Solving the U.S. debt puzzle
This summer, Americans witnessed the political theater of Congress and the president at loggerheads over raising the legal debt ceiling. While many liberals thought Obama caved in to the demands of the tea party-influenced GOP; Americans, on the whole, were dismayed when Standard and Poor's used the partisan wrangling over the debt ceiling as a pretext for downgrading the federal government's credit rating.
Previously by Cropf
While raising the debt ceiling briefly captured the attention of the public and the media, the underlying cause seems to have escaped their long-term attention. The U.S. debt remains a problem and the short-term solution offered by the deal in Congress does little to improve the situation in a long-lasting way.
The creation of a "super" deficit committee by Congress merely punts the problem. Congress, and its long years of indecision regarding what to do about deficits and the national debt, is a big part of the problem to begin with.
Some context is necessary. The U.S. is experiencing historically high levels of debt. The best way policy experts have of measuring debt burden is comparing the national debt to total output, in this case, Gross Domestic Product (GDP). Currently, the total net debt is about 75 percent of GDP. This type of high debt is normally seen during periods of war in which the country is experiencing full mobilization. While we are at war in Afghanistan in Iraq, we are nowhere near the wartime mobilization of earlier conflicts.
The national debt is an accumulation of annual deficits, which is the imbalance brought about by expenditures exceeding revenues during the fiscal year. Deficits alone did not cause our current situation. The U.S. has run an annual deficit in almost every year of the post-World War II period. But we have never encountered debt levels as perilous as the one we have now.
So why now? The large debt is due to structural causes brought about in large part by ill-designed policies.
This period stands out because of the depth and magnitude of the current economic downturn and the policy choices made to deal with it. First, the recession is not a typical economic correction; it is global in scope and a consequence of an asset bubble bursting in a major sector of the U.S. economy: the housing industry. When the bottom dropped out, it fell hard and fast. Total losses to the financial system have been estimated at $4 trillion.
Poorly designed public policies directly contributed to the housing bubble, but the entire blame should not be laid at government's doorstep. Some contributing policy factors include loose oversight of Fannie Mae and Freddie Mac, generous subsidies of the housing industry through the mortgage interest deduction on the income tax, lack of regulations on sub-prime lending and low-interest rates for an extended period.
Similarly, public policies -- this time in response to the financial meltdown -- led to the ballooning debt. In this instance, I am referring to the fiscal stimulus and monetary policy, which together increased the debt load. One should not fault the federal government's response to the crisis, however; there were very few alternatives available once we got ourselves into the mess.
Thus, our large debt burden problem is structural; it will not be reversed when the economy starts to pick up steam.
Why should we be concerned? After all, I did say that deficits are the rule rather than the exception for the federal government. The difference is this time the hole is deep and getting deeper at an accelerating rate. Economists are worried that if we continue on our present course we will reach a tipping point.
If we have the misfortune of reaching that point, several negative consequences are possible. First, the national debt can crowd out private investment. Second, spending will have to be cut and taxes raised to pay off the increasing interest on the debt. Finally, the debt load can severely restrict the government's ability to act in emergencies.
Crowding out entails a shrinkage of the available capital to fund private projects. This leads to smaller output (GDP) and less income overall. As a result of the increasing debt burden, interest payments have to increase. To pay off this interest either we raise taxes or cut spending. Realistically, we would need to do both because just relying on spending cuts would cripple the federal government. Even "essential" government services such as defense and air safety would have to be drastically cut in this scenario.
Finally, large amounts of debt effectively limit government's flexibility to handle major emergencies. It is doubtful that the government would be able to pass a fiscal stimulus package as large as it did in 2009 in the future if debt levels continue to grow at current rates.
The diagnosis is grim but fortunately there is time to start reversing the trend. We are not doomed to the fate of countries such as Greece and Ireland. However, it will take a bipartisan approach and shared sacrifice to correct our present course. This topic will be addressed in a few days.
Robert A. Cropf chairs the Department of Public Policy Studies at Saint Louis University. To reach the author of a Voices article, contact Beacon features and commentary editor Donna Korando.