The cover of Time magazine's next issue claims that every American owes $42,998.12 as his or her share of the national debt.
New TIME cover addresses the national debt. pic.twitter.com/Ty4wyCBbdV
— Joe Perticone (@JoePerticone) April 14, 2016
The article also states that current levels of U.S. debt are "unmanageable" and that investors and the public should not place their confidence in the government's ability to pay its debts.
"We can't easily pay what we owe. We spend too much and borrow too much. Worse, we promise too much," writes the author, James Grant, a well-known financial commentator. "I won’t insist that this can’t go on, because it has. I only say that it will eventually stop."
Grant is the editor of a publication called Grant's Interest Rate Observer and a veteran financial doomsayer. He often appears on television, wearing a bow tie and issuing dire forecasts, and he's an indefatigable advocate of the gold standard — an international monetary system that, as he readily concedes, economists have almost universally rejected for half a century.
Time's provocative cover raised a ruckus among people who follow the federal budget, with Nobel laureate Paul Krugman, among others, pointing out, with great indignation, flaws in Grant's argument. Time, Grant wrote by email on Friday afternoon, "must be beginning to wonder what it got itself into."
Grant's argument relies on a number of assumptions, as well as value judgments. It is certainly true that the federal finances need improvement. Over the long term, if lawmakers don't act, the nonpartisan Congressional Budget Office has warned the burden of debt will become unsustainable. This scenario, however, isn't inevitable or arguably even the pressing crisis Grant suggests. Lawmakers could correct the imbalance between spending and taxation over the long term through reduced spending, increased taxes, or a combination of both.
Given the current political climate, congressional action on the deficit can seem unimaginable, but politics can change, and policymakers have time to address the problem. In the meantime, although some lawmakers might feel that paying down the debt is an important priority, that is a political judgement, not an obvious economic conclusion. Some might view other priorities as more pressing.
Lawmakers on the right, for example, might say the priority should be keeping taxes low. On the left, others might argue for investing in public projects, such as education, infrastructure and research and development. All of these policies arguably could improve the economy over the long term, ensuring that future generations of Americans have more money than we do today and making it easier for them to repay their government's debt.
Grant talks about the national debt as if it were a question of dollars and cents, tough accounting and mathematical realities. In fact, it's a question to which the numbers alone don't give a clear or definite answer. As a problem of economic policy, the debt is like any other: Elected officials can disagree about what to do about it, and when to act.
Speaking of numbers, there are a few statements in Grant's article worth scrutinizing more closely.
1. You alone don't owe $42,998.12
Grant's approach in the story is to argue that each American household and family owes a share of the national debt — that's the claim on the magazine's cover.
"The federal debt will fall due someday. It will have to be repaid or refinanced," Grant writes. "If repaid, where would the money come from? It would come from you, naturally. … Just visit the Treasury website, which posts the debt to the penny, then the Census Bureau’s website, which reports the up-to-the-minute size of the population. Divide the latter by the former and you have the scary truth: $42,998.12 for every man, woman and child."
The national debt currently stands at $14 trillion — 74 percent of the overall size of the economy. The most debt the country has ever assumed was in 1946, when the money borrowed to finance World War II reached 106 percent of the economy.
While the current figure is below that one, it is well above the average of the past few decades of 38 percent. The debt increased sharply during the financial crisis as the government borrowed heavily to stabilize the economy. Other major contributors to the higher debt include big tax cuts during George W. Bush's term and spending on the wars in Iraq and Afghanistan.
To be sure, $42,998.12 would be a lot of money if you and every member of your family owed that much — but you aren't the government, and that's not money that you personally owe. It's money the government owes, and there are several crucial differences.
Economists generally view debt as manageable if you'll have enough money in the future to pay it off. For example, you might take out a loan to go to college or to buy a car or a house. You'll pay back those debts with what you earn in the future. Eventually, you'll want to retire, and you'll want to have paid off much of what you owe before then, when your income will likely decline.
As for households, debt can be a burden for governments as well when their future incomes (in the form of taxes) aren't enough to pay it off. See the debt crises that have caused huge problems in countries such as Greece. As long as future incomes are sufficient, however, there's no obvious reason governments would have to completely pay off their debts. They never retire, so to speak, unlike you.
