Government As The Homeowner, Revisited: To Scrap Or To Invest?

Consider a homeowner who owes a typical mortgage on a house and makes just enough to keep up with the bills and maybe every once in a while treat the family to something nice like a dinner out or a trip to the zoo.

Does it make sense for that homeowner to sell the car he uses to get to work in order to pay down the mortgage faster?

How about if he skips paying for the annual licensing for his field of employment (required for his career) to pay down the mortgage faster?

In order to pay down that mortgage faster, does it make sense for that homeowner to stop buying food for the kids, getting reasonable check-ups and other medical attention as needed, and keeping the house warm enough that the pipes won't freeze?

Should the homeowner cut out all trips to the library for books for the kids so as to save on gas and send bigger mortgage payments? How about toys? Should the homeowner never buy a toy again until the mortgage is payed off, even if it's a just started 30 year mortgage and he has a newborn with no toys beyond a single teething ring?

Does any of that really, truly make sense?

How about investments? Should the homeowner stop contributing a modest sum to his retirement plan and an education savings plan for his kid? Even if both of those investments are expected to have a return higher than the interest on the mortgage?

And if the homeowner can reasonably expect to get significantly higher pay from investing in his career, what then? Let's imagine this homeowner could put $1,000 on his low interest home equity line and get training and certification that on average increases a certified individual's pay by $1,000 a year. Would it be more sensible, rational, and responsible for the homeowner to get this certification or to avoid taking on a little bit more debt?

Our government is this homeowner. Our debt is this manageable mortgage.

When we're at full employment -- unlike now -- there would be no certification we could expect to be a safe bet to increase our income steadily. But we're not there. Not even close.

When we're well below full employment on account of a consumer demand shortfall -- like now -- just about any additional spending we have the government do can typically be expected to add to commerce and help push us that little bit closer to full employment. That means higher revenues. And that's without even focusing it into the most useful spending, which we can and should do to get the most bang for the buck by spending on adding to infrastructure, R&D, and other investments known to build the most revenue.

It should already be an obvious choice. But unlike the homeowner, the government gets an additional win by investing that spending in increasing revenue. Since additional employment means less unemployment, medicaid, and other liabilities, the government reduces its costs by increasing its revenue. That's not just a win-win ... it's a no-brainer. It's stunningly obvious. We should be investing in raising our revenue by engaging some short term spending (preferably including long term investments in that short term spending).

Now if only the budget cutters in Congress could see that.

Jobs Versus Budget Cuts: It's One Or The Other

So many still seem to be missing this basic point:

"Right now the central challenge is to reignite the economy — getting jobs back, improving wages, and restoring growth.  

Deficit reduction moves us in the opposite direction. That’s because most consumers (whose spending is 70 percent of economic activity) are still losing ground, and businesses won’t expand and hire without more consumers." 

- Robert Reich in "The Economic Challenge Ahead: More Jobs and Growth, Not Deficit Reduction"

At least, so many among the Republican movers and shakers and apparently in the Oval Office too. Why? One can only presume that they're still taking it on faith that reducing the deficit is the most important thing ever, despite all the mountains of reason to believe otherwise.

One data point in that mountain, as Reich puts it,

"Likewise, cuts in government spending, such as occurred in the fourth quarter of 2012, cause the economy to contract — as it did in the fourth quarter."

In order to move the country in the right direction, policy needs to get the basic problem correct. So long as they figure deficit reduction via budget cutting is the order of the day, they'll continue to hurt. Everything. Including the deficit.

"For 60 years (!) the pattern has held. When unemployment drops, the deficit as a percentage of GDP drops. When unemployment rises, the deficit rises." 

- Joe Weisenthal in "There's Only One Way To Fix The Deficit — And Actually It's Totally Painless"

Sure, we could possibly have jobs despite their budget cutting. After all, we've had some recovery so far, if a rather anemic one. But that's despite their budget cutting. The whole economy -- including the debt/deficit picture -- would be better off if deficit hawks weren't hamstringing us with their fixation on budget cutting.

Why The Focus On The Debt? Why Now?

A question that needs to be asked anytime anyone rants about debt/deficit: why the focus on the debt? Why now?

Or as Krugman put it in an interview with Bill Moyers while answering who the Very Serious People are,

"People for whom this, it's axiomatic that the budget deficit is the most important problem. And that what we really, really need to do right now at a time of mass unemployment is worry about the debt to GDP ratio ten years from now. And it's a very hard thing to crack, partly because it's not actually a rational argument. You very rarely, very rarely see on the Sunday talk shows, people asking, "Why exactly are you so concerned about the deficit right now?" That's sort of a given. That's a starting point. Everybody serious understands that, except that if you ask them why exactly, they can't give you a very good answer."

