Government Debt: Cure or Curse?

The U.S. Treasury announced on its website that, at year end, the national debt topped $14 trillion for the first time. This was an increase from $13 trillion on June 1, 2010, and $12 trillion at year end 2009. When the recession officially began in December 2007, U.S. debt to Gross Domestic Product was about 40 percent, according to the National Bureau of Economic Research. In December 2010, after a severe recession and decline of tax revenue, a massive fiscal stimulus package, and various other spending initiatives, debt to GDP is estimated at about 62 percent.

Measuring a country’s debt differs from measuring its deficit spending. The deficit is the annual shortfall of revenues to spending, and is currently running at a rate of about 9 percent of GDP annually, or roughly $100 billion more per month than the government takes in. A country’s debt, of course, represents the cumulative effect of this deficit spending. At the current rate, and assuming nothing is done to control expenditures or increase revenues, government debt is expected to be about 87 percent of GDP by 2020. If state and local government debt is included, the rate would easily exceed 100 percent of GDP. Municipal debt has also exploded in recent years, as many states tried to cover their revenue shortfalls by tapping the debt market.

In theory, a country’s spending is a manifestation of its goals and priorities, both short and long term. Incurring debt for such activities as meeting foreign aggression and national defense, infrastructure building, helping to recover from recession, and protecting the helpless from dire poverty has been accepted and considered beneficial for the common good. The judicious use of private debt has also been a significant contributor to America’s unique record of growth and job and wealth creation. The development of the amortized mortgage in the first half of the 20th century, for example, went a long way toward enabling Americans to own their own homes. Federal-guaranteed loans financed by credit have put college education within reach of many. Over time, credit availability has been a central pillar of our growth and rising standard of living.

As is generally recognized today, it is the abuse of debt and failure of regulatory authorities that caused the collapse of the housing market and left our economy struggling to get out from underneath a record number of foreclosures. Giving mortgages to everyone regardless of their ability to pay is counterproductive at best. Similarly, the level of student loan debt and defaults are both at record levels. An analysis of student loan programs concludes that the vast expansion of loans without restraint or discipline mainly increased tuition and related expenses and drove young people deep into debt. Other examples of exploding debt use both by government and individuals abound. Over the years, all restraints imposed on the financial system to regulate the use of credit were dismantled, and moderation went out with them.

It is the explosive growth of the country’s accumulated debt (and future projections) that is at the heart of the current resistance in Congress to an increase in the allowed debt ceiling. Despite the heated rhetoric that always accompanies the issue, the debt ceiling will ultimately be raised. The controversial issue of government spending, however, will intensify.

There is a widespread dissatisfaction with the government’s spending priorities. The $3.9 trillion borrowed and spent between the start of the recession until 2010 greatly expanded the size and reach of the bureaucracy but failed to accomplish the goals for which it was intended. Moreover, unlike previous eras, the deficit won’t evaporate as the economy recovers. Even as recession-related spending recedes, the cost of automatic increases in entitlements will accelerate. For example, the Congressional Budget Office estimates that, by 2019, an estimated 19 million additional people will be eligible for federal aid to buy health insurance under the new health-care legislation.

There are no accurate estimates of the cost of entitlements to future generations, because they rely on actuarial estimates and numerous other factors. Some studies have placed the unfunded entitlements at $100 trillion. Rising interest costs, too, will add to the debt. The interest tab to the government fell to $197 billion in 2010. The Congressional Budget Office predicts a jump in interest costs to $778 billion by 2020. The working population of the country is expanding very slowly, while the financial burden is rising sharply. And the vast expansion of credits and deductions in recent years has resulted in an estimated 45 percent of American households who do not pay any federal income tax.

Excessive debt is an insidious reality. Its deleterious effects are exposed to public view by the financial collapse of several euro countries. The United States is not in that situation, but the level of debt and continuing heavy deficit spending threaten the financial security of the American people. The negative effects on our economic culture are also evident. Unemployment benefits have made it easy for some to avoid taking a job, causing not only a dependence on the government but an erosion of trust in government programs. Many people, aware of the excessive government spending, anticipate that the government will revert to inflation to pay its debts. Resorting to inflation as a debt-reduction scheme would destroy the savings and capital of all hard-working people, especially the elderly.

In short, there is no longer a place to hide. Efforts to tame the government’s excessive spending and unfunded programs must soon face the daunting reality that the promises made to future generations are insupportable. Significant cuts in entitlement benefits, as well as sharp cutbacks in general government spending, are necessary to cure the government’s profligacy. The American people will accept the medicine for the sake of their children and generations to come. Thus far, the political will is lacking.