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In case you haven’t noticed, Washington is currently consumed in an acrimonious debate over whether to raise the debt ceiling. There is no agreement about whether to do so or how, but both parties appear to accept the logic that the United States is suffering from an unacceptably high level of government debt and that further debt will doom the U.S. to generations of decline. Judging by polling data, large swaths of the country agree. Nonetheless, that consensus is wrong.
The Republicans have generally been most vocal on this score. Eric Cantor, the House Majority Leader and a major player in the negotiations, has said,
“The government is a fiscal train wreck. It is over $14 trillion in debt and borrows nearly 40 cents of every dollar that it spends. Before us lie two divergent paths: one defined by crushing debt, slow growth and diminished opportunity; and one defined by achievement, innovation and American leadership. We stand at a crossroads. If we are to leave our children a nation that offers everyone a fair shot at earning their success, we must take the later path… House Republicans have taken an honest, responsible approach to confront the debt crisis facing our nation.”
Yet even President Obama believes further debt is untenable and has pledged to cut spending by trillions of dollars in the coming years.
What neither side seems to recognize — or at least acknowledge — is that what matters about the debt isn’t the dollar amount per se, but how much it costs us to service it. And by that measure, the debt isn’t nearly as big a problem as it’s being made out to be.
Yes, the federal debt has grown by nearly $3 trillion dollars in the past three years. And yes, the dollar amount of that debt is quite large (in excess of $14 trillion and headed toward $15 trillion should the ceiling be raised). But large numbers are not the problem. The U.S. has a large economy (slightly larger than that debt number). And, crucially, we have very low interest rates.
Because of those low rates, the amount the U.S. government pays to service its debt is, relative to the size of the economy, less than it was paying throughout the boom years of the 1980s and 1990s and for most of the last decade. The Congressional Budget Office estimates that net interest on the debt (which is what the government pays to service it) would be $225 billion for fiscal year 2011. The latest figures put that a bit higher, so let’s call it $250 billion. That’s about 1.6% of American output, which is lower than at any point since the 1970s – except for 2003 through 2005, when it was closer to 1.4%.
Under Ronald Reagan, the first George Bush, and Bill Clinton, payments on federal debt often got above 3% of GDP. Under Bush the second, payments were about where they are now. Yet suddenly, we are in a near collective hysteria.
If you point all this out, the response you typically get is that today’s interest rates are artificially and atypically low — and that when they skyrocket, that debt burden will become much more painful. Well, yes, but rates don’t skyrocket unless there is a collapse of market confidence. Rates may rise, and that will force hard choices in future spending or trigger the need for new sources of revenue. But only crisis triggers dramatic rate swings, and the only thing that will create that crisis is brinksmanship over the debt ceiling or levels of debt that are substantially higher than they are now.
I’m not saying that the money we’ve borrowed recently has been well spent. One could persuasively argue that the government has done a terrible job of using debt to spur economic activity. But that has nothing to do with whether the debt is itself harming the country.
This view of debt isn’t popular. But the numbers aren’t debatable and indicate that by historical standards there is no debt emergency except for the one we are making.
Our diminishing competitiveness and ability to invest in the future – those are real crises, and ones that the debt ceiling debate will do nothing to solve..
Debt risk appalling, but solution is simple
(CNN) -- As one who teaches Economics 101 and, as a professor and international consultant who makes a career out of giving macroeconomic advice to other countries, I find the current impasse in the United States both appalling in its potential risks and frustrating in the simplicity of the solutions that are hardly even talked about.
The implications of a U.S. government default are far bigger and far more uncertain than most accounts would have you believe. It is certainly true that the immediate effect would be higher interest rates on U.S. government bonds -- with depressing effects on any economic activity that is interest sensitive, from real estate to business investment to student and consumer loans.
In other words, we would be kicking an economy that is already in a fragile state. (The government reported Friday that the economy grew in the second quarter at only 1.3%.)
Worse than that, and much more uncertain, is the effect of setting adrift what has been the anchor of the world economy for many decades. The U.S. dollar and U.S. Treasury obligations have long been the rock solid basis for measuring the value and risk associated with every other currency and financial asset in the world.
We would be putting an end to that, and the consequences are largely unknown since no country on Earth ever has or ever would voluntarily depose itself from that favored position. Being the world's reserve currency gives us an immense free ride when it comes to economic policy.
We, and we alone, get to spend billions of dollars and watch as other countries in the world simply absorb them as international reserves. Their willingness to hold large amounts in dollar assets such as Treasury bonds means our interest rates are permanently lower than they would be otherwise, something that we have come to take for granted but won't be able to keep on doing if we default.
While it would be tempting to view the euro as a viable alternative, the current disarray in European economies means that there is no obvious alternative to the dollar, should we be so irresponsible and, yes, crazy as to allow the default of the U.S. government.
A worldwide financial meltdown is just one of the scenarios that become possible to imagine, since there is no other government with all of the requisite characteristics to serve as the world's lender of last resort: What is needed is adequate size relative to the world economy, enough financial flexibility to step in where needed, and the political will to do so. The United States has been that country since World War II, but the Europeans are demonstrating in their own current crisis that they are reluctant to act decisively even with the European Union itself.
Who will lose if there is a default? The first losers will be everyone with a stock or bond portfolio. Rising interest rates will put a major hole in the value of all of our retirement savings. Second, as economic activity inevitably drops in response, we will all suffer a second downward phase of the current recession. It would stop being called a "recession" and would merit the name "depression." It won't be pretty.
Who will win? It is fashionable for the "out" party to imagine that it will benefit from economic bad news in an election year. But it is hard to believe that conventional wisdom will be reliable, particularly if Republican intransigence is seen to have been a contributing factor. In short, nobody will win. Nobody at all.
How to get out of this fix? Certainly the easiest solution in the short run would be for Congress to pass the one sentence of legislation required to raise the debt ceiling. But if a solution "requires" multitrillion dollar spending cuts, then we should be careful what we wish for.
Rather than economic chaos, we would have a massive government-induced negative shock to an economy already teetering on the edge of a second downturn in activity. It is hard to believe that our politicians are competing with each other to see how far down this road they can go.
Were I advising a low-income country that had no choice but to listen to my advice, I would have a simple message: "You got in to this mess by passing huge tax cuts over the past 10 years and starting two wars that clearly have gone as far as they are going to go in terms of achieving your goals. So just let those tax cuts expire next year and end the two wars and you will have done more to reassure long-term investors than anything else you could possibly do. That will give you the room you need to make investments to start growing again."
But though Senate Majority Leader Harry Reid's plan does count savings from winding down the wars, House Speaker John Boehner's doesn't, and letting the Bush tax cuts expire doesn't seem to even be part of the discussion. You have to wonder why.
Originally posted by KoolerKing
What happens when the 4 to 6 million foreclosed houses actually becomes losses on the banks books?
I did not see that mentioned in the article. Just wait when they can't hide those loses anymore.