We as a society need to stop accepting without question that the debt/deficit is somehow an urgent matter. Just because it's a numeric value outside of our usual realm of day-to-day household numbers does not make it a crisis.



So what about the converse? Why shouldn't we focus on the debt instead of jobs? Well, rather than duplicating what's already been said well enough by others, here's an excerpt from the Moyers-Krugman interview that answers that question:

"BILL MOYERS: We keep hearing from the right that we're here on the path to becoming Greece, and you say that that's impossible? 

PAUL KRUGMAN: Yeah. We, even if, suppose that people decided, investors decided they don't like U.S. government debt, it can't cause a funding crisis because the U.S. government prints money. It’s even hard to see how it can drive up interest rates because the Fed sets interest rates at the short end, and why exactly would the long run rates go up if you don't expect the Fed to raise rates? It could lead to a weakening of the U.S. dollar against other currencies. 

But that's actually a good thing. That would make U.S. exports more competitive. That would actually boost our economy. So it's, actually impossible to tell that story, as far as I can tell. And yet, it's not, again we're mostly not in the realm of rational discourse here. It's one of those things where people say it, they hear other people saying it. And they don't actually try to work it through. 

And it plays a big role, I'm sorry, in influencing our public discussion. Interestingly, people who actually have money on the line, that is people who are buying bonds, just keep on driving U.S. interest rates ever lower. So actual investors don't care about this stuff. But our political class does. 

BILL MOYERS: Why don't they care? 

PAUL KRUGMAN: Because first of all, because I think at some level investors understand what I'm saying. That it's very difficult to see any reason why the Fed would raise short term rates, which it controls for years to come. And in that case, long term debt even at a pretty low interest rate is a reasonable investment. Hard to see how a financial crisis actually develops against the United States, U.S. government, which is in this you know, has all the luxury of printing its own currency. 

And investments are always about compared to what, right? If you if you say, 'Well, the U.S. is a dangerous place to invest,' I don't think it is, but particularly where is the safe place that people are going to invest? You know, what is this other asset that they're going to buy? And it doesn't really exist."

Fiscal Conservatism And Necessity

We're in a depression. To many, that's stating the obvious. But it seems not quite everyone realizes just yet.

GDP depressed below normal levels from 2008 through this writing

Our commerce has been significantly below capacity for several years. By the end of 2008 the quarterly output gap exceeded even the previous record (from 1982) for output gaps since 1949. We've seen the main characteristic factors of depression beyond just the raw output gap: increased unemployment, tight credit for consumers and small business, and bank failures (though many of the potential failures were averted). And as anyone familiar with Irving Fisher's work should know, we'd surely have had significant deflation from the paying down of private debts were it not for a series of Fed actions to mitigate deflationary forces.

Deficit hawks ignore the reasons for our deficits in recent years. Depressions increase short-term costs. People out of work utilize the safety net when they wouldn't otherwise. We have a severe short-term increase in costs. At the same time, depressions also reduce revenue. We bring in less tax money because fewer people are getting paid, and often smaller real wages.

There's one clear answer to get rid of deficits: get people back to work. Rev up the economy back to potential. Close the output gap. Until we do that, we'll continue to have increased costs and reduced revenues.

In our attempts to close that output gap, today's fiscal conservatives hamstring us with massive state budget cuts to avoid the temporary tax increases and/or bond issuance needed for dealing with the downturn. Their unwillingness to raise revenue means lots of layoffs, slowing down our economy while hurting the quality of services that we the people want. Many of us would willingly pay more in taxes to keep quality of service through an economic downturn. Many of us would be more than willing to pay more in taxes to keep investing in the sort of growth-spurring government measures that can get us back to expansion. But fiscal conservatives will brook no such sensibility. So instead we get slower growth and less prosperity. Like our slow recovery? Thank a fiscal conservative. Like our rising tuition costs for students? Thank a fiscal conservative. Like our broken roads increasing business costs? Thank a fiscal conservative. Like fewer research patents being licensed to domestic businesses than we'd otherwise have over the coming years? Thank a conservative.

This impact is nothing new. We had deficit hawks and credit growth hawks to thank for the recession of 1937-38 when attempts to balance the budget and tighten monetary policy put a crimp in recovery from the Great Depression. We had sharp cuts in the name of balanced budget zeal to thank for the recessions and increased unemployment under Eisenhower. Time and again, we keep having to re-learn the lesson that sharp cuts hurt even when they're earnestly meant to help.

