Originally published in Utah Business
The late economist and former chair of the Council of Economic Advisers, Charles Schultze once said: “The deficit isn’t the wolf at the door; it’s termites in the woodwork.” This clever imagery reminds us that debt won’t blow our house down, but it will eat away at its foundation. Mr. Schultze’s keen observation stands in sharp contrast to a rising chorus of opinion leaders who argue that deficits don’t matter. I beg to differ.
The deficit – which measures the amount by which the US government’s total budget outlays exceed total receipts for a fiscal year – tallied $779 billion in the fiscal year of 2018 and is expected to surpass $1 trillion this year. It’s grown in each of the past three years despite the US economy’s strong performance and Republican leadership in Congress and the White House. Our country now faces a total debt held by the public of approximately $16.1 trillion ($22 trillion when including intragovernmental holdings).
To pay that debt back every man, woman, and child would need to write a check (or make a Venmo transfer) of $49,271 to the US treasury.
Large numbers become difficult to process. When it comes to government borrowing, I prefer to talk about economic fundamentals. William Gale co-directs the Tax Policy Center and has just released an insightful book about America’s fiscal challenges titled, Fiscal Therapy: Curing America’s Debt Addiction and Investing in the Future. Mr. Gale writes: “There is a well-established consensus among experts that our current path is unsustainable and will do long-term damage to the economy. It is imperative that policymakers put fiscal policy back on a sustainable course.”
He then references a passage from Ernest Hemingway’s The Sun Also Rises where one person asks another: “How did you go bankrupt?” The second person replies: “Two ways, gradually, then suddenly.”
Mr. Gale describes both scenarios for the US economy. He calls the gradual scenario “termites in action.” An obvious reference to Mr. Schultze’s metaphor mentioned earlier. This is the corrosive impact of two types of crowding out. The first occurs as debt rises and interest payments become a larger share of the budget. This crowds out the other spending important to national well-being such as investment in human and physical capital.
The second form of crowding out occurs as more public debt creates an increase in interest rates and makes it more expensive for the private sector to borrow. Productivity suffers when businesses invest less in factories, equipment, and training. By crowding out private investment, public debt negatively impacts productivity, the ultimate driver of long-term growth.
In both of these crowding out scenarios, the termites of debt eat away at our long-term economic success. Governments and businesses fail to invest optimally in infrastructure, equipment, research, education, and job training that makes businesses and workers more productive. Living standards for American households are less than they would otherwise be.
The more damning and sudden scenario would involve a full-out financial crisis where debt holders lose confidence in their investment. Investors rapidly sell off government bonds, interest rates on those bonds rapidly rise, and capital flees the country. This is what happened to Greece in 2009.
Such a scenario seems farfetched in the United States, which remains the world’s safest place to invest and the world’s reserve currency. Still, the debt ceiling standoffs in 2011, 2013, and S&P’s downgrade of US creditworthiness in 2011—which still stands today—remind us that we are not immune.
Some argue that we can keep borrowing as long as interest rates are lower than the economy’s rate of growth. Under this scenario, they argue, the government debt burden will shrink on its own and debt can be rolled over indefinitely, so to speak. They point out that inflation remains in check so what’s the big deal?
I think optimal fiscal policy belongs on the side of caution. I don’t argue for extreme fiscal austerity, nor explosive deficit spending. I do argue that in a time of economic expansion like we are in now, we should be borrowing less. This strategy seems to be lost in our nation’s capital.
We all know what a wolf looks like. Termites are harder to recognize and more difficult to find. I fear the longer we wait to put our fiscal house in order the problem becomes bigger and harder to solve, leaving us with more severe economic consequences. What’s worse, we make the unfitting choice of forcing our children and grandchildren to pay for our consumption.
We need pest control in Washington, DC not just as a fiscal strategy, but as a moral imperative.