From my earliest days on this planet, I was well taught the universal Christian principle, “it is more blessed to give than to receive.”
As a precocious (which is a euphemism for “smart aleck”) youngster, I recall remarking that without a receiver there could be no giver. With an attitude like that, I suppose I was destined to study macroeconomics where one man’s purchase is another man’s income and one woman’s loan is another woman’s investment.
Over the years I have verified that indeed it is joyful to render service to folks in need. By the same token, it can be humbling and gratifying to be at the receiving end of another’s kindness and generosity.
It is within this paradigm that I introduce the topic we promised last week to revisit.
During the past several weeks we have noted that the developed economies of the West have, for sometime now, been moving in the direction of the Japanese economy. The basic economic characteristics include an aging population which attempts to save more than it invests. Such a situation gives rise to chronic unemployment or under-employment unless the public sector steps in to raise its deficit-financed spending.
We have noted that Japan has done just that, and has consequently maintained a surprisingly high level of employment despite its many headwinds. As a byproduct, the Japanese government debt load has risen dramatically to levels unimaginable in this country.
What do economists, as opposed to the media and talk show pundits, actually know about government debt? Much.
First, government debt is not a “bad thing” per se. Note that government debt is comprised of treasury notes and bonds issued to finance a shortfall of public revenues relative to government spending. Now bring the clock back to late 2008 and early 2009. Do you remember the absolutely terrifying plunge of the world’s stock markets?
During that perilous period, how did treasury bond prices behave? How did government debt prices react to the panic? They saved the day for anyone who had significant portions of their portfolios dedicated to government debt. Bond prices underwent a breathtaking rally. Clearly, government debt is not a “bad thing” per se. It offers safety in times of trouble.
What else have economists learned about government debt? Whether it is appropriate to expand the level of government debt or not is highly dependent upon the conditions of the macro economy. Government debt is produced through government deficits. Deficits occur when the government spends more than it receives in taxes and fees. To fund the revenue shortfall, the government issues debt in the form of notes and bonds.
The key here is spending. As might be obvious, running a government deficit can be a very good thing, when the amount of savings exceeds the amount of private investment spending as discussed during the past few weeks. Economists have noted time and time again that during times of weak private sector spending, increased government spending can, and does strengthen the labor market. It saves and creates jobs.
It should also be noted that, during “normal” times (when private sector investment equals or exceeds desired savings), if the government spends more than it takes in, its borrowing crowds out the business community. This can lead to slower economic growth and possibly inflation. In this case increases in government debt may well be inappropriate.
As an analogy, if a neighbor is in serious need of support, a helpful handout from charitable chums can save the day. In contrast, there are times when a flow of funds to a failing friend will improperly postpone potentially painful course corrections. Similarly, government debt expansion can be essential at certain times and imprudent at others.
Is there more that we know about government debt? Yes. The levels of debt a developed economy can handle is far more than politicians and the press can imagine. We can look to Japan for proof of this position.
As we have mentioned in past weeks, Japan has amassed a level of government debt, relative to the size of their economy, far in excess to levels we have ever experienced in this country.
What happens to debtors who find themselves over their head in hock? Legitimate lenders shut down the lending spigots. Only high interest loan sharks will venture into the debtor’s venue.
Has this been the plight of poor, debt-ridden Japan? No. The Japanese government currently borrows 10 year money in the international capital markets at 0.46 percent. Yes, that is less than half of one percent. Apparently Japan is not over its head in hock. Why? How is this possible?
The Japanese government borrows and spends so as to balance the difference between high household savings and low business investment spending. Their borrowing is not one of extravagance but rather of equilibration. When this is the case, debt can rise seemingly indefinitely without adverse consequences.
How can one tell whether an expansion of government deficit spending is a help or a hindrance? In the big picture this is fairly easy to answer. Generally, when the economy experiences a shortfall in spending, unemployment begins to rise. In such cases our central bank (the Federal Reserve bank) can lower short-term interest rates and restore the balance of savings and spending.
When borrowing costs go down, households are more often than not likely to increase spending on houses and automobiles. At the same time, businesses are also induced to spend for investment purposes since interest costs are reduced.
Sometimes there continues to be a shortfall of spending even if the Fed pushes interest rates down to zero. When this happens, only an expansion of deficit financed government spending will fill the gap. Such a shortfall, at zero interest rates has been the condition in Japan for 25 years. It appears that this is the direction other Western economies are moving.
It has now been six years since the Fed put the overnight inter-bank interest rate at zero. Have we restored the economy to full employment? Maybe you can answer that one. Do you know anyone who is still out of work or would prefer a better job? Several you say? There you go.
But what about the rising debt load from those government deficits? Will it not burden our posterity? Stay tuned.
(Marcus Hutchins, MA, M. Phil, Economics, Columbia University, NYC, is a former economist, treasury bond arbitrage trader and hedge fund manager. He retired to Southport in 1997 where he resides with his wife Andrea and his youngest daughter Abbey. He welcomes feedback at coastaleconomist@me.com.)