We're long overdue to stop letting fiscal conservatives shape the narrative. We need to stop worrying about balancing the budget when we're in the midst of a downturn. When the economy's roaring at full steam, then we can afford to mess about with budget balancing. Until then, we can't afford their cuts.

One needs to already be in good shape to recover from a deep, large, sharp cut. Until we've eliminated the output gap, we need more recovery efforts ... not more cuts.

The "Burden of Debt" versus the Burden of a Weak Economy

Dean Baker from "Brad Delong Beats Me To Responding to Nick Rowe":

"... The burden of the debt only exists if there is reason to believe that debt is somehow displacing investment in private capital, which is certainly not true at present. 

I would probably argue the case even more strongly. In a depressed economy like we have today, there is reason to believe that the deficit, by boosting demand, is actually increasing investment, thereby making future generations wealthier. There is also the issue of human capital, that by keeping workers employed and keeping families intact, it is improving the productive capacities of the labor force in the future. 

Perhaps most importantly,it is essential that people understand that the measure of the burden of the debt in future generations is not the size of the debt, but the extent to which we believe the debt has reduced output in the future compared to a counter-factual where we did not run the debt. If the debt did not reduce the economies' future productive capabilities (or even raised them) then there is no burden of the debt. In any case, how well we are treating our children is measured first and foremost by the health and the economy and the society we pass on to them, not the amount of government debt."

(Emphasis added by me)

This is part of why it makes sense to put deficit spending into fixing the output gap. While the economy is rolling, it's rolling slower than it ought to be. If we use deficit spending to push our economy up to its potential, we pass on a more healthy economy to our children.

(For other related comments, see Mark Thoma's "Bogus Arguments about the Burden of the Debt")

And the reverse also holds. In a depressed economy, austerity should shrink what we're handing to our children. Apparently the IMF is starting to learn that lesson about Europe, though as Krugman points out, the GOP seems not to have caught on to the lesson.

Moody Broody Debt

From "Moody's threat to downgrade US debt is political, not fiscal":

"In the real world, the US doesn't even have a debt problem – net interest payments on the public debt are less than 1% of America's national income, or as low as they have been for more than 60 years. And the long-term deficit projections are a result of our healthcare system: if you substitute the healthcare costs of any other high-income country (or any country with a life expectancy as high as ours) in the US's budget, the long-term deficit turns into a surplus.
But Moody's wants us to be scared of the federal debt, so as to advance a rightwing agenda. But what they are doing is making a good case for serious reform of the ratings agencies."

Clinton's Convention Speech in Images

On the argument for President Obama's reelection:

Are we doing better than that today?

Job scoring:

Republican economic policies:

Trickle-down:

President Clinton's Convention Speech: highlights from the prepared text

Highlights from the prepared text for President Clinton's Convention Speech:

"It turns out that advancing equal opportunity and economic empowerment is both morally right and good economics, because discrimination, poverty and ignorance restrict growth, while investments in education, infrastructure and scientific and technological research increase it, creating more good jobs and new wealth for all of us."

...

"In Tampa, the Republican argument against the President's re-election was pretty simple: we left him a total mess, he hasn't cleaned it up fast enough, so fire him and put us back in."

...

"I like the argument for President Obama's re-election a lot better. He inherited a deeply damaged economy, put a floor under the crash, began the long hard road to recovery, and laid the foundation for a modern, more well-balanced economy that will produce millions of good new jobs, vibrant new businesses, and lots of new wealth for the innovators."

...

"The Recovery Act saved and created millions of jobs and cut taxes for 95% of the American people. In the last 29 months the economy has produced about 4.5 million private sector jobs.  But last year, the Republicans blocked the President's jobs plan costing the economy more than a million new jobs. So here's another jobs score: President Obama plus 4.5 million, Congressional Republicans zero."

...

"Now there are 250,000 more people working in the auto industry than the day the companies were restructured.  Governor Romney opposed the plan to save GM and Chrysler. So here's another jobs score: Obama two hundred and fifty thousand, Romney, zero."

...

"The Republicans call it Obamacare and say it's a government takeover of health care that they'll repeal.  Are they right? Let's look at what's happened so far. Individuals and businesses have secured more than a billion dollars in refunds from their insurance premiums because the new law requires 80% to 85% of your premiums to be spent on health care, not profits or promotion.  Other insurance companies have lowered their rates to meet the requirement.  More than 3 million young people between 19 and 25 are insured for the first time because their parents can now carry them on family policies.  Millions of seniors are receiving preventive care including breast cancer screenings and tests for heart problems.  Soon the insurance companies, not the government, will have millions of new customers many of them middle class people with pre-existing conditions.  And for the last two years, health care spending has grown under 4%, for the first time in 50 years."

