Category Archives: government debt crisis

Is Illinois the trailer for the debt movie?

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I assume you have been following the story.

Illinois is now grappling with $15 billion of unpaid bills and an unthinkable quarter-trillion dollars owed to public employees when they retire.

This would be the third year in a row that America’s fifth-largest state has failed to pass a constitutionally required budget.

The U.S. government, too, can only pay its bills with borrowed money. The U.S. government, too, has an unthinkable level of unfunded liabilities–I believe it is close to $80 trillion. The U.S. government, too, is unable to pass a real budget.

Politicians love to borrow other people’s money. They don’t know how to cope with paying it back.

If you want to see how the political process functions when confronted with unpleasant reality, watch Illinois.

Needed: A March for Fiscal Responsibility

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John Cochrane writes,

We live on the edge of a run on sovereign debt. The US has a shorter maturity structure than most other countries, and a greater problem of unresolved entitlements. Despite our “reserve currency” status, we may actually be more vulnerable than the rest of the high-debt, large entitlement western world.

That is at the end of a long post that makes points that I have made over the years.

Biggs’ BIG for Social Security

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Andrew Biggs writes,

Under the plan, Social Security would guarantee that all retirees, regardless of work history or earnings, are lifted out of poverty in old age. Thus, while Social Security currently offers no minimum benefit, a strong minimum benefit would be established at the poverty threshold. Over time, however, the maximumUnder the plan, Social Security would guarantee that all retirees, regardless of work history or earnings, are lifted out of poverty in old age. Thus, while Social Security currently offers no minimum benefit, a strong minimum benefit would be established at the poverty threshold. Over time, however, the maximum Social Security benefit would be reduced so that eventually all retirees would receive essentially the same monthly benefit. Social Security benefit would be reduced so that eventually all retirees would receive essentially the same monthly benefit.

Much of the essay tries to debunk some myths about saving for retirement. Some people, myself included, have bought into “facts” that show that Americans do not save. But Biggs writes,

But recent Census Bureau research that relied on IRS administrative data, which counts IRA and 401(k) withdrawals in whatever form they are made, found that from 1984 to 2007 the percentage of new retirees receiving private retirement-plan benefits doubled and median benefit payouts more than doubled. (This study focused on retired women, but it looked at total household incomes and included male spouses, if present.) Thanks to rising private retirement benefits, real total incomes for the median retiree household rose by 58%. In the CPS, which undercounts private retirement benefits, total household incomes rose by only 21%.

The Fiscal Outlook

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The Committee for a Responsible Federal Budget reports,

CBO finds debt held by the public will roughly double as a share of the economy over the next three decades, rising from 77 percent in 2017 to 150 percent by 2047.

…A number of major federal trust funds face exhaustion in the coming years, including the Highway Trust Fund in 2021, the Social Security Disability Insurance Trust Fund in 2023, the Medicare Part A (Hospital Insurance) Trust Fund in 2025, and the Social Security Old-Age and Survivors Insurance Trust Fund in 2031.

Of course, for the press, this is a yawner. It’s the CBO “scoring” of the health care bill that makes front page news.

We are not Singapore

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John Mauldin writes,

Forty-one percent of Americans have no savings at all. An article in Forbes cites data that shows that just 37% of Americans have savings to cover an emergency that costs over $500.

…Simply put, most Baby Boomers will be down to subsistence living by the time they are 80, living on Social Security and other government benefits, with help from any capable children.

He points out that Social Security benefits are typically less than $20,000 a year, and the system is not exactly in robust financial shape. And Medicare does not completely relieve beneficiaries of out-of-pocket expenses.

Perhaps a lot of these people own homes. That would mean not having to spend any money on rent, and in a pinch they could take out a mortgage to finance emergency expenses. Still, I think that a culture of not accumulating financial savings is worrisome.

Symposium on Low Interest Rates

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From the Mercatus center. The contributions are not coordinated in any way. We wrote essays about causes, effects, predictions, …whatever we felt like, on the general subject of the implications of low interest rates and the potential for them to rise. So far, we have

David Beckworth:

the 10-year Treasury yield has fallen more as a result of business-cycle pressures and policy uncertainty than because of structural changes like demographics. Consequently, more normal levels of interest rates are likely to prevail in the future.

If he is right, he could make a lot of profit by shorting bonds. And he may be right.

