Why there is no “Debt Crisis” in America

By Michael Califra

We need to stop the spending! The country is broke! We’re passing on a crushing burden of debt to our children!

How many times have you heard those words over the last few years? How many times have you recited them yourself? They do sound logical. After all, the country has a trillion-dollar deficit and a 14 trillion-dollar national debt. So the need to slash government expenditures is just a simple fact of life, right?

Wrong.

The problem is that most people think of government finances in terms of households or companies. When households or companies pile on too much debt they have to tighten their belts; another phrase we’ve been hearing a lot lately. But government finances are nothing like those of households or companies. Governments don’t have a limited working life during which they have to save for a (hopefully) lengthy retirement. Nor do they have to earn ever-increasing profits or worry about share prices. Governments also have the ability to print money, raise taxes and control interest rates – something households and companies cannot do.

And there is one more important distinction: households and companies have to pay back the money they borrow. Governments don’t.

Yes, you read that correctly. A government does not have to pay back the money it borrows. Not in the traditional sense.

When governments incur debt, that debt automatically gets smaller in relation to the economy as the economy grows. Think of a nation’s economy as an inflating balloon that gets bigger and bigger over time as the amount of debt gets correspondingly smaller.

The United States borrowed twice its GPD – nearly $30 TRILLION in today’s dollars – to fight and win World War II. The result was a Debt to GDP ratio much higher than anything we know today, (the debt was 125% of GDP in 1946). Yet economic expansion, with help from inflation, eroded that debt, so by the 1970s it was negligible. The government simply had to keep paying the interest until the principal just about disappeared. And today, the demand for US Treasuries is so high that the government’s borrowing costs when adjusted for inflation are effectively zero.

But what about Greece? Isn’t Greece buried under a crushing mountain of debt? The answer is yes. But profligate spending in Greece is nothing new. What is new is the euro. When the Greeks gave up the drachma, they also gave up the ability to inflate their way out of debt by weakening the currency. That’s a problem the United States cannot have as long as we keep the dollar.

Does all this sound too good to be true? No. It’s just basic macroeconomics that you can read in any textbook. Textbook economics aside, try to imagine the economic hell this country would be if we hadn’t been deficit spending on things like unemployment insurance, FDIC insurance and Medicaid over the last three years. Millions of American families would have been made utterly destitute by the Great Rescission, losing not just their homes, but their bank deposits and their health.

So the next time you hear a politician or talking head screaming about a “debt crisis” and all the things this country can no longer afford, you should know that they are either being deliberately ignorant or deliberately deceitful. And usually it’s both.