...

"Both Governor Romney and Congressman Ryan attacked the President for allegedly robbing Medicare of 716 billion dollars. Here's what really happened. There were no cuts to benefits. None. What the President did was save money by cutting unwarranted subsidies to providers and insurance companies that weren't making people any healthier. He used the saving to close the donut hole in the Medicare drug program, and to add eight years to the life of the Medicare Trust Fund. It's now solvent until 2024. So President Obama and the Democrats didn't weaken Medicare, they strengthened it."

...

"Remember, Republican economic policies quadrupled the debt before I took office and doubled it after I left. We simply can't afford to double-down on trickle-down."

Where Have Those Mittens Been?

From Matt Taibbi's "Greed and Debt: The True Story of Mitt Romney and Bain Capital":

"And this is where we get to the hypocrisy at the heart of Mitt Romney. Everyone knows that he is fantastically rich, having scored great success, the legend goes, as a "turnaround specialist," a shrewd financial operator who revived moribund companies as a high-priced consultant for a storied Wall Street private equity firm. But what most voters don't know is the way Mitt Romney actually made his fortune: by borrowing vast sums of money that other people were forced to pay back. This is the plain, stark reality that has somehow eluded America's top political journalists for two consecutive presidential campaigns: Mitt Romney is one of the greatest and most irresponsible debt creators of all time. In the past few decades, in fact, Romney has piled more debt onto more unsuspecting companies, written more gigantic checks that other people have to cover, than perhaps all but a handful of people on planet Earth."

Why Demand For Treasuries Will Remain High

Back in December, the Financial Time's Alphaville showed us a chart from the Credit Suisse 2012 Global Outlook that should probably have generated more attention than it seem to have received. It explains a lot about the situation for US debt issuance.

There, in a nutshell, we have the single biggest reason why we can offer Treasuries at a negative real yield. Pair that drop in safe assets with the knowledge that many banks are required to maintain a certain amount of safe collateral. Their need for such safe assets hasn't dropped, but the supply of such assets has imploded far below what they need. This is a recipe for voracious demand for US Treasuries.

The supply of alternative safe assets isn't likely to expand much anytime soon, since trust in MBS issues evaporated. At worst, we can reasonably expect to be able to sell as many Treasuries as we might want at very low rates for a long time to come. Most likely, we can reasonably expect to continue selling Treasuries with a negative real yield for a good while longer. That means that for the foreseeable near to mid term, investors and banks will continue paying us (after accounting for inflation) to hold their "safe" money for them.

There is no debt crisis looming for the United States. None whatsoever.

See also Cardiff Garcia's "The decline of “safe” assets".

Our Govt Must Do As We Do

Most of us know what it's like to have to spend money to make money. So why do so many find it counter-intuitive that our nation might have to do the same? We should all know that need from our own lives. Perhaps it's just that our personal vocational spending strikes us as more obvious because we know so directly that we need it.

Oil draining during auto maintenance

We live with many ways we must spend money to maintain our income, let alone increase it. For many, we start by taking out loans for a college degree, but that's only the beginning. Some of us have to purchase training or educational materials every year to keep current. And some must pay annual license or certification fees. Commuters, the vast majority of Americans, must travel to work to keep earning a paycheck, so the car payments must go out every month, the tank must be filled, and the maintenance must be done. Those in snow-prone states must buy shovels and often find ice-melting products an income-preserving investment. Telecommuters have a different set of bills for virtually getting to work, but the costs are no less necessary. Various craftsmen must spend significant amounts on raw materials. Often, the total annual material cost dwarfs the profit from the craft after covering material costs. Most shopkeepers know that story well, as it's a lucky business indeed whose net profits from selling products are significantly larger than the wholesale costs paid year after year.

What's this have to do with our government? Our government's income comes from the economy at large. That economy at large has needs just as we do individually. Commerce grows on better roads and stagnates on worse roads. Businesses thrive on an availability of healthy, qualified workers who can concentrate on their work confident that govt services such as fire and police protection will be there for their homes. And some of those workers are available during the day because after decades of honest work their parents were able not only to retire and get by in a reasonably dignified manner but also with basic medical needs covered. These things cost money. Without them, our nation's commerce would stagnate, reducing tax revenues. We can only maintain our federal income by spending on a variety of national necessities that keep our system of commerce working.

