ve gone through one or two quarters with a surplus, something the US or UK haven’t done in a long time). The expectation then is we’ll start paying off this debt, as we’ve done before….until the next crisis….recover, pay a bit more off…..next crisis, more debt, so on!
Also one has to remember that Ireland is a growing economy, with a relatively young population that is still growing strongly (you know what Catholics are like!). Even if we made no effort to actually pay off this debt (obviously I’d argue we should try to pay it down), i.e. we assume the amount borrowed stayed static, its value increased only in line with inflation, then by 2050 it would have dropped to debt to GDP ratio of 50-60% (because the growth in population and the economy means Ireland’s GDP will have doubled by then).
Now by contrast lets look at the US. Obama has made some effort to bring down the US deficit (no thanks to the GOP!), but some would argue its not coming down quickly enough, he’s not going to return a single balanced budget, nor is such a thing likely in the next few years. The US has a lot of very expensive mandatory spending programs on its books. The US is an ageing country, once the baby boomer pension time bomb hits its peak, its expected that there will be just 2.2 people employed and paying into social security for every retiree (it was 5:1 in 1960 and 3:1 in 2009).
Sometime between 2030 and 2040, without some sort of radical change in government policy, US government revenue will exceed mandatory spending. Or put another way, its all but a mathematically certainty that the US will go broke, unless the country does something to alter course. And the above does not account for the Trump factor. Obviously increasing spending, expelling migrants (i.e. potential tax payers and future citizens), ending free trade and free movement (no more foreign investment) would likely accelerate this collapse.
And the UK too is in a similar boat to the US. Population growth is slowing, the baby boomers are starting to retire, the country’s deficit isn’t under control. And Brexit alongside any talk of expelling migrants or discouraging inward migration is likely to make the worst of an already bad situation. If present trends continue and we follow through with Teresa May’s proposals post-Brexit, its all but a certainty that the UK will eventually go bankrupt. Something has to be done.
Now up until now, I’ve not really said a lot that many on the political right won’t disagree with. However, its now that we see their policies on debt and the deficit is a bit of a stopped clock. As Osborne’s reign of error has shown, not too mention the EU’s “bailout” of Greece, harsh austerity doesn’t cut a deficit. Indeed the speed at which Osborne’s policy was abandoned and he was thrown under the bus post-Brexit, does tend to suggest it was always just an excuse for class warfare, which allowed the Tories to justify a tax cut to the rich, while cutting public spending on things that didn’t benefit the wealthy.
Governments that have actually been successful at pulling down the deficit, be they Ireland, the Scandinavian countries, Germany or the US under Bill Clinton, have generally done so through a combination of raising taxes and cuts, but cuts in areas where they could implement them without causing massive hardship. e.g. cutting back on things like military expenditure or wasteful government spending.
Crucially however it is important to recognise that debt is a long term problem which requires a long term solution. This means any plan needs cross party support that will survive multiple parliaments. One party (e.g. the Tories) getting in a huddle and forcing through a policy (motivated more by ideology that necessity) that they know the other parties will reverse once they take over, is not going to work.
I’d argue Clinton’s big mistake, involved nothing to do with cigars and interns (although the GOP using this scandal to play political cricket hardly helped). It was his failure to get buy-in from the Republicans regarding his deficit reduction plans. Hence when G.W. Bush came along, he began cutting taxes, started wars and generally spending money like a sailor on shore leave. And if republicans are serious about paying down the deficit, they should be using what’s left of Obama’s term to set the tone for Hillary’s term, not sitting in a corner sulking, refusing to even confirm his supreme court nominee. And I don’t see how they can endorse a nominee (Trump) who seems committed to taking a wrecking ball to America’s public finances.
So in summary, borrowing is normal in any capitalist economy, whether you are Chancellor of the exchequer or a small business setting up a tab for a regular customer. Everyone needs to borrow at some point. Arguing that debt is bad and we shouldn’t borrow, is like trying to argue that food is bad and we shouldn’t eat, just because some people overeat and get fat. Its all about only borrowing what you can afford to pay back.
Long term there are issues with national debt that many nations need to address. For some countries, its a problem that will basically take care of itself (growing economy, growing population, a tiny deficit or a budget surplus). Others need to get control of the problem sooner rather than later. And if we’re realistic some countries are in the sink by themselves class. The global economy needs to come up with a debt forgiveness plan, or face uncontrolled defaults at some point in the future.
But in nearly all cases, its a long term problem that requires long term solutions. A panicky policy of harsh austerity almost never works, indeed it will likely make the situation worse. And crucially as far as Novembers election is concerned, electing a lunatic who will behave recklessly with the public finances will mean we do have to start worrying about debt.