I urge you to read Carmen Reinhart and Kenneth Rogoff’s op-ed at Bloomberg:
Those who remain unconvinced that rising debt levels pose a risk to growth should ask themselves why, historically, levels of debt of more than 90 percent of GDP are relatively rare and those exceeding 120 percent are extremely rare (see attached chart 2 for U.S. public debt since 1790). Is it because generations of politicians failed to realize that they could have kept spending without risk? Or, more likely, is it because at some point, even advanced economies hit a ceiling where the pressure of rising borrowing costs forces policy makers to increase tax rates and cut government spending, sometimes precipitously, and sometimes in conjunction with inflation and financial repression (which is also a tax)?
As I mentioned earlier today I don’t care about the debt ceiling. As far as I’m concerned it should be abolished entirely. I do care about the debt. I think it’s practically and morally heinous. It is a tax on the future, on future generations. We’re still paying off the debts incurred during the Spanish-American War.
I posted on this article earlier today:
The recent upward spikes in interest rates on sovereign debt in several eurozone countries certainly support their contention that bond investors can be myopic and engage in herd behavior. While Reinhart & Rogoff don’t say so explicitly, it’s clear — to me, at least — that the intent of their op-ed is to counter complacency regarding the future interest rate trend of U.S. government securities. As always, however, timing is everything. As my repeatedly-stated bearish view on the near-to-intermediate term prospects for U. S. economic growth suggests, I don’t believe that we’ll experience an upward spike in U.S. interest rates in the foreseeable future. Of course, in the long term, an ambiguous term if I ever heard one, anything can happen. The only long term certainty, as Keynes famously said, is that we’ll all be dead. From my own experience, being right, but early, is to be wrong.
When you buy on time the total cost is not the nominal price at the time of purchase but the price plus the cost of financing. We don’t know what the cost of financing whatever we borrow today will be. However, since interest rates are presently at historic lows, we can be pretty confident that, eventually, they will rise and whatever the cost of financing will be, it will be higher than what we borrow.
Over the last half century we have borrowed in all but a handful of years. The amount by which revenues exceeded expenditures in those handful wasn’t even remotely enough to pay down all that we had borrowed and continue to borrow. Under the circumstances I think it’s a reasonable inference that we will continue to pay interest on what we borrow today forever.
We can’t give an exact figure for the total cost of this borrowing but IMO we can be pretty confident that it will be enormous.
Borrowing for capital investment is justifiable. Borrowing to pay operating expenses which is largely what we’re doing is crazy.
No disagreement with you, Dave. My point is that our interest rates are likely to remain low for longer than most people expect, in no small measure because I expect the mess in Europe to continue more or less indefinitely, resulting in flights to safety that keep our rates low. And if the eurozone breaks up, the flight to safety will be a panic to safety.
In addition, bear in mind that our rates have remained lower longer that most people expected despite the fact that emerging economy interest rates have been steadily rising. At some point, those rates will start to drop, making interest rate differentials less compelling than they are now as a reason to sell dollars and buy emerging economy currencies (which, of course, must be done if you want to buy their government fixed income securities).
I agree that rates can stay low for a long time. They’ve been low for a long time already, and in that time a lot of crises have come and gone.
Some things happen on a “decades” timescale, even though the temptation is to discuss them with a more human “today, tomorrow” perspective.
That’s what gets the Peak Oilers. Their fear comes from a mismatch in timescale.
(And of course that’s what makes global warming inaccessible for the majority. It’s a “century” problem.)
Interesting blend of themes.
“From my own experience, being right, but early, is to be wrong.”
As a serial offender wrt to the public equity markets I concur. But….
“However, since interest rates are presently at historic lows, we can be pretty confident that, eventually, they will rise and whatever the cost of financing will be, it will be higher than what we borrow.”
And so reliance on foreigner’s anxiety seems more like a high wire act than sound policy.
“Borrowing for capital investment is justifiable. Borrowing to pay operating expenses which is largely what we’re doing is crazy.”
Ah, yes. And the road to hell. Alex Knapp was going to a narrow definition of debt service the other day, citing low interest costs. This ignores additional principal and simply looks at the cost of metered money. But debt service involves interest AND principal amortization, or at a minimum reasonable debt to cash flow (debt to GDP). Bankers deal with this with “total leverage” or “fixed charge coverage” covenants in a corporate setting.
Doug M chided me the other day for comparing government with a corporate borrower, because a sovereign can issue debt. A nice dance on the head of a pin, and technically true, but from a practical finance point of view, pure balderdash. Perhaps he is not familiar with Greece.
The the current costs of metered money aside, it becomes a race between the growth and earnings power of the enterprise/GDP and it principal balances. Total leverage. At some point you become insolvent and renig on the debt or debauch the currency.
Now I shouldn’t go there……….OK I’ll go there. I don’t like the prospects for the race. Yes, Pres. Obama inherited problems, some beyond his control, but I don’t have any confidence right now that he understands the magnitude of the problem, knows how or is even disposed to deal with it or is promoting either policy or an attitude that suggests GDP growth can keep pace with accumulating debt. Union buddy deals, yes. Political and re-election considerations, yes. Pro-growth for small business, no. Dealing with employment costs, no.
That’s how you create a death spiral.