How much spending to make money is reasonable? Individually, that depends on the profession. But the simple answer is: that which at least covers what's necessary to get by but beyond that is not so much we can't profit. With all the attention on our debt, one might think we've been spending more than we can call profit. But there's more than one way to profit. The masters of finance and investment don't focus just on leveraging costs alone but also consider rates of return as well as inflation when deciding where to place bets and for how much. As Ezra Klein pointed out recently, negative real yields on Treasuries can mean "the government is getting paid to keep money safe." This implies that our safe-haven status could -- at least for a while -- mean we're profiting from our borrowing even before considering what we might be doing with that money to increase commerce. But then add in what we can be doing with the money to improve infrastructure, access to healthy, qualified workers, and more. If we do the basic maintenance on our economy plus some efforts at improvement, we should generally expect better growth. If that spending helps national income growth outpace the growth of the debt, what more justification should it need? After all, most of us invest in increasing our own incomes even when it's an ongoing cost.

But how much debt can we manage to juggle to keep oiling the gears? While that's a difficult question to answer, one might consider that historically the full faith and credit of the US govt has been more stable than houses, especially recently. Let's imagine our national govt were looking for a new home loan. We're currently taking what amounts to a voluntary pay-cut with the temporary tax cuts. Given the 2010 GDP of $14.5 trillion and our historical average revenue of 18% of GDP, we should theoretically have had a 2010 revenue around $2.61 trillion. For 2010, playing it safe by using a conservative 28% payment-to-income ratio for affordability, our theoretical govt-as-homeowner loan could have been around $14.5 trillion. In 2010, our debt was $13.5 trillion, around 7% lower than we could have afforded by traditional home purchase standards. And that's not even accounting for the full faith and credit being more solid than houses.

The Second Paradox of Thrift

We generally consider savings good for individuals as a matter of common sense. One would naturally think it would be good for the nation as well. As it was put to me at one point, "But if a household gets ahead by saving, not spending, why don't a million households?" The question requires different answers depending on whether you're concerned with those million households as an aggregate of individual spenders or as a unified spender through a national government.

The traditional answer considering the aggregate of individual spending hails as the paradox of thrift. The typical increase in savings by the average consumer comes via reducing spending rather than from an increased income. Given level income, as one consumer spends less in order to save more, that consumer increases his personal net worth. However, the decrease in spending lowers that individual's contribution to demand. If decreased spending by half the potential spenders is offset by increased spending from the other half, then there's a break even for the overall economy. But if every spender in an economy spends 1% less in an effort to save more, then overall demand for goods and services would be diminished by roughly 1%. When supply and demand happen to be matched, that reduced demand doesn't require as many employees as before to fill the orders. The resulting layoffs mean fewer people can save thus ironically causing reduced aggregate savings from a too aggressive (or panicked) shift towards individual savings.

On the other hand, if we're talking about those million households in the unified sense of a national government, we need to look at a different aspect of the question. At that point, we can shift our focus to that first part about "gets ahead". Almost no household truly ever gets ahead by saving rather than spending in real life. Saving is how households that are already ahead maintain that being ahead. Households get ahead in the first place by spending on tools to increase income (such as job training, education for higher-wage jobs, tools for trades, goods to improve and sell, etc.). Saving foolishly can be far worse than spending wisely.

In that sense that recognizes that certain debts can increase future income by more than the debt, what's good for households can be good for nations. For a nation that's already doing great, saving could do a wonderful job of steadying the already rolling wealth. For a nation that's not doing well, investments in improving the national potential will tend to do much better. In that sense, it's just like an individual. Your high-income CEO would be wise to put enough money into safe investments that he no longer has to have his job to pay the bills and just does it for personal satisfaction. Your broke high-school graduate would be better advised to get an engineering degree on loans than to try to save up from working at a gas station or other low-wage job. A nation in steady growth (or a boom) mirrors the situation of the well-paid CEO or engineer. A nation in low growth (or recession) mirrors the situation of the low-paid laborer who can't quite afford the basic cost of living and will never be able to save up enough to make a difference without taking on debt to achieve a higher income.

Simply put: If you have a high income (strong growth), it is wise to save. If you have a low income (weak or negative growth), it is more wise to spend on increasing your income. The second paradox of thrift: for an individual or nation, you have to already be doing well before thrift makes as much sense as spending wisely.

We Could Pay Off The Debt. But Should We?

We could do it. If we wanted to, we could eliminate the deficit with taxes alone. The real question is whether we should.

Debt in perspective

Yes, you've probably heard that we can't. You've probably heard the claim that the deficit is unmanageable. You've probably heard the claim that the debt is some grand, unapproachable amount that we already can't possibly hope to pay off. You've probably heard the claims that our debt is so high there aren't enough assets or income in the country to cover it.

They're flat-out false. The only question is whether they believe what they're saying or they're purposefully lying.

Here are the numbers from the census data, the treasury, the fed, and the standard deficit projection:

• Number of households in 2010: 118,682,000
• Mean 2010 household income in 2010 dollars: $67,530
• 9/23/2011 current debt: $14.7 trillion
• Projected 2011 deficit: roughly $1.3 trillion
• Household 2010 net worth: roughly $57 trillion

So take those numbers above and we can see that:

• Net worth / household: $480,275
• Federal debt / household: $123,861
• Net worth after US debt / household: $356,414 (far higher than median net worth)
• National income / household: $67,530
• Federal deficit / household: $10,954
• Net income after deficit: $56,574 (significantly higher than median income)
• Deficit / income / household: 16.2%

The particular items of interest here are: 

• $356,414 dollars left over if we were to pay all all federal debt from all household net worth today
• 16.2% as the mean increase required to eliminate the deficit with tax increases alone

As $356,414 is far above the median net worth, most people would say that's far from broke. There would be lots of problems with actually liquidating private net worth, of course, so that's strictly hypothetical. The fact remains, however, that there is enough household net worth in the US to do it and still have quite a bit of wealth. Just because it isn't something we want to do doesn't mean it couldn't be done.

The 16.2% seems like a massive tax increase. But then consider that we've had higher taxes than that before. It wouldn't be all that bad if such an increase were done in a progressive manner. For the bottom 50% of taxpayers, losing 16.2% more of income would be catastrophic. But together they only make about 12.75% of total AGI, so managing without the bottom 50% isn't so hard. For the top 1% such an increase would be easily survivable and still far below what folks with such incomes would have paid in the 1950s and 60s. Based on the AGI's if we taxed the top 1% an additional 40%, that alone would cover over half the deficit. Just for a rough example, if we were to raise effective tax rates by 40% on the top 1%, 15% on the rest of the top 5%, 10% on the rest of the top 10%, 5% on the rest of the top 25%, and 2% on the rest of the top 50%, that would net us an additional $1.38 trillion. That'd be well more than enough to cover the deficit. Whether we want to do something like that or not, the fact remains that it could be done. If we collectively wanted to, we clearly could close the deficit with tax increases alone.

If you don't believe my numbers, please look them up yourself. If you don't believe these basic calculations, please pull out your calculator or spreadsheet and run them yourself. You'll find the same thing. We could cancel out the deficit if we wanted to. And we could pay off the debt if we really wanted to. That's part of why our debt is an international safe-haven investment at very low interest rates. But there's another side to the story. Do we really want to have no national debt?

2010 Intragovernmental Holdings

Of that $14.7 trillion, $4.6 trillion is intragovernmental holdings. Over $2.6 trillion is held by the Social Security trust fund alone. Social Security needs someplace secure to hold that cash till it's needed. We don't want them gambling it on stocks or volatile commodities like gold or oil. Even if the rest of the world weren't seeing lots of instability, U.S. Treasuries are the only reasonable option. That means our federal govt must borrow at least enough to be able give the Social Security trust fund a safe place to invest. The same holds true for at least most of the rest of intragovernmental holdings, many of which are insurance or retirement accounts. We don't want them anywhere less safe; and anywhere else is less safe.

So far, we've identified roughly $4.6 trillion of debt that we want right where it is. It would be senseless to force ourselves to find alternatives less secure than the full faith and credit of our own government for those holdings.

Holders of debt, Dec 2010

The rest? As of the end of 2010, there was $802 billion in pension funds. Shall we tell all the pensioners their funds have to be less secure because our debt hawks don't want us to have govt debt anymore? There's $517 billion held by state and local govts. Shall we force our other levels of govt to engage in risky speculation? Depository institutions (i.e., banks) hold $323 billion. Didn't we already get burned by letting banks increase their risk? Do we really want to go there? Wouldn't that be exactly the opposite direction from where we've been trying to push the financial industry? Insurance companies hold $244 billion. Guess why they've put it into Treasuries ... because they need the stability in order to keep insuring us without entirely relying on risky sources to back up our claims. Then there's another $2,046 billion held among mutual funds, savings bonds, and other investors. All of whom look to Treasuries for low-risk investments to balance out our riskier investments with some safe, guaranteed income. Shall we deny all our investors -- both wealthy folks and the grandmother nearing retirement -- the opportunity to choose additional investment beyond Social Security that's backed by the full faith and credit of our govt? To stop issuing federal debt would be to say, "No, you may be ready to retire and seeking to move your funds out of risky assets, but we're not going to let you have this guaranteed income option." Do we really want to say that? Seriously?

What's that leave? The foreign portion, under a third of our debt. That's the part we could seriously consider. That's the part we could pay off without forcing our own govt institutions, companies, and individuals to shift all of their investments into riskier options. But what does that part mean to us? Foreign investments aren't invested in our debt because of attractive rates to them. Quite the opposite; they could easily choose any number of investments with higher rates. But those higher rates all come with more risk. We're the place nations stow cash in case everything else fails, safer than burying it. It isn't about making money off us; it's about making sure they've got enough money socked away where it is more certain to be available than any other option. It's about stability. That means we're issuing debt at very low rates, lower than ordinary inflation. After factoring for inflation, all the world is literally paying us to hold their money safely for them. Why should we turn that down instead of using it to improve our infrastructure and lower our domestic cost of doing business?

Gross Govt Impact

The idea that we should make huge govt budget cuts is premised on the notion that our economy would be better off that way, wouldn't be hurt by it, or at least would soldier on about the same. Sometimes the best insight into that notion comes from people who weren' even discussing budget cuts directly. Daniel Gross's recent article about whether to buy bonds or not didn't touch on the idea of budget cuts at all. It's one and only focus was on whether US govt bonds are still a safe-haven investment compared to stocks. To explain that, he covers the impact on stocks if the US runs up against the debt ceiling and stops spending to not default on bonds.

"The U.S. government occupies a pretty large footprint in the economy. It employs 2.85 million people directly. Next, think of all the businesses, many of them publicly held, that rely on the government  for a big chunk of their business. For-profit education companies, defense contractors, the entire health care industry, Wal-Mart and other retailers that cater to people who depend on federal benefits to help pay their grocery bills. Every large consulting firm, every large tech firm (from Microsoft to IBM) has a large unit that provides services and products to the federal government.

Should the U.S. bump up against the debt limit without resolution, it's possible the Pentagon would delay indefinitely the signing of new contracts for fighter jets. Or agencies would cancel or slowdown payment on IT projects. Or Congressmen and their staffers would see their wages reduced. Or fewer people would get food stamps. The cumulative impact would be less demand, less economic activity, more uncertainty."

In pointing this out, Mr. Gross was ostensibly more concerned with explaining why bonds seem a relatively safe investment at this point. He says, "government reliance on debt to fund of operations and investments is so great that they'd rather alienate workers and citizens and taxpayers than anger the bond market." So all the explanation of what they'd have to do to avoid angering the bond market just explains why stocks are the more risky bet despite debt ceiling fears.

Yet there's a far more important take away than Mr. Gross's surface question of whether it makes more sense to invest in bonds versus stocks. Those payments we'd have to avoid making? They're a lot like the cuts the GOP wants to make. If the Republicans got their way -- the whole thing for which they're playing chicken with the debt ceiling -- we'd see most of those cuts. No wonder they don't care about the debt ceiling, if what they figure we'd avoid paying to avoid default are the things they don't want to fund anyway. And "Of course, all these moves would be contractionary — they'd help slow economic growth."

Contraction, by the way, is more or less a general term for things like recessions and depressions. Mr. Gross didn't speculate on whether those non-payments (or cuts, if de-funded in a relatively orderly manner) would cause a mere recession or a full-fledged depression. But that's really the remaining question for anyone who might be paying attention to where the Republicans goals would shove us. If the Republicans get their massive budget cuts, the question isn't whether it'll hammer the economy, the question is only how hard ... and whether we've ever seen it hammered that hard before.

Why Business Hires, and the Deficit Isn't It

Why would you hire a new employee for your business assuming you had one? All of the answers generally come down to one root: to make the company better.

Better could be a lot of things: producing more products/services, reducing vulnerability to some risk, producing better products/services, improving public image, broadening supply resources, strengthening relationships with vendors/clients/customers, etc. They all more or less seek the same goal. You want your company to bring in more income and do so more reliably.

What's this have to do with the deficit? Nothing.

Seriously, how many businesses can you name that consider the deficit when making a hiring decision? A few financial companies may occasionally see some impact from really big deficit changes on the need to create or eliminate positions related to bond trading. That's most of the jobs that are impacted by the deficit in any real way. Ordinary businesses hire because they need more employees to cover their production or to pitch their products, with absolutely no factoring in the size of the deficit.

