Since the financial crisis of 2008, the national debts of many nations throughout the world have skyrocketed. Even though the crisis started in the private sector, the balance sheets of national governments quickly turned negative because of reduced tax revenues and a tendency for governments to “bail out” troubled private sector institutions (mainly banks) that were deemed “too big to fail.” Of all the countries in the world, the one that has received the most scrutiny for a rapid increase in its national debt has been Greece. Most Americans are at least somewhat aware that Greece itself has been “bailed out” by the European Union several times since 2010 because it faced insolvency – a situation where it literally could not service its debt or even pay its operating expenses. These bailouts have come with a lot of tight strings attached that have caused the unemployment rate to rise to 27% and nearly half of all Greek households to fall into poverty. Other countries that have had serious national debt/solvency issues include Ireland, Spain and Portugal.
In the United States, both the Bush and the Obama administrations took actions to fight the crisis in 2008 and 2009. These actions resulted in large increases in America’s national debt also. In early 2008, the Bush administration succeeded in getting tax rebates to households and then a few months later agreed with Congress on the Troubled Asset Relief Program (TARP). Together, these initiatives added nearly $1 trillion to the national debt. Soon after he took office, President Obama signed the stimulus package (American Recovery and Reinvestment Act) that was nearly $800 billion added to the debt on top of that.
These actions, which were necessary to prevent the American economy from falling from recession into depression, came under criticism from certain elements in the American political economy. Moreover, annual budget deficits since 2010 have pushed the national debt up to $18 trillion. The critics argued that the influx of all these moneys into the economy would cause hyperinflation and that the resulting national debt would create an insolvency problem in the United States like the one in Greece.
These critics have been wrong on both accounts. First, the inflation rate since 2008 has been the lowest for any seven year period in the post-World War II era. Obviously, the critics who warned of inflation could not possibly have been more wrong about the results. Second, the comparisons with Greece about debt and insolvency are completely inappropriate because Greece is a member of a monetary union and does not issue its own currency. Greece’s debt is denominated in a currency over which it has no control (the Euro). US debt on the other hand is denominated in a currency that only it can issue (the dollar). The difference between these two positions cannot be overstated. What is ironic is that many of the critics who have been sounding the alarm about the US national debt also prescribe “solutions” which would tie the hands of federal policy makers, and lead to a situation where the US indeed could face the problems Greece does. These two “solutions” are: a balanced budget amendment to the Constitution and a return to the gold standard.
Related to the balanced budget amendment is the “debt ceiling.” Another constraint on what the federal government can do to help when the economy slows down, the debt ceiling was once seen as a relatively harmless rule. But in recent years, the Congress of the United States has come very close to allowing this ad hoc rule to push the American economy to the edge of a default crisis. In other words, the United States nearly defaulted on its debt, not because it could not service it, but because the Congress for a time threatened to refuse to service it. Every dollar the US government owes has been a result of spending and tax laws that the Congress itself has approved. The results of the spending and tax laws have led to an increase in the national debt. Simply choosing a number and arguing that we cannot surpass that even when the legislation for taxation and spending rates has been approved serves no useful economic function. This is because the US government can easily create the money to service the debt it owes. The same holds true for why there is no need for a balanced budget amendment at the federal level. Note that this is not the same for the states, because states do not issue their own currency. Like Greece, they must somehow get their money from taxpayers (or get bailed out by the central government) to make ends meet.
The gold standard is another inappropriate suggestion that we currently hear about today. Essentially, the gold standard robs the federal government of its ability to create money when needed to face a potential crisis. To that extent, it is essentially the equivalent of joining a monetary union like the Eurozone. The Bush tax rebates, the TARP, the stimulus program – none of these could have been adopted without the monetary authority in the US (the Federal Reserve) having the flexibility to finance them by printing money “out of thin air.” And it is because of this flexible monetary policy that the current recovery from the “Great Recession” of 2007-2009 is now in its seventh year. Saying that the United States government might run out of dollars to pay its debt is a bit like saying the scorekeeper at a basketball game might run out of points to award the teams if they keep making more baskets.
And the $18 trillion national debt? There is no need to “pay it off.” The government services the debt by paying bond holders interest. Bond holders can sell their bonds to investors, roll them over, or even sell them back to the government, which can always issue the money to pay for them. Won’t that cause inflation? Not when the economy is operating well below capacity – see paragraph 4 above. So no, the US government cannot face insolvency – unless it chooses to place upon itself counter-productive constraints that serve no useful economic purpose, or like Greece, joins a monetary union that essentially has the same effect.
(Submitted by Thomas W. Blaine, PhD, Associate Professor, Ohio State University Extension)