Deconstructing the debt

by John Perilli

It’s risky to play a bargaining chip when you do not know its value. All the same, our national debt was tossed back and forth across the fiscal cliff armistice table on a number of occasions, whether it was the bipartisan deal to cut it by $2 trillion or the proposal to include an extension of the “debt ceiling” in the final compromise. The current accounting of the national debt measures it at around $16.4 trillion, but like any government-issued statistic, the national debt comes heavily laden with political baggage. What is our debt really worth?

The most common conception of the national debt is simple: The US issues treasury bonds to its many creditors around the world, and the ominous number on whichever debt clock you happen to be watching ticks up. However, government debt is more than just the spillover when spending exceeds revenue.

“A government debt is anything that the government is committed to paying,” explains Professor Peter Howitt, a Brown University economist. “The national debt measured is just a part of that.”

While the money the government borrows to bridge its budget gaps is part of the debt, the concept as a whole is much broader. Many components of our debt have gotten lost in the numbers. Some of these make the debt seem like less of a problem, while others inflate it to horrifying new heights.

Clearing the Air

One of the assumptions behind the idea of debt is that it will eventually be paid back. With this in mind, many have looked on America’s debt obligations with horror, wondering how anyone can believe we will repay it all. Some have gone so far as to compare our country’s debt situation to that of Greece, a country on the edge of default. There is one crucial difference, though.

“We are just so far from Greece,” Howitt says. “Greece does not have the option of issuing debt in its own currency.”

Because it is part of the Euro Zone, Greece cannot print its own money, giving it only limited control over how it pays its debts. On the other hand, the US can print as many dollars as it needs to pay its expenses. Because of this, creditors tend to trust the US more than many European nations.

“The US is in this privileged position in which people are willing to lend them money,” Howitt points out.

As long as holders of American debt believe the US will make good on its commitments, the US can freely issue treasury bonds to finance itself.

This trust also allows the US government to go into debt at a negative real interest rate: We will pay back less than we borrowed. Normally, one of the costs of going into debt is paying back creditors with interest, but right now it is actually less expensive to issue debt than it is to pay our way with cash. This is the preferred line of attack for many left-leaning economists, such as Paul Krugman, who call for greater stimulus spending by the federal government. Eventually, the interest rate will rise again, but until then, debt financing is our cheapest payment option.

Then, consider the fact that out of the $16.4 trillion figure, over $6 trillion of it is considered “intragovernmental debt.” Many of the bonds issued by the Treasury end up in the hands of the Federal Reserve, the Social Security Trust Fund, and other government accounts, meaning that the largest holder of US debt is the US itself.

Some find this odd and take the chance to dismiss this intragovernmental debt as not being “real” debt. However, Social Security and Medicare are keystones of the social safety net. If they cannot use debt to finance themselves, the welfare state will crumble. Nor can the Federal Reserve hold its treasury bonds indefinitely — at some point, it will need an “exit strategy” to sell them off. Intragovernmental debt may not sound as troubling as the nearly $5.5 trillion of debt held by foreign governments, including China, but it is still a real obligation.

An Uncertain Future

If you feel at all hopeful after the preceding points, then steel your heart. Our national debt is a far murkier problem than the numbers suggest.

Professor Laurence Kotlikoff, an economist at Boston University, has come up with some disturbing conclusions about our national debt in his research. Rather than take the $16 trillion figure at face value, Kotlikoff investigated the long-term obligations that the federal government wasn’t counting. He calculated the present value of all our future commitments to Social Security, Medicare, and other mandatory programs, then subtracted how much revenue the government will collect under current tax law. The shortfall came out to around $211 trillion. This startling number is what Kotlikoff argues is our actual debt, and it is a number that demands immediate attention.

“You’ve either got to collect more taxes from people, or you’ve got to cut back on some commitments,” Howitt puts it frankly. “It’s a social problem.”

Indeed, when looking at the long run, the national debt becomes much less a numbers game and more a struggle over wealth. The retiring generation will have paid their dues and will want what is owed to them, and the working population may resent being their financial caretakers. This conflict is especially relevant given the fact that the baby boom generation of the ‘40s, ‘50s, and ‘60s is starting to retire. By 2030, nearly a fifth of the American population will be older than 65, putting an unprecedented strain on federal retirement programs and demanding some resolution of our current liability problem.

“It really has to do with all these conflicting claims over society’s resources,” Howitt says. “This is an issue that’s really going to pit the baby boomers against everyone else.”

It is a familiar refrain by now, but Congress must tackle this problem, either in pieces or as part of a larger bargain. While it is possible to manipulate the numbers to make the debt look smaller than it is, the fact remains that we have difficult choices to make in our fiscal future, and they had better be made soon.


photo courtesy of Mellydoll: