This article will shower some rare praise of mine on a journalist (for that matter, it’s rare that I praise the logic of any public figure!), along with a bit of criticism. Just a bit.
On July 15, 2011, Time Moneyland published an article by Zachary Karabell, titled:
“The U.S. Is Not Drowning In Debt.”
“In case you haven’t noticed, Washington is currently consumed in an acrimonious debate over whether to raise the debt ceiling. There is no agreement about whether to do so or how, but both parties appear to accept the logic that the United States is suffering from an unacceptably high level of government debt and that further debt will doom the U.S. to generations of decline. Judging by polling data, large swaths of the country agree.
Nonetheless, that consensus is wrong.”
OK, this sounds interesting.
“What neither side seems to recognize — or at least acknowledge — is that what matters about the debt isn’t the dollar amount per se, but how much it costs us to service it. And by that measure, the debt isn’t nearly as big a problem as it’s being made out to be.”
He makes an excellent point. Bravo. Debt itself isn’t necessarily a problem (although it can be, for various reasons).
After all, in exchange for being in debt, you receive an asset. The debt transaction itself hasn’t weakened you. It’s how you invest the asset you borrow that counts.
Being in debt can actually be a wise move if you are able to invest the money you borrow at a rate that’s higher than the rate you pay in interest.
For example, if you borrow $1,000 at 5%, and use that $1,000 to pay down the balance of a credit card charging 18%, you will be making an excellent investment, by effectively earning a 13% return on your money.
Does The US Spend Borrowed Money Well?
Unfortunately, in the case of the USA, it appears that the reverse situation is happening. When the US uses the borrowed money to invest, it pays more interest than it receives (“invest” being a broad term meaning whatever the US spends the money on).
For example, if you borrow $1,000 at 2%, and spend that $1,000 on an investment that actually garners you a negative return, that’s a horrible investment. I wouldn’t even call it an investment at all, given that there was no positive return at all.
This is exactly the situation the US finds itself in!
How do I know this? Because the US has a trade deficit! A previous Bukisa article of mine shows that the trade deficit in America totaled $5,613,821,000,000 from 2001 to 2010. That’s a loss of about $18,000 by every single American citizen over that period!
In 2010 alone, the trade deficit was $500.03 billion, which equals about 3.5% of the 2010 debt.
Now remember, all (or almost all, due to potential things like entitlement reserve funds) of the money the government receives (either through tax revenue or by borrowing) is spent throughout the economy, in the form of welfare, unemployment insurance, grants, salaries for government workers, public construction, entitlement benefits, etc.
So, what’s happening is this:
The US government is constantly borrowing money, currently at low interest rates. The government takes that money and plows it into the economy, and what does it get in return?
The country uses it to buy more than it sells. That’s what a trade deficit is!
I’m glad to see that Karabell agrees that borrowed money can be spent poorly:
“I’m not saying that the money we’ve borrowed recently has been well spent. One could persuasively argue that the government has done a terrible job of using debt to spur economic activity. But that has nothing to do with whether the debt is itself harming the country.”
I agree with almost everything Karabell writes, and I applaud him for making rare points that few are aware of!
But I disagree with Karabell in one regard. I disagree with the method of calculation Karabell uses when pointing out the low interest rate that the US borrows at:
“The Congressional Budget Office estimates that net interest on the debt (which is what the government pays to service it) would be $225 billion for fiscal year 2011. The latest figures put that a bit higher, so let’s call it $250 billion. That’s about 1.6% of American output, which is lower than at any point since the 1970s – except for 2003 through 2005, when it was closer to 1.4%.”
Karabell divides the interest cost by “output”, meaning GDP.
That’s an incorrect measure, because GDP is the total production of goods and services in the country, and not all goods and services are produced with borrowed money.
He should be dividing the interest by the total debt.
In that case, it turns out that the interest rate being paid by the US is about equal to the rate Karabell estimates. But that’s only because GDP and total debt happen to be about the same size.
I wanted to make that calculation clarification, because understanding the situation is crucial if people are going to get the country back on track! I have a feeling that a lack of understanding might have gotten the country into the huge trade deficit mess it’s in! (Note that I didn’t say “debt ceiling mess”!)
Sorry Karabell, I wish I could’ve said that your article was completely error free. But be advised, your overall logic is much stronger than that of most articles I review! Yours is only the second article that I’ve mostly praised. I’ve found serious logical errors in dozens of articles, including many made by experts and thought-leaders!
The US borrows money at a rate of about +1.5%, yet invests it at a negative rate. How sad.
Every president during the last thirty five years has presided over a trade deficit. Clueless. Absolutely clueless.
Ominously, the current president appears to be the most clueless of all.