By: Don T. (Letting Off Steam Co-Host, Staff Writer)
Twenty one trillion, four hundred and eighty billion and some change. As of the writing of this story, that is how much money the United States Federal Government owes. That’s twenty times the amount of hard U.S currency in circulation. It comes out to about $160,000 per American taxpayer. So what is the national debt? How did it get so such a staggering number? Why does the government even need to borrow, don’t they print the money? Let’s get into it.
Starting off, it would be helpful to know what “debt” is. For most people, debt is simply an I.O.U. Let’s take two characters, Alice and Bob. Bob realizes that he needs to buy a cow. However, that cow costs more than his “liquid” assets, or the amount of cash and things he can easily turn into cash. But he knows somebody named Alice, who has plenty of cash. Bob goes to Alice and Alice lends him money, and Bob promises to pay her back. At this point, Bob is in debt to Alice. In the modern world this simple idea takes many forms; buying a car, a house and even now, a cellphone. The balance of money owed is generally paid back in installments with some percentage of the outstanding balance added on to that payment as interest.
Why would a government need to borrow money? “Don’t they raise money with taxes to pay for things?”, you might ask. Well yes, they do raise money with taxes, but generally the money the government raises is not enough to cover the outstanding costs of things that they want to do. For example, if a government wanted to build a road, they may have raised $1 million dollars in taxes but the road costs $2 million dollars. So that gives them a deficit of $1 million dollars that has to come from somewhere, or we would end up with only half of a road. At this point the government has 2 choices; raise taxes to bring in more money, or convince people to give them some money with the promise of paying it back with interest. Politically, it is much easier to ask people for money and pay them back, allowing them to make a small profit in the process, than it is to take money from them with no way for them to recoup their costs. Thus is born a national debt.
That of course brings up the question, “Well maybe the government should just spend less money each year, right?” The answer to that is very complicated. In a developed country with the size and population of the United States, it is difficult to have a federal government that does little to nothing. Somebody has to make laws, run different agencies of government, take care of government land, provide oversight to companies, and the list goes on and on. Just buying office supplies each year, the U.S. government spent $600 million! So as we said about the road, that money has to either come for taxes or be borrowed, and politicians have a tendency to pick the latter. It’s not all bad though, as we will soon see, government debt is an industry all its own.
So how does it work? We’ve established what debt is and why the government borrows money, but how do they do it? Most people reading this probably haven’t willingly given the government money, expecting to be paid back. Well it all starts with the U.S. Treasury. This part of the U.S. Government is responsible for printing money, keeping track of the money supply, protecting money from counterfeiting and believe it or not, protecting the President and other U.S. officials. Fun Fact: The U.S. Secret Service works for the Department of the Treasury, their main task actually being stopping bank fraud and preventing counterfeiting. Anyways, the U.S. Treasury does something called “issuing debt”. Essentially this just means that they decide the government needs more money. This debt is created out of thin air in several ways. The first way is through “Savings Bonds”. There are several kinds, all with different rules and values but essentially the work like this. A person goes to the Treasury and says, “I have $25, and I would like to buy some government debt.” The Treasury then gives that person a piece of paper that is worth $25 in exchange for the currency. There is a small caveat though. The piece of paper (the bond) cannot be used as actual currency, it can only be exchanged for currency. To make this worth while, if you hold on to the bond long enough, you get your $25 back, plus a little extra as interest. It’s important to not as well that Savings Bonds cannot be bought or sold on the secondary market, only exchanged back to the government for cash.
Another similar vehicle for government debt is something called a Treasury Bond or “T-Bond” for short. When buying these, the price is set at an auction, where you compete against other investors to buy it. These bonds are long term investments, generally 10 years or more. You get paid interest every 6 months over the life of the bond and at the end of the term, you can trade it back in for the full amount you paid during the auction. However, because of the way you buy them and the fact that these are considered one of the safest investments you can make, they have more value than just the price you paid for them. These bonds can be traded on the open market for more, less or the same that you paid for it originally. This is the reason that the government can issue them. They are safe and they have value outside of just the debt owed to you. This is not the end however. There are several other vehicles such as T-Bills, and T-Notes. These are basically the same as T-Bonds but they are generally shorter term investments.
What has been described so far sounds like it could just go on forever and to some extent it can. The Treasury can just issue new debt each time the government needs some more money and everything is great… right? Not quite. According to the United States Constitution, only Congress can borrow money against the credit of the United States and we just said that today, the Treasury does it. How does that work? Wouldn’t that be unconstitutional? Up until 1917, it would have been. From the founding of the country all the way up to 1917, Congress had to vote to authorize every single issuance of debt. As you can imagine, that became very tiresome as the government spent more and more money. So they came up with a very interesting solution, one that everyone with a credit card is probably familiar with. In 1917, Congress passed the Second Liberty Bond Act of 1917. This law changed the way Congress authorized debt by simply putting in a limit. This limit is known as the “Debt Ceiling”. This limit however, though similar to a credit card, is slightly different and has far bigger consequences. With a credit card, generally there is some finite limit to how much money you can borrow before the bank forces you to stop spending money and just pay them back. However with a credit card, you can still spend cash that you actually have to buy things or pay back the bank. This “Debt Ceiling” not only forces the United States Government to stop borrowing money, it actually forces the government to stop spending money the government has on hand as well. This includes stopping Social Security payments, paying federal employees, buying office supplies and even paying back debt holders the interest or the principal on bonds and bills. It essentially forces the government something called “default”. Default is simply a fancy financial term for “Sorry guys, we’ve got no money and we aren’t paying you back”.
