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Unfounded Debt Fears Block Economic Recovery

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Yves here. I have a small quibble in this post. The main reason for the sharp rise in government debt levels around the world was not bailouts of financial firms, but the impact of the crisis. Economies all suffered sharp downturns. That led to a big drop in tax receipts and an increase in spending, such as unemployment benefits. But this otherwise is a fine, high level but technically sound discussion of the dangers of debt scaremongering.

By Anis Chowdhury, former Professor of Economics, University of Western Sydney, who held various senior United Nations positions in New York and Bangkok and Jomo Kwame Sundaram, former UN Assistant Secretary General for Economic Development. . Originally published at Inter Press Service

Debt anxieties are not new, often fanned by political competition. But so is a double dip recession due to premature deficit reduction. For example, to seek re-election, President Roosevelt backed down from his New Deal in 1937, promising that “a balanced budget [was] on the way”. In 1938, he slashed government spending, and unemployment shot up to 19 per cent.

Deficits and Debt

Many countries had huge public debts when World War II ended. Despite such anxieties and calls for drastic spending cuts, governments continued to spend. Had they caved in, Europe would not have been rebuilt so soon. As governments continued with massive expenditure to rebuild their countries, economies grew and the debt burden diminished rapidly with rapid economic growth. Clearly, debt is sustainable if government expenditure enhances both growth and productivity.

When the debate about deficits and public debt was raging during the Great Depression, Evsey Domar, growth theory pioneer, noted, “Opponents of deficit financing often disregard … completely, or imply, without any proof, that income will not rise as fast as the debt … There is something inherently odd about any economy with a continuous stream of investment expenditures and a stationary national income.”

After the 2008-2009 financial meltdown brought many OECD economies to a standstill, there was a brief revival of fiscal activism. Many OECD governments initially responded with large fiscal stimulus packages, while bailing out influential financial institutions. Major developing countries also put in place well designed fiscal stimulus packages including public infrastructure investment and better social protection.

Hence, there were sudden increases in debt/GDP ratios, mainly due to large financial bail-out packages and some fiscal activism. But with the first hints of “green shoots” of recovery from mid-2009, fiscal hawks stepped up their calls for winding back, sounding dire warnings about ballooning deficits. They argued that rapid fiscal consolidation would boost confidence, particularly in the finance sector, creating an expansionary impulse.

Thus, the affected countries undertook rapid fiscal consolidation measures with large cuts in public expenditure, especially in the areas of health, education, social security and infrastructure. Yet, their debt-GDP ratios continue to rise as they struggle to reignite growth. Meanwhile, the IMF has admitted that its initial fiscal consolidation advice was based on erroneous ad-hoc calculations.

Overwhelming recent research findings, including from the IMF, indicate that discretionary counter-cyclical fiscal policy in recessionary periods augments and catalyses aggregate demand, encourages private investment and enhances productivity growth, instead of raising interest rates and crowding-out private spending.

Optimal Debt-GDP Ratio?

The fixation with a particular debt-GDP ratio lacks any sound basis. The 60 per cent debt-to-GDP ratio, used by the European Commission and the IMF as the upper threshold for fiscal sustainability by 2030, was simply the median pre-crisis ratio for developed countries and the median debt-GDP ratio of EU countries at the time of the Maastricht Treaty. Similarly, the 3 per cent budget deficit rule of the EU happened to be the median budget deficit ratio at the time of the Treaty. None of these ostensible bench-marks imply optimality in any meaningful, economic sense.

Public debt in Japan soared to well over 200 per cent of GDP over two and a half decades of deflation. Yet, interest rates have remained low for many decades. In 1988, Belgium had the highest public debt, and Italy’s debt rose above 100 per cent of GDP during this period. Neither of them experienced spiraling inflation or very high interest rates as ‘austerity hawks’ claim will happen when government fiscal deficits rise. Meanwhile, studies of public finance in the United States do not find any significant relationship between debt-to-GDP ratios and inflation or interest rates during 1946-2008.

However, real interest rates may be adversely impacted by whether the debt is denominated in domestic or foreign currencies. In other words, a sovereign country should have the option to monetize debt. The problem arises when that option does not exist, as with countries in the Euro zone. This is clear from the contrasting experiences of Spain and the UK during the recent rapid public debt build-up.

