How much government debt is too much? This is once again a live subject because President Biden's coronavirus bill will cost $1.9 trillion—on top of the $3.5 trillion we've already spent—and at least a few economists worry that we're adding to our debt too fast, which could bring on a bout of high inflation.
Now, even the cautious economists mostly agree that the risk of doing too little is greater than the risk of doing too much. So if we're unsure, then the full $1.9 trillion is the way to go. Progressive pundits pretty unanimously agree.
And so do I. On the other hand, I'm a little nervous about the seemingly casual attitude among some progressives about government debt. It's one thing to (maybe) overspend during an unprecedented pandemic, but it's another thing to shrug your shoulders and basically say that debt doesn't matter and we should all get over it. And if inflation heats up, hey, all we have to do is engineer a recession to show it who's boss, just like Paul Volcker did. This all seems just a little too world-weary to me.
On the third hand, there's this:
Japan has had massively higher debt than the US for the past two decades, and the price they've paid for this is . . . close to nothing. Japan, like the US, issues its own currency, which helps, and they have a culture of saving that supports their debt. The US, however, has not just its own currency, but the best, most desirable currency in the world. Also, our debt service is low; we have no trouble selling all the treasury bonds we want; and not only is inflation low, but inflationary expectations are low too. So, if anything, it seems we're even better placed than Japan to support a far higher debt load than we currently have.
Beyond this, there are lots of econometric arguments about what levels of debt are sustainable, and obviously I don't have the chops to referee this. Still, while I retain an old-school feeling that we should take the national debt seriously, there's always Japan sitting around telling me not to worry so much. We have a very long way to go before our national debt becomes a serious problem.
Aside from Japan, Britain had a debt/GDP ratio of about 250% at the end of the Napoleonic wars. Was inflation caused after that- was Britain's growth impeded? Claiming that debt will cause inflation is just stupid.
There is some danger of inflation when things open up, but it is from excess savings and pent up demand for things which aren't available now, such as drinks in bars (at least we hope that this demand is being pent up). There was a similar situation in the US when rationing was ended in 1946, and there was inflation, but it subsided without the Fed going berserk. What actually ended inflation in 1980 was the stabilization of oil price, not any wizardry by Volcker.
Paul Krugman argues that Volcker was misled by Phillips and Friedman into draconian measures that weren't really necessary.
https://paulkrugman.substack.com/p/stagflation-revisited
One argument for going big with Covid-19 relief is that if Dems don't do it, Republicans will incur equally big debts when it is their turn by raiding the treasury to give tax cuts to their constituency. Because "Reagan showed that debt doesn't matter."
It is not in the least stupid.
It is merely simplistic.
Large issuances of debt can lead to monetary creation, and where monetary creation outruns real growth, inflation. Now in the modern world the transmission lines are quite muddy, but if one pulls oneself out of America-Myopia, there's ample evidence.
Lefty hand-waiving away inflation is essentially engaging in the photo-negative of the analytical error of the Right from the 1970s. They overdrew the lessons (for their own ideological reasons certainly but that doesn't look different than what the Left is doing right now).
Bland assertions about the inutility of Volcker's actions ... well no point in debating such here, that's for econometric literate.
So inflation must have exploded after the 2017 Trump tax cut, amirite? Do make a nod to the scientific method before you post in future, there's a good chap.
There is a trivial way to remove excess money from the economy; raise taxes on the people that have accumulated most of the excess. It's unfortunate that this fool proof method of cooling down an overheated economy has no adherents on the right at all.
There are also a few incidental benefits of taxation. The median after-tax income in Denmark is about $15,000 less than in the US. In exchange they get free health care, free education up to the PhD level and two weeks of extra paid vacation.
But what is your response to the implications of the point which Pneogy made above that a large deficit is inevitable given the political situation. If the Democrats don’t spend whatever it takes to help to survive this disaster and then get the country moving, they will lose control of Congress and then almost certainly the White House. In which case, the incoming Republicans will finance a huge tax cut for the rich through massive deficit spending.
The other point I’d make is that if huge deficits are bad, how is it that every Republican administration has run humongous deficits without triggering inflation?
The problem I have with the "oil shock" explanation is that we saw increasing inflation all over the rich countries (and some poorer ones like Mexico) that had massive ramp-ups in deficit spending in the 1970s, whether or not they were targeted by the Arab Oil Embargo.
"On the other hand, I'm a little nervous about the seemingly casual attitude among some progressives about government debt. "
It would be useful to list, with links, these "some progressives."