What would happen if the United States government went into default? It would be utterly catastrophic. There’s really no exaggeration in saying that the United States economy and even the world economy would simply grind to a halt. There are many reasons for this, the main one being that many people’s money is tied up in T-Bonds and other government debt-related assets. That money would simply vanish from the economy, written off as a loss for many thousands of investors. Another reason is that it has never happened before. In an economic sense, this is very important. Assessments of risk are based on what happened yesterday, the day before that and so on. Being that no one has ever been through the United States defaulting, it would cause panic and turmoil that would start in stock exchanges the world over and ripple out across the world economy like a giant tsunami. $21 trillion is quite a bit of money and it would simply disappear.
In recent years though, there have been a few close calls with this monolith of a disaster. In 2011, the Treasury notified Congress that it would default if the debt ceiling wasn’t raised and this resulted in the first ever lowering of the United States credit rating. This was staved off by the eventual raising of the debt ceiling but it was reached again on December 31, 2012. This led to a crisis in 2013 because Congress essentially kicked the can down the road and raised it just enough to put another crisis off. However, Congress was notified again by the Treasury that if it didn’t raise the debt ceiling, default would come October 17th, 2013, the day interest payments were due. After a government shutdown and much political brinkmanship, the Congress acted and raised the ceiling once more.
This of course seems to be reckless and stupid to any financially literate person. It is crazy to endlessly kick the can down the road, one bad vote from economic catastrophe. To put it in the words of Jack Lew, “We’ve never gotten to the point where the United States government has operated without the ability to borrow. It’s very dangerous. It’s reckless, because the reality is, there are no good choices if we run out of borrowing capacity and we run out of cash.” So is there a way out? Bluntly, no. There have been several solutions put forward but all of them have economic and social downsides.
One of those solutions is something called a Balanced Budget Amendment. This amendment would ban the government from creating a budget with more money in it than is collected from taxes. This presents a myriad of problems, the biggest of which is the fact that people depend on government debt as a safe investment. Another issue with it is the deficit. Each year, there is a gap between total revenue and total spending at the federal level. In fiscal year 2018, the government expects to spend $4.17 trillion but they expect to bring in only $3.34 trillion. This leaves a deficit of about $832 billion. Right now, there is no political will to close that gap in a meaningful way and some economists believe that doing so would wreck the economy. There is also the issue of actually passing an amendment to the United States Constitution. To pass an amendment, it must first be proposed in either the House of Representatives or the Senate and then voted on. To pass it must get two-thirds of the votes in both houses. Another way to do it would be a Constitutional Convention called for by two-thirds of the state legislatures. As of this writing, there are 27 amendments to the Constitution and none of them have been passed by a convention. Politically, it would be almost impossible to get two-thirds of Congress to agree on basically anything and all calls for a Constitutional Convention have gone unanswered.
Another solution would be for the government to do the “take my ball and go home” bit. In this scenario, the government would just throw their collective hands up and default, going into the government equivalent of bankruptcy. As we said earlier, this would be an unparalleled economic disaster and probably isn’t the best course of action.
On a related note to the Balanced Budget Amendment, the government could always raise taxes. Again though, we run into several issues here. First of all, the party in power at the moment, called the Republicans vehemently oppose raising taxes to the point of borderline insanity. Democrats tend to say that they just want to raise taxes on the “rich” but they fail to really specify who that is. Obviously it wouldn’t be great politics to run out and say they want to raise taxes on average earning people. Another big flaw in this plan is that Congress would still have to pass a law or an amendment forcing a balanced budget. Why? It’s very simple, human nature. If Congress has more money, they will spend it. More tax revenue would mean more room for government programs, bigger budgets for the military and various other agencies. So it seems like this solution to is out.
I won’t end this article on a note of defeat though. Bear with me for a few minutes longer dear reader, and I shall argue for my solution. Obviously the three solutions I’ve presented above do all have downsides and right now aren’t politically tenable in their most extreme form. However, what about in moderation? The United States spends more money on it’s military than the next 10 countries behind it combined. In 2013, the Department of Agriculture spent $2,000,000 to fund an internship. That doesn’t sound that bad until you find out that they only hired one intern in that program. Over the past 15 years $5.25 million has been spent on “hair care products for the U.S. Senate” and (I’m really not making this up) the government spends $1 million each year to plan a menu for the first manned mission to Mars. That also seems like a worthwhile task until you realize that the earliest projected manned mission to mars is a decade away. In saying all of that, I don’t believe we need to stop the government from doing some essential things that it does. We need a strong military, we (kinda) need the United States Senate and going to Mars is something I hope I live long enough to see. However, there is room to cut some money from the government’s budget without destroying lives or leaving people unfed, though some would have you believe otherwise. To the tax issue, yes taxes for some will have to go up. There are absolutely insane tax loopholes in this country that allow some massive corporations and very wealthy individuals with good accountants to get away with paying little to no taxes. For example, NASCAR track owners save collectively about $40 million each year because of a tax loophole created by TARP legislation that allows them to write off the value of their tracks early. There is the “carried interest deduction” that allows equity fund managers to pay significantly less taxes on their compensation than somebody paid equally in a different field would. In 2016 Apple, one of the biggest companies in the world, paid an effective tax rate of 25.8%, about 9% lower than the statutory rate set by Congress. Now one could argue that allowing these loopholes and easing the tax burden on large companies helps the economy and to some extent they may be right. But as I said, moderation is key. Slightly raising corporate taxes and closing loopholes would go a long way to closing the gap on the deficit. This could be done without an amendment, simply by changing the tax code.
We face a tough economic and social problem trying to run a government here in the United States. The national debt is brought up during almost every presidential campaign and debate in recent memory. As politics in the United States continues to be more and more divided, it will probably only get worse and as we spend more and more, the debt will continue to climb. Hopefully now though, when your friend asks you, “how come I can’t have a credit card that big?”, you can tell them why.