The UK public debt-GDP ratio was 17 percentage points higher than the Spanish Government debt (89 versus 72 per cent) in 2011. Yet, the yield on Spanish government bonds rose strongly relative to the UK’s from early 2010, suggesting that international bond markets costed Spanish risk much more than UK government bonds.

As a member of a monetary union, Spain does not have control over the currency in which its debt is issued, while UK public debt is mostly in its own currency, as in the US and Japan. Therefore, much of the problem in the Euro zone is not really about high public debt or deficits. Rather, it is rooted in the currency union that limits its members’ policy space with regard to money creation and exchange rate policy. Hence, the only way they can improve what is seen as competitiveness is by cutting wages!

Then and Now

Since 2014, even the IMF has changed its stance. In its October 2014 World Economic Outlook, it advised that “debt-financed projects could have large output effects without increasing the debt-to-GDP ratio, if clearly identified infrastructure needs are met through efficient investment”.

There is, of course, one difference between now and the 1930s. The finance sector and rating agencies are much more influential and powerful now than then. Democratically elected governments have become hostage to money-market investors who shift money from one place to another in search of quick profits.

Governments should not be driven by superficial diagnoses of complex economic issues by rating agencies. The record of rating agencies before the 2008 global economic crisis was abysmal, and the US Congress has seriously debated whether they should be prosecuted. Trying to win their confidence is futile, and trying to anticipate them is hazardous, but they nevertheless hold finance ministries and central banks to ransom.

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52 comments

  1. James Miller

    Great find for those of us without a deep background in the dismal science. The question remains: why is it so difficult for this rather simple understanding to be absorbed by the sectors who desperately need to understand it? It’s their goose that’s being killed by demand destruction too.
    A great case of ideology over ideas, reactionary recidivism over research, I guess.

    1. James Levy

      I think the underlying issues are power and control. The current arrangement is unstable and perhaps unsustainable but it affords those at the top a level of power and control over policy and the workplace that is deeply comforting to them.

      We tend to see this from the bottom and assume that what the Clintons and the Trumps and the Bezos’s of this world want is money money money. But what I think really rings their bell is the power and the sycophancy of others that comes with the money and the power. The old idea of grabbing a stake and then building a sustainable little economic empire doesn’t have the appeal it did in an era of privacy without mass media. Buying and/or building your castle and retiring to it in the Carnegie manner and then passing the reigns to your progeny seem to have little appeal to today’s plutocrat. Domination and instant gratification are the spirit of the times.

      1. Moneta

        I think it is bigger than that… we in the developed world have already consumed a lot of the world’s resources and printing would mean we keep on doing more of the same.

        If planetary resources are unlimited, printing is the way to go. But if resources are finite relative to the developed world’s consumption habits then deficit spending won’t solve our problems. It’s just going to create a huge fight for resources with everyone printing at the same time.

        Today’s debt-to-GDP ratios are a huge issue because they are setting us up for who is going to get future energy and resources. The first one to break the rules ends up like Greece…

        Somehow, most don’t seem to see the link between our current economic situation and the real natural and physical constraints we are facing.

        1. Paper Mac

          “Somehow, most don’t seem to see the link between our current economic situation and the real natural and physical constraints we are facing.”

          To be honest, in the context of debt-to-GDP etc., this doesn’t really deserve a “somehow”. The relationship between biophysical processes as such (energy expended to transform matter or what have you) and the prices we assign to these as “economic activities” is incredibly opaque. That’s not to say you haven’t hit the nail on the head, just that it’s a difficult theoretical problem that no one has answered in a systematically useful way yet.

          1. cnchal

            What I find opaque is the prices paid for those performers of bullshit jawbs. Economists, politicians, anyone in the FIRE sector. How is it possible that many of these jawbs that produce essentially nothing are paid these enormous sums, relatively speaking, with someone that actually does transform matter. That must be the political part of political economy.

            Transforming matter can be measured very precisely with dollars and cents. When an economist chowing down on mid six figures leads us down the wrong road, how do we get our money back?

            . . . Yet, their debt-GDP ratios continue to rise as they struggle to reignite growth. Meanwhile, the IMF has admitted that its initial fiscal consolidation advice was based on erroneous ad-hoc calculations.