It also be useful to list, with links, all the conservatives who were nervous about the debt during the passage of the massive tax cut for business and the wealthy.
Google "MMT" &/or "Modern Monetary Theory" & "The Squad".
Good bloody lord, the tired and pathetic "we never said what we said' play - it's bleeding all over the place for God's sake.
Nah, it's pretty simple. When the economy shows weakness (as now) you need to step in with fiscal policy to fill the gap. On the other hand, when there are signs of overheating, as when inflation begins to be seen or unemployment is low (very much not as now) you need to cut spending back.
That's really all there is. If the argument is that if we spend a lot now we'll get addicted to spending or some such -- well, that's just a right-wing narrative that has no basis in history or fact, at least not when Democrats are in charge.
While one should definately spend now (although spend well in investing, infra particularly renewable energy enabling infra that the US badly needs with its'1960s era grid...) the history of the 70s is cautionary. And in combination with the at least popular version of MMT there's every sign of loose thinking. 1960s-1970s evolution shows there is real danger in hubris and inattention to inflation risk.
Of course equally there is danger in over-drawing the lessons as well.
Stagflation was very much an artifact of its time. We had an economy in which unions had significant power and in which workers were able to obtain contracts having wage increases largely indexed to inflation, raising the possibility of a wage-price spiral.
To suggest workers in our current society have any such pull would elicit from them only a bitter laugh. As we saw until the beginning of the Trump crash, the current economy can get quite tight before the wage part of a wage-price spiral budges at all. And you have to have both or you won't get the spiral.
Why is the economic history of the 70's cautionary? Are the economic/institutional environments the same now as they were then? If not, please explain how you grade for applicability.
And as an aside, a metacomment: It's painfully obvious that your comments are not informed any training you may have received in the STEM fields. Why not? Or do you simply not have any training of that kind?
Errr... 1970s inflation was really caused by OPEC (Organization of Petroleum Exporting Countries). Volcker may have actually believed Milton Friedman's since debunked monetarism, but he also seized the chance to destroy labor union power. As a side effect he also bankrupted many of the manufacturing enterprises of the industrial midwest, which led to the jobs being sent overseas. An accessible explanation is James K Galbraith's "The Predator State."
Economists and bankers actually do not know what causes inflation. After 2008 it was stated confidently that The Fed could create as much inflation as it wanted any time it wanted to. That's been proven false, since inflation has been below their 2% target ever since. It does seem from the devastating inflation caused by the increase of circulating money in the 16th Century
Nah, no need to cut spending if things "overheat": just raise the taxes that are currently too low. Same effect, better policy.
It says something about our politics that these “deficit fears” are completely unlinked from a discussion of raising taxes on the wealthy. In other words it’s easy to imagine in a different media environment that whenever anyone mentioned rising debt the implication was that we would rollback all tax cuts since Reagan for people over, say, $200,000 a year. If that were the case you can bet we would hear much less about the debt. In fact, you’d have every conservative think tank hawking charts like KD’s Japan debt chart.
^^^
I'd like to suggest that, every time going forward when a Republican says the debt's just too damned high, we query whether said Republican would like to reduce said debt by cancelling the Trump tax cuts of 2017 and the Bush tax cuts of 2001 or 2003.
Oh, come now Kevin. Interest rates are low, and they will forever remain low, so debt doesn't matter, right?
It would though be interesting to know by how much interest payments would increase if the Fed were to raise interest rates to even 1% or 2%. I assume that depends on the rate(s) of all the current obligations and when they have to roll-over to new debt.
As for comparing with Japan. They do seem to be the "go to" for that - are there any other countries between the US and Japan, or even higher than Japan?
Given the way Republicans will misuse it in deliberate bad faith, the complete ease with which the government is servicing its debt, the persistent lack of serious inflation for about 40 years now -- and very low inflation for at least a decade -- the Japanese ho-hum experience with much higher national debt, the fact that there is no such thing as "the national debt" -- like your scary mortgage is to you -- but only many thousands of little debts that need to be paid off at different times over the next 30 years, and the inability of deficit chicken littles to posit any supportable mechanism that shows how high inflation might be caused by legitimate government expenditures for the good of the country at this time -- something other than hoary maxims -- it seems irresponsible for a prominent liberal economist like Summers to trot out inflation as a concern. Even a risk balancing analysis like he does to avoid forfeiting his progressive bona fides completely seems ridiculous under these circumstances. That will go for a trillion dollar infrastructure investment following this one, too.
