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Wednesday, June 30, 1999 Published at 12:05 GMT 13:05 UK


Business: The Economy

Exorcising the US national debt



It is not so long ago, that economists and politicians on both sides of the Atlantic fretted about the US government's escalating budget deficit and the ballooning size of public debt.

The days of gloom are over.

A booming economy has generated massive tax revenues, and President Bill Clinton now predicts that it would take the government just 16 years to reduce the public debt to zero.

But is exorcising the national debt a wise idea?
And what would be the economic impact of such a dramatic reversal of policy, ending nearly 90 years of public deficits?


[ image:  ]

Debt is good

There were times when prudent governments issued debt only to finance wars. However, during the global economic depression of the 1930s, an English academic, John Maynard Keynes, came forward with a revolutionary idea.


[ image: John Maynard Keynes: Debt is good - if it is repayed in boom times]
John Maynard Keynes: Debt is good - if it is repayed in boom times
During times of economic trouble, governments should borrow and spend to boost industrial activity, he suggested.

In most capitalist countries, governments took up this idea, but conveniently ignored Mr Keynes second piece of advice: they were supposed to pay back the debt, when the economy was nicely chugging along.

Debt is bad

During the 1980s, most Western governments woke up to the nightmare of public debt. Having failed to repay their debts in good times, they found themselves caught in a vicious circle.

Every single time a debt repayment was due, governments had to "roll over" the debt and borrow even more money to cover running expenses.


[ image: When Bill Clinton became President, the budget deficit stood at $255bn.]
When Bill Clinton became President, the budget deficit stood at $255bn.
Debt repayments had become one of their biggest expenditures, larger than defence spending and just a bit less than the money needed to finance public welfare and healthcare.

When President Clinton took office in 1993, the annual budget deficit in the US stood at $255bn, and the country had accumulated a public debt of just over three trillion US dollars.

In Manhattan, a concerned businessman mounted a National Debt Clock on a wall just off 42nd Street. It showed the nation's debt piling up at a rate of nearly $9,000 per second.

The turnaround

It's your lucky day. You are hard pressed to pay the instalments for your car loan and your mortgage, but suddenly a letter tells you that you have earned a big fat bonus, because you have done your job well.

You pay off your car and decide not to splash out but keep up your modest lifestyle. A day later the bank tells you that interest rates have come down, reducing your mortgage payments.

That's what happened to the US Treasury.


[ image: It's payback time for the US treasury]
It's payback time for the US treasury
The US economy has been hard at work in the 1990s, delivering strong growth and job creation. This boom - the longest in peacetime history - has generated huge revenues, filling up the government's coffers.

Congress and the White House, meanwhile, agreed to cut back a bit on spending.

At the same time, the economy enjoyed little inflation and low interest rates, which helped paying the interest on the public debt.

All that created the current budget surplus, about $107bn this year, and the hope to cut down on debt.

The impact

Public finances in the US could now run in a virtuous circle. Paying back the debt reduces interest rate payments. This in turn makes it easier to pay back even more and so on - until the debt amounts to zero.

Once there is no debt anymore, taxes can be cut, and the government can spend its money on useful things like healthcare or education.

Interest rates are bound to come down too, as the government will not have to offer attractive rates anymore to compete with other people trying to raise money.

For the same reason, companies will find it easier to raise money, because investors will be looking for new places to invest.

Economists predict that the extra money will boost domestic saving and add to overall economic growth in the US.

Things that can go wrong

But let's return to the real world.

Mr Clinton's plans - and the official debt projections - work only if the economic situation does not change.

But what if ...

  • today's fantastic growth rates collapse?
  • the stockmarket falters?
  • inflation rebounds and interest rates rise?
  • unforeseen events force government to spend more?
  • Congress or a new president opt for tax cuts instead of debt repayments?

    Investors love US debt

    However, if everything goes according to plan, there will still be those who regret the disappearance of the US debt.

    The US government raises most of its "loans" through US treasury bonds. Around the world, these bonds are considered to be the safest investment available.

    The main advantage: Because so many people trade in US bonds, the market is always "liquid", i.e. a seller is almost guaranteed to find a buyer.

    But if the government winds down its debt, the golden days of bond traders will be over. To avoid a lack of liquidity, the US Treasury has already begun to reduce the number of bond issues sold on the market.

    Currently, the price of US bonds is one of the most important benchmarks in the world of global finance.

    Once that is gone, the markets will have to look for alternatives, maybe a pool of blue-chip corporate bond issues.

    Dollar trouble


    [ image: Thomas Jefferson hated debt, but when the US had the opportunity to buy Louisiana from France, he borrowed heavily]
    Thomas Jefferson hated debt, but when the US had the opportunity to buy Louisiana from France, he borrowed heavily
    And there is another problem. If there are no US bonds, there is little reason to buy dollars. Some analysts predict a plunge of the US currency, as investors from Europe and Asia move their free cash into euro bonds, or other investment opportunities.

    Nonetheless, the United States may return to the mindset of Thomas Jefferson, third president of the United States and a man who knew all about debt after he inherited the burdened estate of his father-in-law in 1773.

    He riled against debt issuing, as it would serve only to enrich "the tribe of bank-mongers ... seeking to filch from the public their swindling, and barren gains".





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    Congressional Budget Office

    CBO economic outlook Fiscal Year 2000-2009

    Bureau of Public Debt

    The US public debt "to the penny"


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