            Anyhow, yesterday within a comment from openvista is this gem, which summarizes the great conundrum perfectly.

            . . . Unfortunately, there’s an inverse relationship between the health of the markets and the health of this planet.

            1. nothing but the truth

              intelligent people with time on their hands (ie, academics not looking for a hedge fund job) should be designing a post capitalist future for humanity.

              this has become a sh*t show.

          2. EricT

            Resource depletion is another bogus reason to keep the money supply fixed. Alternatives always exist, and if they don’t then government should be doing the research to find them. For example, oil extraction has become more and more expensive since the cheaper reserves are extracted first are eventually depleted, but the market, with government help has already started producing alternatives. Solar panels are becoming cheaper and are commonly seen on rooftops all over the country, wind generation capacity is growing, electric vehicles are improving. The money supply can be grown without increasing debt. The government has the ability to print money. Money is not fixed, it is a medium of exchange. The world is dynamic, the economy can be and is dynamic as well.

        2. Jef

          Great comment Moneta except that you, as well as the rest of humanity skipped over the most important element of the equation …the waste stream that industrial civilization generates.

          Why is it we can’t understand that there are absolute limits to growth and we are NOT going to grow our way out of them?

          1. cnchal

            Why is it we can’t understand that there are absolute limits to growth . . .

            Because money and I’m living for me now, and I don’t care what happens after I’m gone.

        3. av av

          I keep wondering about the finite and how do we know we’re hitting it.
          Every few years we keep hearing about peak oil coming and then things like fracking and gas finds in the eastern Mediterranean happen and it feels like peak oil is, at least temporarily, doomed.
          I wonder where peak oil stands now.

          1. James Levy

            It actually happened. We hit the peak of conventional oil a few years ago. The new stuff is either 1) super expensive to get, 2) has fantastic externalities that someone is going to suffer for (tar sands), and is 3) almost always of a lower quality than conventional oil and needs tons of refining to be useful.

            Tar sands and fracking are a response to the reality of peak oil, not an answer to it. They are analogous to what anthropologists call starvation foods–things with minimal nutritional value that people will eat only if the alternative is dropping dead. But unlike starvation foods, fracking and tar sands will not tide us over for however many millions of years until a new crop of oil comes in.

          2. EricT

            Japan recycles 50% of their waste. Material really can’t be destroyed just altered, unless we turn it all into CO2, then we’re screwed. A healthy economy will make alternatives available if a resource becomes limited. Either that or society changes and that’s happening all the time. Why would that not happen in the future?

  2. av av

    instant message exchange between two unidentified Standard & Poor’s officials about a mortgage-backed security deal on 4/5/2007:
    Official #1: Btw (by the way) that deal is ridiculous.
    Official #2: I know right…model def (definitely) does not capture half the risk.
    Official #1: We should not be rating it.
    Official #2: We rate every deal. It could be structured by cows and we would rate it.

    A former executive of Moody’s says conflicts of interest got in the way of rating agencies properly valuing mortgage backed securities.
    Former Managing Director Jerome Fons, who worked at Moody’s until August of 2007, says Moody’s was focused on “maxmizing revenues,” leading it to make the firm more “issuer friendly.”

    1. James Levy

      Thanks.

      Reminds me of the “who are we going to sell this shit to?” internal email at Goldman (referring to the MBS’s they were slicing and dicing).

      Several problems, however, arise when looking at this from a legal aspect:

      1) the laws were mostly abstruse
      2) the writing of the laws was deliberately helpful to those to whom the laws applied
      3) differentiating between “sharp practices” and outright fraud is tough in this ethical climate
      4) no one wanted to try to make the laws stick in the first place
      5) since we’ve deified the notion of maximizing return for investors, corporate types can always claim that they were following their fiduciary responsibility by exerting to the utmost their efforts to increase shareholder value

      My guess is that people who see these cases as “slam dunks” would be stunned if they tried to take one to trial, because moral clarity evaporates faster in a US courtroom stocked high with Ivy League lawyers than water does in Death Valley.

  3. nothing but the truth

    ecoomists really need to come to an understanding of the relationship between the real and the financial.

