In the debate over the federal "stimulus" plan, few are asking—and no proponent is answering—the important questions: Who will finance the debt? What are the opportunity costs for this financing? Can we afford to take on more national debts?
When my children were young, they did not understand money is limited. "Just go to the ATM," they’d say. Likewise, Fed Chairman Ben Bernanke does not have access to a magical ATM, although some ostensibly think so.
To simply print money would be catastrophic. It was the mistake the Weimar Republic made, which inflated prices by 1.5 trillion times from 1921 to 1923. The monetary system collapsed, peoples’ savings were eliminated, and Hitler and the National Socialists German Workers’ Party (NAZIs) rose to power.
Thanks to undisciplined Congresses and presidents with a legacy of structural deficits, we have only one option to fund the economic stimulus: we must borrow.
There are two costs to borrowing: the financing costs and the opportunity costs. The former is obvious. Interest payments on $800 billion could require another $400 to $600 billion from taxpayers. Does it make sense to spend $1.3 trillion over 30 years to fund four million jobs—the number President Barack Obama claims will be created—for 2-3 years? That’s $325,000 per job.
We might be able to finance this debt if China continues buying U.S. securities. The interest payments, however, would count the same as imports from China. Our debt service payments must return to China, slowing economic growth in the long run. This also assumes that China will continue to have the financial capacity and willingness to buy our debt—a tenuous proposition given the global nature of the current economic downturn.
The opportunity cost of the stimulus is more troubling. Whoever lends us money must divest elsewhere. American investors buying debt would do so at the expense of other investments, thus reducing money available for private economic activity, contrary to the goal of the stimulus plan. If banks buy U.S. securities, there is less money available for lending, also contrary to the plan’s purpose.
The Fed’s purchase of debt pumps more liquidity into the already well-liquefied system. This would have to be carefully managed because once economic activity picks up the Federal Reserve would have to balance between allowing inflation and raising interest rates—a trade-off that is sure to manifest itself considering the trillions of dollars pumped into the economy.
None of the potential scenarios for paying for this debt are good. To the extent that foreigners will purchase the bonds, it will drain resources through interest payments, thus suppressing economic growth in the long-term. To extent that the American public purchases the bonds, it will take money away from private sector investments, thus slowing economic recovery and growth. To the extent that banks buy the debt, it will reduce lending and perpetuate a stagnant economy. Finally, to the extent that the Federal Reserve will purchase the debt, it will lead to either higher interest rates—thus reducing private economic activity—or more inflation—thus reducing everyone’s wealth and hitting seniors and others on fixed incomes the hardest.
Adding to the national debt is very troubling considering our fiscal situation. For a family of four, the per capita debt burden is $140,989, but the median income is just $61,223. This, of course, is just the federal government debt; it does not include state government debt, local government debt, or personal debt, which is uncomfortably high for many families.
Today, our national debt is equal to about 75% of our GDP. The national debt-to-GDP ratio—a standard way economists measure the burden of national debts—is now higher than what it was in 1943, after the New Deal programs of the 1930s and the beginning of World War II. The current fiscal year’s deficit plus the "stimulus" plan increases the ratio to 84%. The cost of Treasury Secretary Tim Geithner’s recently announced Financial Stability Plan plus our deficits will put us over 100% in as little as a year.
Since the beginning of available GDP data in 1929, the U.S. national debt-to-GDP ratio has exceeded 100% in only three years: 1944-1946. Of course, World War II was an unprecedented war mobilization effort to defeat Germany and Japan. Yet, if we continue down this path of borrowing, we will soon match these national debt-to-GDP levels with no justifiably comparable reason.
According to the CIA’s World Factbook, only five countries have national debt-to-GDP ratios in excess of 100%: Zimbabwe, Lebanon, Japan, Jamaica, and Italy. These countries are not on this list because they did something right. They are on it because they mismanaged their finances. Unfortunately, we’ll soon be on the list.
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David Cameron is the non de plume of a concerned citizen who has taught economics and has extensive experience in Pennsylvania state government. He writes for the Commonwealth Foundation (www.CommonwealthFoundation.org), a public policy education and research institute in Harrisburg, PA.
Permission to reprint is hereby granted provided the author and affiliation are cited.
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