NY Times Inconsistency

When talking about government debt, commentators often make a distinction between total government debt and net debt held by the public. Total government debt includes monies owed to other government organizations of the same country. For example, the Social Security trust fund owns billions in treasury notes. These billions are included when discussing total debt. But many commentators think that when talking about the size and sustainability of debt, it is more useful to net out such debt. It is the amount of debt the government owes to the public that matters, they say.

Ok, boring, I know. But here is why it matters:

Yesterday the New York Times ran a piece on Social Security that included the following statement:

By 2016, Social Security will begin paying more in benefits than it collects in payroll taxes, according to the annual report of government trustees; reserves in the form of government i.o.u.’s will be exhausted by 2037, after which incoming taxes will cover three-quarters of benefits.

The problem with this statement is that it makes it seem like there is some sort of massive trust fund that will help us straggle along to 2037. And as far as I can tell, a problem that is not a problem until 2037 is not really a problem at all, at least in Washington.

However, the majority of commentary about America's debt does not count money owed to social security as real debt. The thinking is that since the government owes itself the money, it doesn't count. Using this logic, America's total debt of over 100% of GDP is made to look like the much more manageable sub 70% of GDP often cited in the press. I don't have a strong opinion on the right way to classify debt owed to social security and other government agencies. But I do know that you cannot have it both ways. If you think social security has enough money to get us to 2037, then America's government debt is a Greek-like 100% of GDP. If, on the other hand, you think the debt is closer to 70% of GDP, then social security will most likely be broke within 6 years. The NY Times and other media outlets should address this inconsistency in their reporting so that readers can better understand America's budget problems.

The Debt Debate

A debate is raging about government debt. On one side, economists like Paul Krugman argue that large deficits and debt levels above 100% of GDP are nothing to be too alarmed about. This camp cites historical examples of nations successfully clawing themselves back from massive national debt burdens by combinations of tax increases and spending reductions. Of course, for every example of success, an example of failure can also be found. A new book entitled 'This Time is Different,' by Reinhart and Rogoff, chronicles the surprisingly long historical record of debt defaults and introduces its chapter on Sovereign Default on External Debt with the following note:

Policy makers should not have been overly cheered by the absence of major external sovereign defaults from 2003 to 2009 after the wave of defaults in the preceding two decades. Serial default remains the norm, with international waves of defaults typically separated by many years, if not decades.

Reinhart and Rogoff also point out that defaults frequently occur at ratios of external debt to GDP much lower than 100% - indeed, developing countries typically default long before debt reaches 70% of GDP.

What emerges from this debate is that the focus on debt to GDP ratios as a measure of a country's likelihood to repay is misguided because the record is very mixed. A variety of other factors need to be considered: The household savings rate, ease of cutting government spending, demographics, ability to inflate, liabilities not counted in national debt figures (ie. Fannie Mae and social security), state debts, and municipal debts seem like good places to start.

Readers should therefore find little comfort when they encounter claims that if Japan, the United Kingdom and Belgium have historically been able to handle massive debt burdens, so can Greece or the United States. Likewise, they should not conclude a massive default wave is approaching just because current debt ratios exceed those of countries just before they defaulted. Each country is unique and the focus on debt to GDP ratios is woefully narrow-minded.

Consider the United States, for instance: Our debt hole is really much bigger than the 60% debt to GDP ratio often cited. Medicare, social security, municipal pension obligations, and low household savings rates all make the true debt burden much heavier. On the other hand, we have been able to print over a trillion new dollars without causing significant inflation (so far), a long record of political and financial stability, a history of entrepreneurship, and the strongest military on Earth. The question of how much debt a country can handle is extremely complex. Economists and policy makers need to conduct a much fuller analysis as soon as possible so that we can develop a wiser fiscal policy.