None the less, Republicans want us to focus on cutting the deficit despite that many of them campaigned on the idea that they would improve the job situation. So now they're trying to make people think there's a connection between what they promised and what they're trying to do.

"Cutting the federal deficit will create jobs" -- Rep. Cantor (R-VA)

That's completely and utterly divorced from any sort of reality on where we get jobs. The GOP have begun spinning elaborate stories to try to pretend there's a connection. Why is Rep. Cantor making that claim? Voters are concerned about jobs. The Republicans know that right now there's no better pitch for anything than jobs. And they wants to eliminate any govt program they can get their hands on. There's no way to get more support for their plans to ransack govt than to convince voters that it'll help what voters really care about: jobs. Unfortunately, the truth is quite the opposite. The truth is that -- during a troubled economy -- the sort of cuts the Republicans are pushing are worse than doing nothing at all.

Cutting the deficit won't give businesses more customers. Cutting govt spending takes customers away from businesses that provide goods and services to the govt. That's most businesses. Indirectly, that's all businesses. During good times, when the economy is humming along at a fast pace, a govt cutback wouldn't necessarily be a big problem. With the economy struggling to recover from the massive credit crunch and layoffs that were the finale of the Bush II administration, we can't afford so many businesses losing demand from govt purchases. The most obvious reason to hire is to handle greater demand. The most obvious reason for layoffs is because of a drop in demand. There's no more surefire way to drive ourselves back into recession -- or worse -- than massive budget cuts. That's a recipe for even higher unemployment.

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On a related note, for a decent catalog of the Republican record as far as jobs, see ""Where Are The Jobs?":The GOP's Two-Year Campaign Against Job Creation and Economic Growth"

China Doesn't Own Us

Intertwined

With the visit of the Chinese President, Hu JinTao, there's a lot of talk about the amount of our debt that China has financed. Paul R. La Monica, writing for CNNMoney.com, even proclaims "Let's face it. China is kind of like our landlord. Or, if you prefer a more menacing term, our loan shark. We should tread carefully."

The reports of the death of America's financial strength are greatly exaggerated. Yet they're widely believed. According to a Pew poll, nearly half of Americans "see China as the world’s leading economic power." That's a pretty stunning belief when you consider that as of the 2010 IMF figures, the GDP of the US is still higher than that of the next three largest economies combined (14.6 trillion for the U.S.A. vs 14.4 trillion for the combination of China, Japan, and Germany).

So how did a much smaller economy get such a hold over the top mover & shaker? It didn't. According to the Treasury, our total public debt stands a $14.008 trillion. Of that, "intra-governmental holdings" account for about a third at $4.631 trillion. Intra-governmental holdings are the govt writing an IOU to itself from to borrow from all sorts of trust funds and other places where it had money set aside. That portion certainly isn't held by China. The Federal Reserve, various domestic investors (pension funds, mutual funds, etc.), state and local governments, banks, insurance companies, and various other U.S. interests together own large portions of the debt. China only own about $895.6 billion in our debt. Yes, I said "only." That's a large figure to you and me, but it's quite a bit less than is held by our govt lending to itself. It's not all that much more than the amount held by pension funds. It's not all that much more than the amount held by mutual funds. It's not all that much more than the amount held by our state and local governments. It's not all that much more than the amount held by the combination of banks and insurance companies. Lot's of domestic groupings each hold comparable amounts, some more and some less. It's barely more than is held by Japan. It's around 6% of our debt.

At 6% of our debt, that's not ownership. That's not an overwhelming landlord. It's not even a loan shark. Yes, they're a significant lender for us. But they don't have a controlling stake.

Meanwhile, our imports account for about 25% of their exports. And their economy is still largely export driven. If we put strict controls on imports from China it would severely hurt their economy. Strict controls interfering with their exports to the US might well hurt their economy even more than it would hurt ours if they suddenly started dumping our debt. But, of course, they're not about to do that, since much of their cash is tied up in our debt. If they were to sell it quickly, they'd lose a lot of their value from their cash reserves. And where would they put it anyway? The crisis-prone Euro? Not if they've got any sense.

To ice the cake, as David Frum says, it's "a country facing problems as huge as its achievements." They're battling rapid inflation. Their aging workforce situation over the next couple decades may well make our Baby Boomer retirement hurdle look like child's play. And there's been talk of a growing housing bubble in China that may dwarf our Great Recession housing market trouble.

All of this means that China is at least as tied to us as we are to them. They've developed an important relationship with us ... important for both nations. They don't own us.