Why the level of U.S debt is meaningless

U.S government debt continues to spiral upwards at a rapid rate. Each day, the US debt clock keeps climbing, and, at the time of publication, stood at over $22.5 trillion US dollars, or 105.67% of GDP. [1] It’s like a balloon that won’t stop expanding. But can it actually burst? We’ll take a look at why U.S policy makers are not viewing the debt mountain as a national economic crisis and instead continue to make decisions that contribute to its incessant growth.

Firstly, what is U.S government debt?

Government debt occurs when a government has a budget deficit, and, on its own, cannot fund all of its spending. Therefore, it must borrow from somewhere. In the U.S, this somewhere takes the form of Treasury securities issued to US citizens, banks and foreign governments and institutions. In the last 10 years alone, the U.S government has accumulated a total of $8.72 trillion US dollars in budget deficits, which is expected to keep climbing with yearly $1 trillion US dollar deficits forecast over the next 3 years. [2] Notably, 40% of national debt is held by foreign governments, with Japan and China both individually holding over $1 trillion US dollars in treasury bonds. [3]   

Why fears around government debt levels are needless

As the magnitude of U.S government debt has risen in the past decade, so has hysteria concerning the enormous figures. It has become such an underlying policy issue that Donald Trump, in his 2016 Presidential campaign, pledged to eliminate the U.S national debt by 2024. [4] Why, therefore, are the numbers projected to grow in that time? Well, the actions of policy makers infer a much stronger preference for seeking to stimulate economic growth via spending and tax cuts, as opposed to reducing debt via fiscal consolidation. But if downsizing national debt doesn’t seem to be a tangible priority of the government, why is it important to U.S voters?

The notion of cutting debt is important to the average voter because they tend to think of the U.S economy like a household. That is, the U.S Treasury needs to balance their books and ensure that the nation doesn’t run into unsustainable debt; otherwise it won’t be able to pay it back with dire consequences. However, the U.S government doesn’t function in the same way as the average U.S household, primarily because the U.S government will not one day ‘expire’, or eventually dissolve, in the same way that a household will. The U.S government will, if the planet doesn’t die first, essentially go on forever [5]. Therefore, there is no stipulation that requires the U.S government to pay back all its debts by a certain time. Essentially, the government merely needs to service the interest payments on its debt, which, at a time of historically depressed interest rates, are very low.

However, you might now be thinking: If the U.S will, potentially, never actually pay back all its debts, why do countries like Japan and China lend millions of dollars to the U.S government each month? The answer: trade leverage [6]. By lending to the U.S government, Japan and China are providing the U.S with funds they can then use to purchase exports from their Asian benefactors. In this way, debt provides fuel for trade, incentivising Asian nations to continue lending, and as long as they do so, the demand for bonds will remain high while interest rates stay low. Furthermore, in the case of China, purchasing U.S bonds helps the Chinese government artificially devaluing its currency by increasing the supply of Chinese Yuan, driving down its value. This looks set to continue as China strives to maintain a competitive advantage for its exports in global markets.

What about the debt to GDP ratio?

Some economists argue that the debt to GDP ratio is important because it may be an indicator of the short-term fate of an economy. A study by The World Bank found that a national debt-to-GDP ratio of over 77% for an extended time span was correlated with a 0.017% fall in annual real economic growth [7]. Given that US debt-to-GDP ratio is currently at 105.67%, this may be cause for concern. However, this is not necessarily a reliable signal of any upcoming recession. For instance, Venezuela had a debt-to-GDP ratio of 23% in 2017, yet the nation faces a worsening economic crisis [8]. Furthermore, it must be recognised that the world’s largest economies are all trending upwards in their levels of debt as a % of GDP. Currently, Japan’s level of national debt represents 230% of GDP, Germany’s debt constitutes 60% of GDP, and China’s debt has climbed over 10% in the last 5 years to now sit at over 50% of GDP [9] [10] [11]. Thus, these facts alone do not warrant the U.S. debt situation to be considered a disturbing anomaly which necessitates immediate action.

If I’m not worrying about U.S. debt, then what should I be worrying about?

The level of U.S debt itself is not an issue, but the way the U.S government approaches debt in the future could create problems. Whilst it appears economically sound to continue issuing debt while interest rates remain relatively low and the trade status quo lives on, policy and economics are often separate considerations. If the U.S government were to buy into public fear and seek austerity measures to deflate the balloon of debt, we should be alarmed. Such measures would have serious ramifications not only for domestic economic conditions, but the global economic success due to its reliance on the US economy. Right now, however, with debt multiplying each day and no sign of a turnaround in its trajectory, we don’t need to lose any sleep.

[1] US Debt Clock.org. (2019). Retrieved from https://www.usdebtclock.org/

[2] Amadeo. K. (July, 2019). U.S. Budget Deficit by Year Compared to GDP, Debt Increase, and Events. Retrieved from https://www.thebalance.com/us-deficit-by-year-3306306

[3] Jeffrey. T. (August, 2019). Japan Surpasses China as Top Foreign Holder of U.S. Debt. Retrieved from https://www.cnsnews.com/news/article/terence-p-jeffrey/japan-surpasses-china-top-foreign-holder-us-debt

[4] Kessler. G. (April, 2016). Trump’s nonsensical claim he can eliminate $19 trillion in debt in eight years. Retrieved from https://www.washingtonpost.com/news/fact-checker/wp/2016/04/02/trumps-nonsensical-claim-he-can-eliminate-19-trillion-in-debt-in-eight-years/?noredirect=on

[5] O’Brien. M. (February, 2013). Why the U.S. Government Never, Ever Has to Pay Back All Its Debt. Retrieved from https://www.theatlantic.com/business/archive/2013/02/why-the-us-government-never-ever-has-to-pay-back-all-its-debt/272747/

[6] Egan. M. (March, 2018). The US needs to borrow almost $300 billion this week. Retrieved from https://money.cnn.com/2018/03/27/investing/us-debt-sale-record-treasury/index.html

[7] Grennes. T, Caner. M & Koehler-Geib. F. (August, 2010). Finding The Tipping Point — When Sovereign Debt Turns Bad. Retrieved from https://elibrary.worldbank.org/doi/abs/10.1596/1813-9450-5391

[8] Venezuela Government Debt to GDP. (2019). Retrieved from https://tradingeconomics.com/venezuela/government-debt-to-gdp

[9] General government debt. (2019). Retrieved from https://data.oecd.org/gga/general-government-debt.htm

[10] Germany Government Debt: % of GDP. (2019). Retrieved from https://www.ceicdata.com/en/indicator/germany/government-debt–of-nominal-gdp

[11] China Government Debt to GDP. (2019). Retrieved from https://tradingeconomics.com/china/government-debt-to-gdp