  4. Michael N

    In a world of Unicorns and Rainbows, excessive public debt may not matter, but in the real world of corrupt governments, both neocons and neolibs, these debts are not invested in public growth, but rather private enrichment. From a macro level, think about the explosion of global public debt in recent years resulting in limited GDP growth and jobs, ever increasing inequality, and never ending wars. If “trickel down” doesn’t work with tax cuts, why would anyone believe it would work with government debt and spending? Public debt is being used to fund the elites’s acquisition of assets globally and economists are providing validation while rarely challenging the use of funds. After WWII, by neccessity public debt was invested in rebuilding a global infrastructure destroyed by war, so of course there was a ROI that eventually neutralized Debt to GDP.

    So in theory, okay, debt levels don’t matter. But on this planet, restraints on public debt are one way to slow the growing consolidation of power by a small group of elites. I would like to see independent economists develop and publish metrics that track, score, and measure the ROI performance of incremental public debt and the underlying policy decisions, that but I don’t think their government benefactors would like to see that.

    1. tongorad

      But on this planet, restraints on public debt are one way to slow the growing consolidation of power by a small group of elites.

      Or rather restraints on public debt are a way for the elites to discipline and punish those who they regard as inferior.
      How has years of austerity slowed “the growing consolidation of power by a small group of elites” in any way?

  5. washunate

    It strikes me as entirely missing the point to lump OECD nations together. The US has gone on an enormous debt binge over the Reagan-Obama era. We can debate whether this is good, bad, or irrelevant, but it can’t be denied. This debt is not because revenue has fallen. It is because spending has risen. (And of course, one of the reasons that the growth of revenue slowed is the ongoing assault on progressive income taxation that has given huge amounts of money to the wealthy.

    Europe, meanwhile, is dealing with insolvent banks tied to individual nations whose debt is not denominated in a domestic national currency unit. In an anti-market system that refuses to put bankrupt banks through bankruptcy, that debt is a huge issue.

    1. Moneta

      Here in Canada, new houses seem to get bigger and bigger. Loads of households are willing to go to 4X and up to 8X household income to buy homes…. and this despite the risk of leverage.

      I can’t help but wonder what the population would do with helicopter drops…

    2. Pat

      Please do not forget another reason that tax revenues have fallen – the fact that the middle class, working class and the poor have essentially not seen a raise in that same time period. Not only did they shift the tax burden further down the wage chain, they suppressed those wages – of course tax revenues would fall.

      Mind you another reason we have not seen any real benefit from that spending is that so much more has not ever entered into the commons. It isn’t just our businesses that don’t build things in the US anymore, it is the US itself. We don’t research, innovate, or just maintain our country, all things that sent much of that money into the commons (which came back to the US both in the form of income taxes AND in business taxes from companies who did the work or even used those innovations to make new products.)

      It is practically a recipe of how to spend as much as possible and get as little as possible back. A cynical person might think it was designed that way.

  6. Jesper

    Evsey Omar was/is not around to witness the great debt-financed mal-investment. Granted most was done by the private-sector but it ended up burdening the public.
    So the ‘odd’ thing about stationary income even after investment is a very real and quite common thing.
    It is being said that reduced working time is unaffordable, I believe it is one of the few investments that are likely to to improve the lives for the ordinary citizen while still being cost-effective.

  7. Teejay

    It seems apparent that in order to have a meaningful ratio we need to distinguish between productive and unproductive debt and meaningful and meaningless GDP. Weren’t high ratios after WWII much less of a threat than today’s even though they were higher in absolute terms? eg.: productive debt = infrastructure spending vs unproductive debt = military spending or tax breaks and meaningful GDP = the real economy vs the meaningless economy = earnings from the FIRE sector or HFT front running etc..

    1. EricT

      Why do you consider that debt is the only way to grow an economy? We can print money without issuing bonds. Heck, even the UK did the Libya thing by printing money and not putting it into the budget. Another wealth transfer to the already bloated defense sector. The key is to find productive reasons to print money for. If there is no return of value to an economy, then it shouldn’t happen.

  8. Watt4Bob

    Debt scaremongering is simply a subset of the lies, and misrepresentations used to uphold the criminal status quo.

    It should be clear, and increasingly is, the dogs won’t eat the dogfood.

    The “economists, and experts” discussed in today’s other posts, have finally been seen for what they are, lying scoundrels.

