Should We Worry About the National Debt?

I understand debt. My wife and I have owned two houses, and we took on debt much greater than what we earned in a year. That was scary: the mortgage for our first house in the 1980s was so much bigger than any amount of money I had ever thought about. The payments pushed our budget to the brink. Our children remember lots of pasta dinners just before our monthly salary checks arrived, beginning another brief cycle of boom and bust.

I didn’t think about it then, but our little house in Maine made us speculators in the global real estate and financial markets. Fortunately things all worked out perfectly. We got small raises every year, a bit over the rate of inflation. By the time we paid off the house in 2006, 20 years after we bought it, the portion of our salary that we spent on the mortgage was only about half as large as it had been at the beginning. At the same time, the average value of houses in the US had tripled.

Our gamble with debt had paid off handsomely, but it was just good timing. The years from 1966 to 1993 were unique in the 20^th century: only one year in that period had less than 3% inflation. Inflation is good for debtors, because it reduces the value of what they owe. If you took out a 30-year mortgage in 1966, the value of your debt had dropped 80% by the time of your last payment.

Unlucky timing led to the opposite results for people who bought property in 2007. The bubble in home values burst, and many mortgages went under water: at the end of 2012 over 28% of homeowners owed more than their property was worth. Unemployment jumped, so lots of people lost jobs and couldn’t make their payments.

The same amount of debt had very different meanings, depending on the state of the national, even global economy. The national debate about deficits and debt is driven as much by different meanings and assumptions placed on these numbers as by the numbers themselves.

Our national debt is a very large number, which according to the debt clock as I am writing is $16,444,380,503,861.39. At the moment you are reading this, it is much higher, because it increases more than a billion a day; you can check it out at http://www.brillig.com/debt_clock/. What does a $16 trillion debt mean?

The total debt that American consumers have signed up for was about $11.3 trillion at end of 2012. About three-quarters of that comes from mortgages, with the rest on credit cards, from student loans, or as home equity loans. So the debt created by the federal government is not much larger than that voluntarily assumed by consumers.

Another way to grasp the meaning of the national debt is to compare it to the size of our economy. The ratio of debt to gross domestic product allows us to see how the national debt has changed its shape over time. Taking a long view, it is clear that debt goes up during wars and recessions, then comes down again when the economy recovers and military spending drops. The debt to GDP ratio reached a peak at the end of World War II, then began a long decline until 1980, even though the size of the debt tripled. Since 1980, the ratio climbed during the Reagan presidency, fell under Clinton, remained stable in George Bush’s first term, and then jumped during his second term and Obama’s first, due to the combined effects of wars and recession.

Our national debt is now high in relation to the size of our economy. As the economy gradually recovers, tax revenues rise from the recent tax increase, and the troops come home, we can expect the ratio to fall again. But liberals and conservatives see these numbers very differently, because they see the whole economy differently. Republican voters are hearing mainly bad news about the US economy, while Democrats overwhelmingly hear good news. So Republicans worry that the deficits will continue to grow unless something drastic is done about spending, while Democrats believe the recovery will mean lower deficits without drastic spending cuts.

Who’s right? It all depends on what meaning is attached to debt. But here’s one more way to look at debt. Giant businesses routinely go deep into debt. The debt load of many major corporations is many times their shareholders’ equity. Nobody seems to worry if a major corporation owes 3, 4, or even 5 times as much as their total shareholders’ equity. If the company grows, the debt will shrink, even if it never goes away. Maybe that’s the way to think about the national debt – it’s an investment in our future prosperity.

Steve Hochstadt

Jacksonville IL

Published in the Jacksonville Journal-Courier, January 22, 2013