It's lately become fashionable to worry about federal debt soon (by the end of this year) exceeding GDP. As much as I abhor Washington's utter disregard for fiscal sanity, we are still a long way from seeing federal debt exceed GDP. Those who claim we are close are exaggerating, because they use "Total Debt Outstanding," which happens to include $4.5 trillion of "Intragovernmental Holdings," otherwise known as debt that we owe to ourselves (e.g., Treasury securities held by the Social Security Adminstration). That is not really debt, it is just a promise that one arm of the government will deliver money to another arm. The proper amount of current federal debt, which can be found here, is "Debt Held by the Public," which is just under $8.6 trillion today. That is debt that our federal government is obligated to pay to individuals and institutions both here and abroad.
Using reasonable assumptions about the next six months of debt and nominal GDP growth, net federal debt by the end of this year will likely be about 60% of GDP. That's more than anything we've seen since the early 1950s, but it's not yet of catastrophic proportions.
It's going to be rising fairly rapidly, of course, especially if federal spending is not checked and the economy experiences a weak, "new normal" recovery, as most seem to expect. But still it's not likely to exceed 100% of GDP for at least 4-5 years, and even then it won't be anywhere near the levels that have existed in Japan for many years already.
Debt and deficits are on an unsustainable path, to be sure, but we are not yet beyond the point of no return. There is still time to make a mid-course correction; there is still room for optimism. We are following in Greece's footsteps, but we are still way behind them. That's no reason to cheer, but it is a reason to try to fix things before they reach the breaking point, and that's what I'm hoping will happen in the wake of the November elections.
Scott,
ReplyDeleteI hope you are right but I continue to believe politicians will need the whiplash of a crisis on their backside before they will seriously tackle the entitlements that are at the root of our deficit problems. I agree our fiscal problems are nowhere near those levels now. Thank you for this perspective.
A couple of things from Bloomberg as our markets open this AM:
1. German factory orders are surging as a result of the lower Euro. Germany manufactures many of the machines that drive the global economy and orders are climbing. GDP growth of between 1 and 2% is seen this year.
2. Mark Mobius, a successful money manager of many years is a buyer of Hungarian stocks on the panic selling caused by the 'default' utterance of a clueless politician. He flatly rejects the contention of a global 'double dip' recession. I continue to give more weight to those who manage real money to those who manage their TV apperances.
Mike,
ReplyDeleteI read Dr. Laffer's article. There is a lot to think about there. Scott is a contemporary of Dr. Laffer's and likely knows him personally so his perspective would be of more value than mine. I do believe, however, that Dr. Laffer's primary agenda with the article was political rather than purely economic.
Re Laffer's article in todays WSJ: Art has been preaching on this subject for as long as I can remember. My own research puts me in agreement with him: people definitely change their behavior when tax policy is set to change. I haven't said it for awhile, but one of the reasons I've been optimistic for the past year was my belief that income and activity would be accelerated in order to escape the higher taxes of 2010 and beyond.
ReplyDeleteTo me the only real issue is whether the acceleration has run its course and how badly the economy will be affected once higher taxes set in next year. I'm sure there will be some impact, but I'm not sure at all that it will lead to the double-dip recession that Art is now predicting. My best guess is that higher taxes next year will prevent the economy from growing as fast as it otherwise could.
I think John may be right--Art loves to predict doom and gloom outcomes if taxes are raised, but his real agenda is to rally public attention in hopes of preventing the tax hikes from occurring.
Besides Scott one of my favorite economic commentators is Marc Chandler, who is the chief currency strategist at Brown Brothers Harriman in NYC. He wrote a piece that is very related to Scott's post above and I believe is complimentary. It is available at realclearmarkets.com under Research Reports (for Monday, today).
ReplyDeleteI do not bring this up as a topic of discussion unless Scott prefers to, but as additional information on the same topic for those interested.
Fannie/Freddie debt was explicitly not guaranteed by the feds and yet the feds assumed responsibility for it. The social security trust fund represents commitments to retirees that are much stronger than any commitments to GSE creditors. Cuts in Social Security will be seen by the public as a de facto default on the part of the US Treasury on explicit commitments repeated year after year. These commitments cannot be inflated away and it will be politically impossible to reduce them until the trust fund is exhausted in 2037 or whenever.
ReplyDeleteOn top of this we have massive exposure to future GSE losses, the FDIC deficit, future private pension losses, student loan defaults, etc., etc. The government is still promoting imprudent mortgage lending on a massive scale. And then there is the general obligation debt and pension liabilities of the states. Will the feds allow California, Illinois, New York, New Jersey, Michigan, etc. to default on their debt. Will they rescue state pension systems?
Charles: there are a few relatively easy ways for the government to reduce or even eliminate its social security liabilities. Technically they would amount to a default, but I see them as politically feasible. For example, 1) raise the retirement age in small increments, 2) index SS payments for inflation instead of for wages, 3) means-test benefits. A less desirable but still feasible solution would be to raise the cap on social security wages.
ReplyDeleteYou are correct when saying someone who has credit card debt with a savings account only really has a certain debt level. The govt has no savings account to draw from unless you assume they will seize a substantial amount of privately held (GDP) worth. That is like me not worrying about my credit card debt because I can just go steal my neighbors money. Intra government borrowing is a second mortgage. It is debt ontop of already existing debt. The on the books debt doesn't even include things like Fannie/Frieddie, SS,etc. Actual debt is in excess of 300% of GDP.
ReplyDeletePIMCO suggests the debt is really 320% of GDP.
http://www.pimco.com/LeftNav/Featured+Market+Commentary/IO/2010/Bill+Gross+June+2010+Investment+Outlook.htm