    Those same lying scoundrels are now engaged in a frantic effort to put the toothpaste back in the tube, so at least they are providing a little inadvertent comic relief.

    The jig is up, the emperor is naked, the cheerleaders are sluts.

    1. James Levy

      Well, we’re going to have to eat it at least one more time. Clinton couldn’t give a rat’s ass about any of this and will simply follow the Washington Consensus. Trump made one excellent point about our sovereign currency but has gone on and on and on about “Obama’s deficits” and pledged to both cut taxes and balance the budget (we know where that leads). So we may not like the food the plutocrats are serving, but we’ll be getting it anyway in November.

  9. Sound of the Suburbs

    Debt is dangerous, the debt banks use to inflate asset bubbles.

    Strangely the globalisation project chose to resurrect neoclassical economics that had led to the Wall Street Crash of 1929 and the Great Depression before the New Deal came in and ushered in the Golden Age of the 1950s and 1960s after the war.

    Keynesian economics went wrong in the 1970s and the old neoclassical economics was dusted off and bought back again.

    No one seems to have looked at its problems in the mean time, as we have already had another Wall Street Crash in 2008; suffer with 1920’s levels of inequality and are dealing with another global recession.

    Neoclassical economics says debt doesn’t matter with its very simplistic assumptions about money and debt.

    Some investigation into 1929 would have shown the collapse of the stock market and the effects that flowed out from there were due to lending on margin into the stock market, a debt inflated asset bubble.

    Some investigation into 2008 would show the collapse of the US housing market and the effects that flowed out from there were due to excess lending into the US housing market, a debt inflated housing bubble. This time, complex financial instruments were used to leverage up the losses and transmit them around the world to make it even worse.

    1. Sound of the Suburbs

      Actually Irving Fisher did look at the debt inflated asset bubble after the 1929 crash when ideas that markets reached stable equilibriums were beyond a joke.

      Fisher developed a theory of economic crises called debt-deflation, which attributed the crises to the bursting of a credit bubble.

      Hyman Minsky came up with “financial instability hypothesis” in 1974 and Steve Keen carries on with this work today.

      Of course it as totally at odds with stable equilibriums and has to be ignored by neoclassical economics.

      “Minsky Moments”

      1929 – US (margin lending into US stocks)
      1989 – Japan, UK (real estate)
      1999 – US (margin lending into US stocks)
      2008 – US (real estate bubble leveraged up with derivatives for global contagion)
      2010 – Ireland (real estate)
      2012 – Spain (real estate)
      Coming soon – Australia, Canada (real estate)

      China is saturated in debt too, perhaps that will implode and many commentators seem to think so.

      Let’s put our neoclassical, rose tinted spectacles on:
      “I see no bubbles, everything is just fine”

      I can really, but I can’t admit it as it destroys the economic theories I have spent years studying – Helicopter Ben.

      I mentioned “irrational exuberance” once but I think I got away with it – Big Al

      There is no room for irrational exuberance in neoclassical economics.

      A good economist sticks to his belief set and ignores real world events.

    2. Yves Smith Post author

      Some corrections:

      1. Private sector debt is dangerous.

      2. Re “Keynesian,” I spent the better part of a long chapter dealing with this. What you are talking about is American Keynesianism. Keynes repudiated Keynesianism. John Hicks, the Brit who did the maths that Paul Samuelson embraced and promoted, renounced his work in his old age.

      Keynesianism is just a branch of neoclassical economics. Samuelson himself did his dissertation on neoclassical economics and couldn’t wrap his head around Keynes. Keynes saw economies as inherently unstable. Both neoclassical economists and Keynesian depict economics as having an inherent propensity for stability with the equilibrium at full employment! Talk about Dr. Pangloss! They did that because admitting that economies are unstable would not allow them to use the sort of math they liked (the foundation of their pretenses to economics being a science) and would not be able to make much in the way of policy prognostications.

      Even so, some Keynesians (Walter Heller) in the 1960s, along with Milton Friedman, said the economy was in danger of overheating and recommended raising taxes. But Johnson did not want to increase taxes in the midst of an unpopular war, and the Keynesians affiliated with the Administration were silent or backed him.

      Then when inflation kicked in, Samuelson and Solow basically made up the Phillps curve (which had a very weak theoretical foundation) to reassure people that once the US had a proper recession, the inflation would go away. We got stagflation instead and that was what discredited the Keynesians.

