Uwe E. Reinhardt is an economics professor at Princeton.
There now appears to be general agreement that the downgrade issued a week ago by Standard & Poor’s on the “Political Risks and Rising Debt Burden” of long-term United States debt was not a statement on the probability of default on Treasury bonds at all. Instead, it appears to have been intended as a reminder that something has gone seriously wrong with the style of governance put in place by the Founding Fathers.
Perspectives from expert contributors.
Perspectives from expert contributors.
Be that as it may, one manifestation of the decay in the federal style of governance has been the discovery that American voters can be pleased by providing them with a growing array of government services and financial transfers and by underwriting these with deferred taxes — that is, current deficits. The deferred taxes are to be paid off by generations not yet born or still too young to vote.
In the words of Doug Elmendorf, current director of the Congressional Budget Office, in a presentation last year, “The United States faces a fundamental disconnect between the services that people expect the government to provide, particularly the benefits for older Americans, and the tax revenues that people are willing to send to the government to finance those services.”
To make politicians comfortable with this approach to governance, a theory was needed that “deficits don’t matter.” That theory reportedly was proposed by Vice President Dick Cheney to Paul O’Neill, then Treasury secretary, who in late 2002 had protested the Bush administration’s evident addiction to debt. A fascinating account of the debate surrounding this proposition can be found in Jonathan Weisman’s “Reagan Policies Gave Green Light to Red Ink” in The Washington Post, written in 2004.
The economics profession did not entirely endorse Mr. Cheney’s theory; neither, however, did it line up against it. Instead, as usual, it had a nice intra-professional, two-handed debate on the issue, accompanied by learned papers. Then, as now, the pronouncements of macroeconomists add up to confusion.
The footprints of this new style of federal governance can be seen in the following chart, which is featured in updated form year after year in the Congressional Budget Office’s well-written long-term budget outlook.
It is instructive to reflect on this chart, along with the two charts shown below. The data for those charts can be found in Table B-79 of the Economic Report of the President, February 2011.
The first shows the gross federal debt as a percentage of gross domestic product from 1976 to 2011. It is the most inclusive measure of the Treasury’s obligations, which ultimately are, of course, the obligations of the American taxpayer. The colors of the bars indicate presidential terms.
The gross federal debt includes debt owed to other government accounts — for example, the Social Security Trust Fund, the Medicare Trust Fund and other retirement or government trust funds. Cash surpluses accumulated in these funds are invested in Treasury securities.
Of the total gross federal debt of $13.6 trillion in 2010, $4.6 trillion was owed by the Treasury to these government trust funds and only $9 trillion to the public, which included international investors (47 percent), domestic private investors (36 percent), the Federal Reserve (9 percent) and state and local governments (8 percent).
The next chart shows how the fraction of publicly held debt as a percentage of total gross federal debt has fluctuated over time. Note again that purchases by the Federal Reserve of Treasury debt, of which there have been many in the past few years, are counted as debt held by the public rather than intra-governmental debt.
Readers of this blog will draw their own inferences from these three charts. My own is that recklessness in United States fiscal policy is not a recent phenomenon, especially if one considers the devastating effect that the recession, starting in 2007-8, has had on federal tax revenues, now at a historical low as a percent of G.D.P., and on federal spending, now at a historical high. In fact, the federal deficit for 2009 had been projected by the Congressional Budget Office at $1.2 trillion even before the current administration moved into the White House.
The problem is much less the current budget deficits, which can be explained by the current recession, but that budget balance does not seem to be in sight long after the recession, we hope, is over.
It is that problem that the White House and the Congress must solve. We must hope that care for the nation’s future — evidently now taking a holiday — will return someday soon to their minds and souls. Perhaps then they will merit an AA+ rating.
