Friday, February 27, 2009

The Audacity of Ignorance

This is a guest post by reader Petr Weifen:

If the last decade has proven anything, it's that Americans can be pretty cavalier about debt. Yet while American consumers seem to have gotten the message and are trying to reduce their personal debtload, President Obama has introduced a federal budget that’s unconscionable in its reckless attitude towards amassing new debt.

A little history might be useful. In 1980, the US Federal debt stood at $930 billion or 33% of that year's GDP. At the end of 2008, the Federal debt was slightly below $10 trillion (that’s $10,000,000,000,000) and represented 70% of the 2008 GDP. Most reasonable people would conclude that it's time to put down the debt-pipe and exhibit some fiscal discipline. Not President Obama…..he's running to the house fire with a gasoline hose.

The 2010 budget published yesterday by the Office of Management & Budget is the most fantastic document produced since Theodor Geisel's death. Under the Obama budget, the nations' debt will jump an astounding $4 trillion by 2010 to 96% (!!) of the projected GDP. And that’s just the warmup. Like a subprime borrower who just refi'd the house, we're going on a crazed and inspired national spending spree. By 2016, we cross the magical 100% debt/GDP level (boldly joining the five other global economic powers who have crossed the 100% debt threshold -- Jamaica, Japan, Italy, Lebanon & Zimbabwe). Finally, by the last year of the OMB projection (2018), we'll have racked up $23.1 trillion in debt or 101% of the 2018 projected GDP. Go USA!!!

What are the consequences of this debt burden? First, the risk of inflation looms very large. Like any person or company that has borrowed heavily, the next incremental dollar of debt is likely to cost more. As the US has taken on more leverage (debt), the risk of default increases which results in investors demanding higher returns (in this case, interest rates) to compensate them for the increased risk. This will lead to higher interest rates for both individuals and companies as the borrowing rate for the US government sets the baseline for all types of personal and corporate debt.

The second impact of the US debt level is more subtle. Economists generally agree that increases in government expenditures increases aggregate demand in the economy. In a fully employed economy, in addition to raising prices, the increase in demand also leads to a rise in interest rates. And this invariably leads to lower spending by the private sector as business have less available cash for capital goods such as plant, equipment, and structures. Thus, the high level of government spending (and its consequences) reduces the amount of capital investment that businesses make. And as lower capital investments are made today, the private capital inherited by future generations is likewise smaller, implying that the level of output (GDP) enjoyed by them will be lower. This lower level of output is thus the ultimate burden of the debt and it is a burden that is largely shifted forwarded to future generations.

President Obama campaigned on the promise of "change". He's right about one thing -- this budget, if enacted, will irrevocably change the futures for our children and grandchildren. We called our predecessors the "Greatest Generation". I shudder to think of the names that our kids will coin for us when they realize the burden we're leaving for them.


  1. What about the Burden left to Obama administration? 8 years ago there was a budget surplus, unemployment was at an all time low and the US had political capital to spare worldwide. Fast Forward through 8 years of the Bush administration spending like drunken sailors funding 2 wars and the rest of the world hates us

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