      1. sunny129

        No country in human history has prospered by spending debt on debt but CBers think otherwise.

        So Private debt is ‘dangerous’ but since 2009, ‘private debt’ has been transferred to public side, in various manners along with with CBers buying the MBSs from Global Banks, Corporate bonds and what not!

        Some one will be wrong down the road, big time!

        Will it be history or the CBers!

      2. Sound of the Suburbs

        Keynes seems to have put a few fixes in to get neoclassical economics to work a bit better.

        Getting back to the classical economists we find the truth (though not on debt that comes later and they had the gold standard in those days to ensure the bankers didn’t go crazy with their product).

        The whole globalisation project has been rolled out with a floored ideology that is now causing a fight against the status quo that is so biased towards the wealthy.

        Most of the problems are pretty much the same everywhere.

        Even Warren Buffett sees it as a class war “There’s class warfare, all right, but it’s my class, the rich class, that’s making war, and we’re winning.”

        The once liberal Scandinavians have taken to burning down refugee centres and in Greece, where the problems are really bad, we have Golden Dawn.

        Politics is swinging away from Neo-liberal status quo pretty much everywhere with Trump and Sanders in the US and the far left and right in Europe.

        As far as I can see “trickledown” was just made up to justify low taxes on the wealthy.

        Capitalism trickles up with the following mechanism:

        1) Those with excess capital collect rent and interest.
        2) Those with insufficient capital pay rent and interest.

        This has been known since Adam Smith in the 18th Century:

        “The Labour and time of the poor is in civilised countries sacrificed to the maintaining of the rich in ease and luxury. The Landlord is maintained in idleness and luxury by the labour of his tenants. The moneyed man is supported by his extractions from the industrious merchant and the needy who are obliged to support him in ease by a return for the use of his money. But every savage has the full fruits of his own labours; there are no landlords, no usurers and no tax gatherers.”

        Capitalsim is actually the same as every other social system since the dawn of civilisation and designed to look after an upper, Leisure Class, that do very little.

        It did happen to provide a very efficient allocation of Capital that even Marx was impressed with.

        Trying to pretend Capitalism is not what it actually is has led to this rise in inequality.

        The Classical Economists of the 18th and 19th Centuries had a solution you tax “unearned” income to provide low cost housing and services, to make your nation competitive internationally.

        Let’s get back to the future.

        1. Yves Smith Post author

          No, Keynes and Knight believed in what is called Knightian uncertainty, or what Donald Rumsfeld called “unknown unknowns”. They were both opposed to the mathematization of economics (as in using proofs in theoretical pieces) and Keynes was no slouch as a mathematician. Neoclassical economics is all about this exercise, and it rests fundamentally on their being no uncertainty. The proof that is considered to be the pinnacle of modern economics, the Arrow-Debreu theorem, requires that everyone have perfect knowledge of everything that will ever happen, and that markets are “complete,” meaning every possible instrument exists (ie, your doctor can buy a hedge for the possibility that you will cancel your appointment three weeks from now). If you have those things, then markets can clear.

          Keynes’ General Theorem had it been embraced in its true form, was a wrecking ball to classical economics, but it was instead bastardized and made to fit within the neoclassical paradigm.

          Please refreain from opining on schools of economics when you haven’t done sufficient homework.

          1. fds

            Keynes was definitely a ruling class fellow. The severity of the depression broke the cognitive dissonance, and Keynes’ idea of lack of equilibrium was allowed to be heard in circles that make policy. He was the guy that made the use of inflation as a wage decreasing tool.

  10. Synoia

    One can theorize as much as one wants, the conclusion is the ruling call wants it this way.

    If one considers both diminishing resources, and US desire for US global rent extraction, then the policy is entirely logical.

    With global rent extraction who needs the population?

  11. Jabawocky

    I just think that without mentioning that money is created by taking on new debt this article is missing the point. If we are to grow the economy we need to grow the money base or money velocity. If we grow the money base this is either by private debt or public debt. Thus debt is not some frivolity we can live without. Considering debt:GDP ratios is completely missing the point, surely it is private:public debt ratio?