I actually saw Charles P. Pierce say that Summers said in 2008 that the Obama stimulus was too little. Summers was one of the biggest advocates for keeping it small on the grounds that the Republicans wouldn't go for anything bigger. Well, they didn't go for his version, either. Given his other failures, I think Lawrence Summers should be kept as far away from policy making as possible.
Spending (and therefore debt), like work, will expand to fill the budget space/time allotted to it. We just need to make sure we do that on not completely stupid things like tax cuts for the affluent - that's the complicated part. The national debt is not so complicated, it's actually pretty simple: can we afford to borrow more, or can we not? That's really all there is to it. The reasons for why we might not be able to afford to borrow more can admittedly be somewhat complex, but we apparently have to go quite a bit farther first before it starts to get complicated. There are no signs that any currently politically feasible deficit spending will substantively impact the interest rate being charged on the corresponding debt.
Household debt, on the other hand, is complicated. Maybe that's why people so often get confused about the national debt.
I think this is where having an explicit NGDP target and top level would be useful. We could just say, "We'll allow NGDP to go up to 6% per year", which means in practice inflation wouldn't get above 6%/year at maximum before they'd have to do something to stop it. I doubt it will get that high, either.
We had pretty high debt to GDP after World War 2 as well. Strong growth means it will shrink as a share of GDP over time, and it's not really a problem unless the debt stops selling or the interest rates rise too high. If that happens, we'll economize then or raise taxes.
***it's not really a problem unless the debt stops selling or the interest rates rise too high. If that happens, we'll economize then or raise taxes.***
Agreed. If the markets think government spending is driving consumption too high, they'll let us know, and we can then take action. 99% of austerian scare-mongering from the right is simply an attempt to cut she share of output enjoyed by the non-rich.
A large fraction of the Covid relief spending which is being financed by government debt, is replacing lost demand from unemployment and underemployment. Another large fraction is being paid as economic rents (any spending for other than newly-produced goods and services) - rent in the ordinary sense, mortgage and other debt repayments, lease payments, etc. Neither category represents excess demand that would put upward pressure on prices. Some may be saved, to be spent after Covid restrictions are lifted, but much of the spending that has been reduced during the pandemic is likely to resume at approximately normal levels - people won’t double up on travel, meals eaten out, entertainment, drinking in bars, just because they weren’t able to enjoy these for a year. Gradual relaxation of constraints and lingering caution will also tend to slow the recovery of spending. There are many reasons to doubt that demand will suddenly spike.
The worldwide impact of the pandemic, and the widespread adoption of deficit-funded relief measures, means that there is no reason the US dollar’s valuation against sterling, euro, and yen should change much.
Remember though, that the FRB can buy up debt and hold it long-term, if need be, to help allow the federal gov't without the worries of "too much debt".
They do return a lot of the interest on the government securities they hold to the Treasury Department every year, which further reduces the deficit and the "debt" burden. Also, it seems to me people who worry about the debt forget that, on the other side, this is the stock of assets that banks use as collateral in their daily interactions with each other. One reason the medium/long term interest rates are so low is that there is still a huge demand, worldwide, for safe investments. When there is high demand for a commodity, its price rises. A high price for a bond means a low interest rate.
At the very least, the Fed is now equipped with better tools to more accurately calibrate its response to threats of inflation than it was 40 years ago. Not that the the Fed back in the late 70s didn't have serviceable calculators and spreadsheets at their disposal, but the capacity of those tools then for designing case scenarios and analyzing them in real time was less widely available--nor did economists back then have the skills needed to use them. Was Volker known as a technical wiz? Would any of the Feds' members back then be qualified to serve today? Likewise, politics might interfere now, as it did then, but since 2000 when Greenspan and his crew ramped up interest rates to grease the skids for Republicans in that election year, that kind of malfeasance seems more difficult to pull off today. Now anyone can check the Fed's assumptions and results to know whether they're setting monetary policy reasonably. World-weariness notwithstanding, in 2021 monetary policy is adequate to the task of keeping inflation in check when necessary without risk of recession.
It depends on why you have deficit spending. If you are investing in infrastructure, workforce training, child development or a host of other things that produce returns on investment, then debt is a good thing.
If your country is accumulating debt because you refuse to make the filthy rich pay their fair share or running deficits to make political payoffs that have little or no return (like the 2017 tax cuts) then debt for those purposes is problematic.