Joseph Gagnon writes

There are at least five reasons for the current low real rates of interest: (a) labor force growth has declined around the world, thereby reducing the need for business and housing investment; (b) a large cohort in many countries is entering the maximum saving years immediately prior to retirement; (c) productivity growth has declined around the world, thus reducing the demand for business investment; (d) regulatory changes have increased the demand for safe assets, including those that are commonly used to quote interest rates; and (e) driven by government policies, developing and emerging market economies have become net savers instead of net borrowers since 2000. In late 2009, I noted that the decline of real interest rates had been going on for about 30 years, and I pointed to several of those factors. This phenomenon is not limited to the aftermath of the Great Recession.

George Selgin writes,

Interest rates, like other prices, can change for all sorts of reasons; the implications of the change generally depend on the particular reason for such a change.

I had the same problem that Selgin had in starting the discussion with the value of an endogenous variable. I wrote,

The fiscal effect of an interest rate change depends on the source for that change. The source could be an increase in real economic growth, an increase in inflation, or an increase in the risk premium that investors assign to government securities.

If David Cutler were an Entrepreneur

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He would buy a hospital. Let me explain. The IGM forum polled economists to see if they agreed with this statement:

Long run fiscal sustainability in the US will require some combination of cuts in currently promised Medicare, Medicaid and Social Security benefits and/or tax increases that include higher taxes on households with incomes below $250,000.

Most economists agreed, as would I. However, Cutler disagreed, writing

There are ways of making the health care programs much more efficient, which would obviate the need for tax increases for some time.

He thinks he knows how to compensate health care providers more efficiently. If he were an entrepreneur, he would buy a hospital and prove his theories there. But he is a professor, so testing his theories is an all-or-nothing proposition, and we will have to pay for it.

Doug Elmendorf on the Debt

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He writes,

Together with Brookings Senior Fellow Louise Sheiner, I have analyzed alternative explanations for low Treasury rates and the implications of each for budget policy (Elmendorf and Sheiner, 2016). We found that most explanations imply that the country should have a higher debt-to-GDP ratio than otherwise. We find that most explanations also imply that federal investment should be higher than otherwise, and I will come back to that later. The intuition for these results is that interest rates show the direct cost to the Treasury of its borrowing and provide information about the indirect cost to the economy of Treasury borrowing—and if costs will be persistently much lower than we are accustomed to, then more borrowing, especially for investment, passes a cost-benefit test.

Pointer from Tyler Cowen.

Of course, one possible explanation for low interest rates is that growth prospects are poor. Another possible explanation is that we are in a bond bubble. If either of those turns out to be the case, then we are going to wish that we had less debt to contend with.

Jason Collins reviews Jonathan Last

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Collins writes,

So, if government can’t make people have children they don’t want and can’t simply ship them in, Last asks if they could help people get the children they do want. As children go on to be taxpayers, government could cut social security taxes for those with more children and make people without children pay for what they’re not supporting. (Although you’d want to make sure there was no net burden of those children across their lives, as they’ll be old people one day too. There are limits to how far you could take that Ponzi scheme.)

Keep in mind that lower birth rates are an international phenomenon, so I am reluctant to place much weight on U.S.-specific factors. My sense is that the decline in birth rates is correlated with, if not caused by, increased education of women. If that is the main causal factor, then it probably is not something that is going to be reversed.

Also, I am not convinced that there is such a down side to slower population growth and eventual decline. Yes, it messes up entitlement programs for the elderly, but that is because those programs are ill conceived, particularly in not indexing the age of government dependency to longevity. You should fix the entitlement programs to deal with the demography rather than try to fix demography to deal with entitlement programs.

The Bond Bubble

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Balazs Csullag, Jon Danielsson, and Robert Macrae write,

A rational buy-and-hold investor who trusts the central banks should not buy long-dated bonds. While a high degree of central bank credibility used to be important to bond holders, today this seems to be no longer the case, especially for those buying German bonds.

The only way to get decent long-term returns with current yields so low is to go back to the persistent deflation of the gold standard, because most post-war inflation rates imply losses. For example, there are only eight years in Germany with lower than breakeven inflation for our 30-year buy-and-hold investor today.

Pointer from Mark Thoma.

The thing is, once interest rates start rising, they could explode, because at that point people may doubt the ability of governments to pay back their debts.

What if the central banks hold all of the bonds? That means that those central banks will be sitting on losses. If their cost of funds rises (say, because the central bank has to pay a higher interest rate on reserves), then central banks become a drain on the treasury.