    1. Adam Eran

      I can’t agree more. In modern economies, we use debt-based money. Debt *is* the money. Most of us are familiar with this if we have a bank account. The bank account is our asset, but the bank’s debt. We assign the debt to the payee on our checks. The debt *is* the money!

      The national liability (AKA “debt”) for the U.S. includes the dollar financial assets of the population. That’s right, dollars are a liability on the Fed’s books. Reduce the “debt” and you reduce the dollars in circulation. Creditors demands remain the same, however, so it crushes debtors.

      ..and history bears this out. See Randall Wray’s writing for more.

      Of course “debt” for sovereign, fiat currency creators (as opposed to currency users) is fundamentally different than household debt.

      1. MyWag

        Agreed.
        And from a .01% point of view, what could be better than a ‘debt addled’ country. With the world awash in investment $Dollars, now is the time for some real infrastructure work in the US …. with a twist.
        The investors would ‘relieve’ the US of the burden of debt and buy/finance projects to Make America Great Again.
        We’ll be paying those rents for centuries.

  12. JEHR

    I think that any growth in the economy is dependent on using natural resources. If that is true, then the economy itself is unsustainable: with the world population growing and with the poorer nations becoming more developed and using ever more resources to maintain higher standards of living, then humankind has begun the spiral that will lead to its extinction.

    1. animalogic

      This is true only to the extent that a resource is finite. Example: electricity generated by wind, sun, waves etc. Yes, there are “costs” in finite resources that need to be sunk (ie a wind turbine, say) but after that production is largely maintenance. Not an infinite resource but one with considerable elasticity.

  13. ewmayer

    Public debt in Japan soared to well over 200 per cent of GDP over two and a half decades of deflation.

    And how’s that working out for them? Managed to stoke robust wage inflation yet?

    My point being that *where* deficit spending goes is hugely important – largesse aimed at the rent extraction cartels or overseas blow-shit-up-in-the-name-of-democracy-and-freedom adventures invariably leave the underlying productive economy worse off than “no deficits, but no inane misspending, either.” Alas, WW2-style military spending, which supported the war effort but also “lifted all boats” as far as forcing a crash modernization and of the entire U.S. industrial sector, no longer generalizes to the hyper-specialized MIC of today, which like the modern FIRE sector, is almost 100% extractive, rather than any kind of broad aider of economic production.

    1. Jim Haygood

      Let’s add that the conclusion to Japan’s 230 percent debt-to-GDP ratio hasn’t been written yet. But it is not likely to be a happy ending.

      Reinhart and Rogoff showed in This Time is Different that debt-to-GDP DOES matter. Confirming what common sense tells us, highly indebted states are more likely to default than less indebted states. Despite highly publicized data errors in their work, their conclusion that debt-to-GDP matters stands.

      The claim that “government debt doesn’t matter” is a paraphilia associated with the more deviant forms of state worship. It’s financial Dadaism.

  14. craazyman

    They Would Never Write Somethig Like This in a Textbook

    I guess the moral of the story is: if you owe somebody money, make sure it’s yourself.

    But wait a minute. What if you say to yourself “Self (not that you’d say that, exactly, but this is creative writing so anything goes), over the next 12 months, I want you to lose 25 pounds, work out like an NFL traiining camp rookie and run the New Yoark Sitie Marathon. OK? Or al least work out like an athelete and lose your belly fat.”

    Then the self says “OK, sounds good.”

    That’s a debt. Then a year later, all the Self has done is laid around like a slug, drank wine and beer, gained 15 pounds, can’t run half a mile without resting, and basically is a flabby fukker.

    That’s bankruptcy. See, even when you owe money to yourself, sometimes you can’t pay. nevertheless, the Self says to itself “I’m a loser. I’m depressed, anxious and fat.” Then it goes to see a psychiatrist – because it defaulted on its debt to you, it’s higher self.

    Where does it get the money? Why can’t it spend the money on running shoes? How much cheaper would that be than a psychiatrist? Why can’t it even go to the health club? Is this efficiency?

    NO! Of course not — from the standpoint of the higher self. But it is efficiency from the standpoint of the lower self. Or the lazier self.

