Is This Graphic Troubling to You?

July 31, 2009

Take a look at this graphic I found in an article in today’s Wall Street Journal:

Government Debt as a percentage of GDP (Source: WSJ 7/31/2009)

Government Debt as a percentage of GDP
(Source: WSJ 7/31/2009)

Of course things could change (and they probably will) but if this graphic is true, the U.S. is on track to have government debt equal to about 110% of GDP (it looks like it was around 63% in 2007 according to the chart). Things don’t look much better for the other nations in the graphic.

The concern with a huge debtload is that interest rates will rise, which could put a damper on any sort of recovery. But, before we come to that conclusion, we should read this post first. According to the author, he only finds a slightly negative correlation between deficits and interest rates. Interesting… Of course, the deficits of the past are NOTHING like the one we face in the future. We are in uncharted waters. That’s what’s so troubling about the above graphic.

16 responses to Is This Graphic Troubling to You?

  1. JLP: A large chunk (I’d say most) of the government debt that is graphed there is debt that we owe ourselves (aka; internal debt). For example, the $2 trillion we have in IOUs in the Social Security Trust Fund (which is 14% of 2007 GDP).

    Here is a slide show (16-pages) that I saw yesterday talking about the biggest holders of our debt:

    The biggest holder is:

  2. The “SS debt” isn’t real, since it’s essentially a legislative device channeling future tax revenues into SS. And US debt has actually been far higher at various times in the past.

    One other thing: I don’t worry much about “unfunded liabilities”, since pay-as-you-go programs are by definition “unfunded”. SS and Medicare are scary things that need reforming so they don’t eat us alive, but their “unfunded” state isn’t any more relevant than the fact that your fire department isn’t “funded”.

    I’m not sure where this “unfunded” notion came from, but I guess it comes from thinking of these programs as some sort of pension fund.

  3. Another thing to keep in mind, is that the data analyzed in the Optimist’s link only covers a period of time in which inflation was in a secular downtrend. (A possible case of data mining.) If inflation correlates positively with interest rates, and if we see inflation breakout in the U.S. economy over the next one or two decades, the interest payments on the debt that will be rolled over during that period will become an increasingly larger portion of the federal budget in any given year. This is what CAN put pressure on the government, and it is this issue that people fear when they talk about monetizing the debt. (In this case the federal government, MAY find itself having to print more money which leads to greater inflation which just exacerbates the problem…

    One issue we recently had to relearn is the importance of market psychology. If (or when) the bond market decides that it sees signs of inflation, it will adjust interest rates upwards, and that is when the pressure of this higher debt load will begin causing troubles for the federal budget. This is why everyone follows the bid-to-cover ratio on the Treasury auctions…to try to gain insight on if the bond market is saturated with U.S. Treasury debt.

    I would be interested to see the same regression analysis done on interest rates vs. debt as a % of GDP from 1960 to 1982. Was the correlation negative when inflation was growing?

  4. Foobarista: the SS debt is ‘real’ in the sense that if you take a loan out of your own 401k, that debt is real as well.

    But, if you default on your 401k-loan, who cares? All you did was default on yourself. 🙂

  5. @4–LOL, true to a point, but the loan amount would also become taxable income to you, plus a penalty if you’re still too young. Sorry for being such an accountant!

  6. Chemdoc00: I think this might be what you are looking for:

    If anything, it looks negatively correlated.

  7. Stacey: yeah, you are right on the penalties for 401k loan defaults — but there is no penalty if/when the Government decides to default on SS…

    We will default on ourselves before we default on China, Japan, etc…

  8. These debt issues are getting depressing.

  9. Someone has to stop lending money to the US. It’s pretty pathetic.

  10. The Baglady — do you have any government bonds? If you do, you are lending money to the US.

    Regarding other buyers — they don’t do it because they are nice. They do it because they feel it is advantageous to them i.e. that in spite of the low yields, the US government bonds are safer than the alternatives. As soon as the alternatives appear more attractive e.g. the stock market apears less risky, the number of buyers for the US treasuries will decrease and long term interest rates will go up. Really, if I had been the US government and could borrow at these rates, I’d borrow as much as I can and invest money elsewhere…

    Plus, I think someone (don’t remember who) mentioned that if you owe a small amount to someone, your lender owns you. But if you owe a huge amount to someone — you own them. I doubt the lenders want the US in trouble. They want their interest and their money back after all.

  11. LOL — I don’t think the government will ever default, at least until the debt is in dollars. There is always the printing press…

  12. The problem with SS bonds is the only “monetization” possible is by either selling them and giving the revenue stream from taxes to someone else, or by holding them and collecting the revenue stream into SS. If SS does the former, it’ll crater the bond market. If it does the latter, it is simply raising SS taxes without needing a vote in Congress. This is why I called the bonds held by SS a “legislative device”.

    In a way, I feel a bit sorry for Greenspan (who architected the SS trust-fund scheme in the mid 1980s); it’s nearly impossible for a government to “save” large amounts of money without severe distortions in the economy. If the money from the SS “trust fund” had been invested in stocks, it would be the world’s largest sovereign wealth fund by a couple orders of magnitude. Even if it was invested in passive indexes, it would be a major shareholder in nearly every company in the US (and possibly the world if it did international investing) and Congress would have untold power over business by simple boardroom pressure. Look at CAL-PERS and its occasionally useful but often silly pressure it has put on companies, and multiply that by 100. I remember when CAL-PERS wanted to invest in Singaporean stocks and the Singaporean government told them to get lost for exactly these sorts of reasons.

    And then the fun really starts when the trust fund needs to start selling stocks to liquidate its investment.

    Putting the money into a “savings account” would not work either; it would represent most of the US money supply, and the banks that held this money would need to invest it, causing vast distortions in interest rates.

    Of course, the option we chose wasn’t so great either. This is why I think any SS scheme has to be pay-as-you-go and don’t try any long-term tricks.

  13. Foobarista, interesting take. I had never thought about it that way. Thanks…

  14. I’d love to see the borrowing ratios of US against pre WWI and WWII germany, 2000 Argentina and any other imploding gov’t. Anyone know where they are?

  15. Since the SS trust fund is money that we owe to ourselves, the easiest way to default is to just burn the bonds (though I’d be mad as hell). It should have no effect in other markets, other than sending a signal to others that in fact the US is capable of defaulting on internal obligations to keep paying external ones. Not sure if that is a bad signal or not though…

    This is why the WSJ graphic is so misleading: when comparing to other countries, internal obligations should not be shown — cause it only takes a single act of Congress to erase that $2 trillion owed to SS.

  16. Japan’s debt is about 170% of GDP.