Sunday, October 18, 2009

America owes less money than you think

It is impressive, how much more economic literacy the country has developed in the past 12 months. Just enough to be dangerous. I've often lamented that a little bit of economic knowledge (say from Econ 1) gives people a dangerously distorted view of the world. The recent education people have gotten from newspaper editorials and headlines is perhaps even more distorted. Though I have been impressed with coverage, it still worries me because it gives people a false confidence in their own economic literacy. Many times, I'm sitting in a restaurant, overhearing snippets of conversation at tables next to mine where everyone's talking about the economy with great conviction while at the same time it is quite clear that no one knows what they are talking about.

I was recently waiting at a bus stop recently, and when it came up that I'm an economist, the guy having just seen a movie about the debt starts ranting about how the US debt is unsustainable. And we are headed for doom.

Really?

So the national public debt has gone up a lot in the past few months, to around $11 trillion. Is that a lot? Sounds like a lot. On a per capita basis, that's about $110,000 per household.

So 11 trillion is a lot, maybe 80% of GDP. Is that a lot?

Let's put this another way. If your annual income is $100,000, and you take out a mortgage to buy a house that costs $80,000. That seems quite reasonable doesn't it?

There's a bit of a slight of hand there, because GDP is how much money the country as a whole makes, and public debt is just how much the federal government owes. So let's try this another way:

If the US makes about $13 trillion a year, how much does the US as a whole (including government and private companies and individuals) owe to other countries? Note (over half of the federal debt is borrowed from Americans, so when we pay back our creditors, we are giving money to our children). The answer is about $13 trillion. The thing is, the US is also owed $8 trillion by other countries. So on net, the US debt is only about 35% of GDP.

Back to our analogy, that's like someone with an annual income of $100,000 having a mortgage of $100,000 but also holding $65,000 in stocks and other assets. Doesn't sound so untenable.

You might also note that the real problem is not the current debt (as the OMB chief likes to point out) but the size of the obligations to Social Security and Medicare. Which some estimate are in the tens of trillions, most of which is medicare and medicaid. So if you look at the numbers, the deficits in Social Security can be wiped out just by raising the retirement age by a couple years, or by indexing payments to inflation, rather than to wages, meaning that retirees in the future will get as much money as retirees of today, which doesn't sound so bad. Both are still politically difficult, but quite reasonable. Medicare and medicaid costs are the far bigger looming obligation, but those obligations assume that unchecked health expenditures, and given that the US spends more or less twice as much as every other developed country on health care, it is quite plausible that health expenditures can be brought down significantly in the future.

Of course the problem with metaphors is they are always imperfect (for example, if the US really needed to, it could just print more money to pay off its creditors). But many smart people are quite worried about the current levels. But put in perspective they are not as big as people seem to believe.
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