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This Will Not Do at All…

Whiskey-Tango-Foxtrot Wall Street Journal Bang-Query-Bang-Query Niall Ferguson Smackdown: Is This Some Strange Berkeley Acid Trip I Am on? Weblogging

Why oh why can't we have a better press corps?

Niall Ferguson: The Shutdown Is a Sideshow. Debt Is the Threat:

Only a fantasist can seriously believe "this is not a crisis." The fiscal arithmetic of excessive federal borrowing is nasty even when relatively optimistic assumptions are made about growth and interest rates. Currently, net interest payments on the federal debt are around 8% of GDP... that share could rise to 20% by 2026, 30% by 2049, and 40% by 2072...

Um…. No. Not 8%. 1.3%. Only 1/6 of 8%.

Look at: Currently, net interest payments on the federal debt are not 8% but only one-sixth that--1.3% of GDP:

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The fantasy is the 8% number, and the belief that the debt is, right now, a crisis.

Moreover, 1.3% is the wrong number to look at. We want to adjust for inflation at 2%/year, and that gets us to 1.3% - 2% x 80% = -0.3% of GDP. We want our concept of budget balance to be not a stable real value, but a constant debt-to-GDP ratio. Making that adjustment tells us that right now the U.S. could run a primary deficit of 0.3% + 2.5% x 80% = 2.3% of GDP without seeing any increase in the debt-to-GDP ratio.

That's right: rather than the debt forcing us to cut spending on programs below the level of taxes (i.e., run a primary surplus) in order to keep the debt-to-GDP ratio from growing, right now the United States can have spending on programs exceed taxes by 2.3% of GDP (i.e., run a primary deficit) and still keep its debt-to-GDP ratio stable. In terms of real resources, right now the debt is not a burden. It does not reduce how much the U.S. can afford to spend on programs. It is a profit center. It is providing a net addition to federal resources to the tune of 2.3% of GDP.

That's how far the federal debt is today from being a burden on the economy.

Now I would bet that this will not last. When and if the average of nominal interest rates the U.S. owes on its debt rise by 290 more basis points--from their current value of 1.6%/year to 4.5%/year--the debt will no longer be a net source of resources, a profit center for the federal government. When and if interest rates rise still further so that the average nominal interest rate on Treasury debt is more than 4.5%/year, then the debt will become a cost center. It will then require the diversion of real resources in the form of a federal primary surplus in order to keep the debt-to-GDP ratio in balance.

Moreover, even if interest rates remain exceedingly low, and the debt remains a profit center for the federal government, we will want to run surpluses when the economy approaches full employment. There will come war and rumors of war. There will come national emergencies like the Lesser Depression we not yet at the end of. There will come other national emergencies. When those come, we will want the fiscal headroom so that deficit spending is an option that can be considered. Creating that headroom requires paying down the national debt in times of full employment.

But right now we have a debt that is a profit center for the federal government. Right now, the essence of the situation is that the lenders to our federal government are currently paying us 2.3% of GDP, $345 billion/year, to keep their wealth safe (relative to investments that would grow in line with nominal GDP).

To say that "only a fantasist can seriously believe that [America's national debt] is not a crisis" is the real fantasy. And it is a strange and bizarre one.