Governments and family budgets are NOT comparable, but if your family goes into debt to buy a car so you can travel to work or buy a house that appreciates in value, you get return on investment or do not suffer from lost opportunity cost. If you go into debt to support a gambling habit that on net loses money, that debt is problematic. Too many people who complain about government debt have debt of their own that is not a problem either
Yes! It is strange to me that economists so rarely speak about debt in these terms (Dean Baker is an always-worth-reading exception). The US has enormous assets to balance against its debt, as do other OECD countries - not just physical infrastructure, but an educated population, research institutions, and the ‘store of knowledge’. Much of government spending expands the ability of the economy to produce more goods and services in the future; debt is serviced by a wealthier society. It serves conservatives’ purpose to wring their hands over the debt we leave our children and grandchildren; progressives need to constantly remind the public that we work to leave them a cleaner, more sustainable environment, better health, more educational opportunity, etc.
“The first financial responsibility of the government (since nobody else can undertake that responsibility) is to keep the total rate of spending in the country on goods and services neither greater nor less than that rate which at the current prices would buy all the goods that it is possible to produce. If total spending is allowed to go above this there will be inflation, and if it is allowed to go below this there will be unemployment. The government can increase total spending by spending more itself or by reducing taxes so that the taxpayers have more money left to spend. It can reduce total spending by spending less itself or by raising taxes so that taxpayers have less money left to spend.” Abba Lerner, "Functional Finance and the National Debt" (1943)
Again, there is spending and there is "spending." If the federal government spends money on things that add value, such as infrastructure or health care, that should properly be called investment. As long as those investments are sound (create more wealth than the amount spent plus interest), that oft-belittled "spending" is beneficial to the economy. So it's not the amount spent that matters, but whether the spending creates net value.
Here's the St. Louis Fed's take on Does the National Debt Matter: https://www.stlouisfed.org/publications/regional-economist/fourth-quarter-2020/does-national-debt-matter
Thanks for the link. I had thought that in the past Andolfatto was more ‘hawkish’; this is a very forthright and understandable analysis (as much as monetary theory can be understood by us laypersons). He expects no more than a ‘spike’ in inflation, a ‘one-time rise’ in prices, after pandemic restrictions are lifted. I gave reasons above why I think it will be quite small, if it appears at all. An additional reason: observing the several-fold increases in demand for food assistance indicates to me that relief spending so far is not even replacing lost demand in the aggregate, even if a few higher-income households are saving their benefits.
The debt/GDP ratio in the 1970's was like 35%, but you do not bother to explain how that inflationary spiral took place and charge right in and basically assume something "complicated" about it being over 100% today and some possible, but unexplained, explanatory mechanism beyond a brute relationship between the two. I find this to be wanting.
Also, to make matters worse, deficit hawks routinely conflate the politics of the debt (well understood) with the economics (not so much), depending on what weak argument they are trying to get across the line.
As complications go, as one assumes the worst (ever rising level of debt) it would also be responsible to acknowledge that decades of inflation fever eat away at the debt burden, making repayment less onerous. But like you say, it's complicated.
In summary: I opine you need to revisit this a bit more.
Maybe I'm just a dumb non-economist, but it seems to me that when the government spends money INSIDE the country (paying government contractors), and that spending adds value to the nation, it should not be viewed the same as money borrowed by, say, a family to go on a vacation or buy a fancy car they don't need. And even beyond that, most of the federal debt is also held by people and institutions INSIDE the country, and so when it's repaid to the bondholders with interest, that money also flows right back into the nation's economy. So anyone who compares federal debt with family debt is either clueless or is working the same old deficit-hawk scam that we've been hearing for decades.
The problem is that you think inflation magically arises out of thin air. It doesn't. In the 70s, Oil was a huge bottleneck. Eventually, we reduced the dependence of the economy on oil by using it more efficiently and substituting other products. Manufacturing capacity utilization is apparently running at about 75% (https://www.federalreserve.gov/releases/g17/current/). The labor force participation rate is low. So where's the bottleneck you think is going to cause inflation?
Oil keeps trying to contribute to inflation, but each time it's price rises, the economy becomes less dependent on it.
Meanwhile, there's a return on investment. Putting more people to work and raising capacity utilization increases tax revenues and decreases deficit spending.
I would have expected you to read Krugman from time to time to learn about this sort of thing.
Just a random thought occurring to me: The widespread distrust of expertise: Might it in part due to economists? Take Japan: For years now economists have predicted disaster because of high debt and too many old people. And the disaster stubbornly refuses to appear. On the other hand no economist predicted the disastrous result of a collapsing housing bubble; quite a few issued warnings but not one seemed to anticipate the depth of the ensuing recession.
Economy is of course difficult because hard data in sufficient quantity is hard to come by. But a little humility would help them be more credible. Plus they would make it more likely that the public trusts them--and other experts.