    This is a metaphor for money and debt. You think owing money to yourself is easy. It’s easier than owing it to somebody else — maybe. Either way. it’s not entirely easy. Somebody has to run your life. Who is that going to be and why? That’s where debt begins. All the things that run through the mind, the flood of ideas dreams obstructions ideations motivations blockages depravations insinuations pretentions bloviations, run like a flood tide, running like a river swollen underneath the rain. That’s money. Where does is go? And where does it stop? it goes where the river goes, where the core of engineers directed through their constructions until the flood crashes every levy and every dam and then it goes wherever. and everyone and everything is carried with it to the ocean and eventually back up to the sky where every thing starts all over again.

    1. Adam Eran

      Sorry, you’re writing a tribute to the fallacy of composition. If self-owed debt is like national debt, it makes perfect sense, but those two things are *fundamentally* different.

      Perhaps a more comparable “debt” to self would be a promise to replace some IOUs with some more IOUs.

      Money is not a commodity; it’s more like the score at the ball game.

      Remember that shaggy dog story about a man who gives $100 bill to the clerk to check into a hotel, and the clerk pays his bar tab with the money, the bartender pays the working girl his tab, the working girl pays her hotel bill. The man who checked in returns to say he’s dissatisfied with the room, and the clerk hands him back his $100 bill. Everyone who was in debt is now not in debt, even though no one has any more money than at the beginning of the story.

      As for that association with a commitment to lose weight: the connection of money and shame, fear, and religion is very old and deep. See David Graeber’s Debt: The First 5,000 Years for a nice, comprehensive account.

      It was no accident there were money changers in the temple during Jesus’ time. (…and no, it wasn’t because God only takes exact change.)

  15. Charles 2

    Another paper by an apostle of growth. Why does even this article made it to the blog ? These are the same arguments that have been regurgitated for decades, I feel like having to kill an intellectual zombie for the nth time.
    To make it quick :
    Just after WWII, there was a big debt restructuring event consisting of
    A) default with practically zero recovery for loosers of the war
    B) double digit inflation due to release of repressed inflation caused by war rationing for winners of the war;
    And, demographic conditions were much more conducive to growth than today.

    The paper says : ” Clearly, debt is sustainable if government expenditure enhances both growth and productivity.”
    After 3 decades of increasing government debt and stagnating Total Factor Productivity, it should be equally clear that government expenditure didn’t increase productivity. That should be obvious once one realises that the government expenditures were mainly paying for wars and caring for the old and unemployed, which are not investment expenses.

    So there is a good reason to worry about debt sustainability : the people in charge of allocating the expenditures are NOT doing a good job, and even if they were, there would probably be no way of fulfilling the grossly inflated income expectation implicit in the government debt sustainability.
    Of course, you will not hear that from someone who is precisely part of the “public expenditure allocation class”…

  16. Procopius

    I didn’t read all the comments, so maybe somebody answered this, but I wonder about the assertion, “Since 2014, even the IMF has changed its stance.” Certainly the research division, when it was still headed by Olivier Blanchard, changed its stance on the proper size of the multipliers it used, but what evidence is there that the executive, operational side of the IMF changed in any way? They certainly seem to still be using the same reasoning in Greece that they used in Thailand in 1997, with the same results.

  17. sunny129

    No country in human history has prospered by spending debt on debt but CBers think otherwise.

    The rate of growth of DEBT is TWICE the rate of GDP for the past 10-15 yrs!

    Some one will be wrong down the road, big time!

    Will it be history or the CBers!

  18. KPL

    “Rather, it is rooted in the currency union that limits its members’ policy space with regard to money creation and exchange rate policy. ”

    This is one side of the coin. The other side is everyone is trying to do the same thing. Thus even if you have your currency, beggar-thy-neighbour will get in the way of taking advantage of it.

    The real problem is a static pie. Everyone wants a piece of a static pie. Growing the pie is the key. After 2008 this was done by pulling forward the demand which only works till the future does not become present. Demand is the problem and it can only be solved by destruction (hence war helps). Without some asset destruction (writedowns will also do!) there is no way forward. Till then you will have to manage with secular stagnation…

  19. RBHoughton

    Is it really a debt problem? Might it not be viewed from the other side of the ledger as a savings glut? The way out was revealed by FDR and we only need to emulate his New Deal to get back on the right road.

    I heard there is a vast solar plant at a place called Bend which was financed by Government – that’s the spirit. We need more of that.

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