SYDNEY WILLIAMS: FEDERAL DEBT
On September 30, 1981, interest rates on U.S. Treasuries peaked. The yield on the 20-year stood at 15.78%. Nobody recognized that the bear market in bonds had ended, and a new bull market had begun. (Coincidentally, this was ten and a half months before the stock market bottomed in mid-August 1982.) Jason Zweig wrote in the October 1, 2021, edition of The Wall Street Journal: “The inescapable lesson of September 30, 1981, is that markets can keep moving in the same direction longer than anyone can imagine – and then shoot explosively in the opposite direction when no one expects it, impelled by forces no one may ever fully understand.” The current yield on the 20-year is 1.9%. On March 9, 2020, the yield on the 20-year was 0.87%. Are we in the early stages of a new bear market for bonds? If we are, lower prices will mean higher rates and increased costs for the American taxpayer. I don’t pretend to have an answer, but the question is relevant given the amount of debt our nation is carrying and the speed with which deficits are building, with few politicians on either side of the aisle seemingly concerned.
We live in an age when debt is considered a good thing. As long as interest rates remain low and one’s income allows the payment of interest and the repayment of the principal, borrowing at today’s interest rate levels may be a sensible strategy. It allows one to purchase and use something today, like a home, car, dish washer or college education, without having to pay for it until tomorrow. Yet not all sources of income are secure and not all interest rates are static. Incomes can disappear and interest rates can rise. Debt can have unforeseen and unfortunate consequences.
Throughout most of history, debt was considered a form of servitude of the borrower to the lender, as suggested by Thomas Jefferson in the rubric above. Those of my generation remember Tennessee Ernie Ford’s 1955 hit song: Sixteen Tons, which begins: “Another day older and deeper in debt,” and ends: “I owe my soul to the company store.”
The Bible’s Proverbs 22:7 reads: “The rich rules over the poor/And the borrower is servant to the lender.” In Proverbs from Plymouth Pulpit, Henry Ward Beecher (brother of Harriet Beecher Stowe) warned: “Interest works night and day, in fair weather and in foul. It gnaws at a man’s substance with invisible teeth.” A quote attributed to President Andrew Jackson is blunt: “When you get in debt you become a slave.” It was not only slave owners and Presidents like Andrew Jackson and Thomas Jefferson who equated debt to servitude, Frederick Douglass, who had escaped slavery in Maryland in 1838, wrote in his 1855 autobiography My Bondage and My Freedom: “I had a wholesome dread of the consequences of running in debt.” Today, with historically low interest rates, such concerns have slipped our consciousness.
Federal debt should concern us. When compared to GDP, it is the highest since World War II. And, unlike that war which ended on the battleship USS Missouri in Tokyo Bay on September 2, 1945, today’s federal debt continues to grow, with no end in sight. When one includes unfunded liabilities (And why wouldn’t one, since they are liabilities and unfunded?), estimates range up to $220 trillion, or almost $700,000 per individual. The size of these estimated liabilities varies, depending on assumptions made regarding future funding, investment returns and changes in demographics. But what makes them frightening is that Progressives want to expand them, despite their existing financially shaky foundations.
Using data from the American Presidency Project at the University of California, Santa Barbara, the last twenty years show a modest shortfall in federal tax collections relative to GDP growth, but a massive increase in federal spending. US GDP was $10.2 trillion in 2000 and estimated to be about $23 trillion in fiscal 2021. Tax receipts were $2.0 trillion in 2000 and estimated to be $4.0 trillion in fiscal 2021. Federal spending, which was $1.8 trillion in 2000 will climb to an estimated $6.8 trillion in fiscal 2021. Roughly 61% of today’s spending is “mandatory,” which includes entitlements like Medicaid, Medicare and Social Security, but not interest rates. With the government paying about 1.3% on its borrowed funds, interest expense is about 5% of spending. If rates returned to their postwar average, interest costs would amount to about 15%, further squeezing non-mandatory programs like defense, infrastructure and education. Total federal debt this year will exceed the current $28.4 trillion debt ceiling. Trillion-dollar deficits will keep that number growing.
In an economy, with many uncertain as to their future, with inflation on the rise and with birth rates below replacement, low interest rates serve as a palliative, encouraging profligacy. Low interest rates allow borrowers to achieve more affluent lifestyles, and they encourage greater investment risk. It is not often that the prime rate (3.25%) is below the rate of inflation, but that has been true for the past several months. In September, the CPI was reported at 5.4%, above expectations and above August’s rate of 5.3%. While some economists claim inflation is transitory, most do not expect a decline anytime soon. So, why would anyone lend money to the federal government at a rate below the inflation rate? Perhaps other asset prices – stocks, commodities, real estate, etc. – are expected to decline precipitously. If so, an investor can buy a Three-month US Treasury and receive the 0.05% yield currently offered, which implies the value of their current dollar would lose only 5% over the next twelve months.
Countries with large levels of debt lose options. Those with fiat currencies, like the U.S., can employ monetary policies to keep interest rates low, at least for a while. They can employ fiscal policies to promote moderate inflation, so that today’s debts are repaid with cheaper money tomorrow. However, as mandatory spending increases it means less for other projects like infrastructure, defense and interest expense. And the world does not stand still. Countries must have the financial flexibility to adapt to unanticipated change.
……………………………………………………………
Nobody knows how much debt is too much, but we do know that ultimately too much brings higher rates and places debtors at the mercy of creditors. Recent excessive accumulation of debt reflects Progressive’s unconstrained view of government versus the constrained concept conceived by the Founders and favored by conservatives. Nevertheless, all things being equal (which they never are), interest rates in western-style democracies tend to be lower than in totalitarian regimes, as free nations treat their debt not simply as a financial and legal obligation, but as a moral commitment, just as it is (or should be) for individuals.
Comments are closed.