The United States certainly seems to be a candidate for a country that can borrow indefinitely. It has the world's largest economy, with a well-educated labor force, extensive manufacturing capacity and infrastructure and prodigious natural resources. The government can draw on this abundant wealth through taxation in order to repay its debts.
A better way to think about that $42,998.12 is that it is the amount that you, together with all of your American progeny for as long as the United States remains a nation, must pay. Yes, that debt is real -- but your portion of it is smaller than might first appear.
— Justin Wolfers (@JustinWolfers) April 14, 2016
In written responses to questions from The Washington Post, Grant dismissed the argument that posterity can help pay down the debt. "We are posterity. We don’t pay," he wrote. "As we quite sure that our children and their children will pay?"
2. The Federal Reserve, while powerful, does not ultimately control interest rates
If the national debt is as disastrous as Grant claims, then why hasn't the United States already suffered some kind of catastrophe as a result? Grant's answer is that the Federal Reserve, the U.S. central bank, is maintaining interest rates close to zero, allowing the government to borrow money cheaply and concealing the true cost from investors and the public. Eventually, he suggests, investors who have loaned money to the government will find their investments losing value because of inflation.
"The Federal Reserve is the government’s Monopoly-money machine," Grant writes. "You’d suppose the doubling of the debt would jack up the cost of servicing the debt. Nothing of the kind." He calls the Federal Reserve's purchases of government debt "public sedation."
The Treasury Department issues debt to investors to pay the government's expenses. By a completely separate and uncoordinated process, the Federal Reserve buys and sells government debt from Wall Street to adjust interest rates in the market and to shape economic activity.
In practice, however, the Federal Reserve cannot unilaterally control interest rates over the long term, as the body's former chairman Ben S. Bernanke has written. Interest rates are ultimately determined by economic conditions. They're naturally more expensive when the economy is good and cheaper when it is weak.
If the central bank kept interest rates artificially cheap in a good economy, firms and households would then borrow more money, too. As these private actors began using the money they'd borrowed, they would have to compete for goods and services, bidding up prices. Inflation would result.
In his responses to The Post, Grant was even more forceful, declaring the rest of the global investing community to be myopic and misguided.
"You ask if the world’s confidence in our Treasury obligations is misplaced. The market says no — after all, investors willingly buy them. I say yes," he wrote. Noting that rates on the debt of some foreign governments are even cheaper than on U.S. debt, he added, "Foreign bond buyers are even dafter than the American ones."
Another perspective is that in a period of global economic instability, the United States remains a good place to do business. People around the world want to invest in American companies and buy American products. For that, they need U.S. dollars, and they'll likely buy them up if the dollar shows any sign of losing value.
And inflation has remained subdued for decades now, even though the government continues to borrow. Recently, investors' forecasts for inflation have only decreased, while the dollar has become yet more expensive relative to other currencies.
3. Yes, Virginia, there is a Social Security trust fund
With every paycheck, workers pay taxes into Social Security's trust fund -- money that they will eventually be paid back when they retire. The fund currently contains about $2.8 trillion.
Grant, however, objects to what Social Security's trustees do with all that money. They lend it to the federal government, which uses the money to fund its daily expenditures. The government then pays participants in Social Security interest on the money. (This money -- which the government effectively owes to itself -- often isn't included in calculations involving the national debt, such as Grant's figure of $42,998.12 per person.)
To be sure, if the government were unable to pay back what it borrowed, this arrangement could leave workers holding the bag. Grant even goes so far as to claim that the trust fund is illusory.
"There is no trust fund because there is no division of assets, no accounts containing funds earmarked for you, the citizen, who so faithfully 'contributed' your payroll taxes," he writes.
For now, of course, the government is still making good on those debts to Social Security and the retirees who participate in it, along with other investors. The checks that beneficiaries receive every month are funded in part from taxes paid by current workers, and in part from the Treasury notes in the trust fund.
That seems likely to remain the case at least until 2034, when analysts project that the money in the trust fund will have been paid out and the point will be moot.
In his note, Grant conceded that given the alternatives -- buying up trillions of dollars' worth of risky real estate, say, or stock in private companies and placing it under government ownership -- investing the money in the trust fund in notes from the Treasury is the best approach.