Economics Essays: US National Debt

On 24 Sept 2008, the total amount of US National Debt stands at $9.7 trillion or $9,789,212,150,663.03. It is forecast to rise to $11.3trillion by end of next year.

This equates to $32,118.36 per person.

US Debt as a % of GDP Chart

This is perhaps a more meaningful measure of GDP. If National Debt increases 1% every year, but GDP increases by 2%, the National Debt will become a smaller % of the nation's output. You can see there was a huge surge in National Debt during the Second World War, which took many decades to reduce. From this graph we can see that National debt is not only increasing in real terms, but, increasing faster than the rate of economic growth.

National Debt as a % of GDP increased sharply in 1980-1992, as Reagan and G.Bush increased military spending and cut taxes.
The Clinton years were remarkable for achieving a rare budge surplus, helping to reduce the National Debt as a % of GDP. (This was helped by strong growth and fiscal restraint)

National Debt and Public Debt

Public debt is the actual amount the government owe in the form of bonds and government securities. National debt includes public debt + intergovernmental debt e.g. pension obligations, money owed to social security funds. An ageing population has increased the amount the government owe to its own pension funds.

Obligations not Included

When the Government effectively guaranteed Freddie Mac and Fannie Mae, they didn't included their liabilities on the National debt statistics. The argument is that they are basically sound companies. But, if they did lose more on mortgage defaults, it would increase national debt.

Forecasts for US National Debt

The current crisis will increase the US national debt because:

Bailouts for Banks and Finance companies e.g. $85bn loan to AIG. Paulson's $700bn bailout package.
Slowdown in growth causes lower tax revenue and higher spending on unemployment benefits e.t.c.
The National debt will be determined by the extent of bank losses, and how much the federal government agree to absorb.

Henry Paulson is asking for an increase in the legal ceiling on federal debt to $11.3 trillion or 70% of GDP.

However, there are concerns that a prolonged slump in the economy and house prices could lead to an even bigger national debt. If house prices keep falling and if unemployment rates rise sharply there could be even more defaults in mortgages. Given government intervention it appears that mortgage debt is becoming closely linked to National Debt.

Reasons for National Debt

Tax Cuts. During the Bush years, taxes were cut
Spending Increases. The biggest area of spending is on social security. Foreign intervention in countries such as Iraq have also increased spending.
Political Pressure. you don't seem to win an election by promising to balance the budget. There is a strong political incentive to promise tax cuts, but not to cut spending.
Ageing population. Demographic factors are causing an ageing population. Old people pay less tax and receive more benefits. The government is liable to pay an ever increasing Medicare budget
Cyclical Factors. Debt will increase in an economic downturn.

How Is National debt Financed?

The National Debt is financed by selling Treasury bills and bonds to the private sector. They are then bought by private individuals, investment trusts, pension funds. Some of these are bought by foreign investors e.g. Chinese banks with large foreign exchange surplus.

Foreign ownership of the National debt has increased to 25% of the total - How is debt financed
The biggest holdings of US National debt is:

Japan $592bn
China $502bn (China has a total of $1trillion dollar based assets)
UK $252bn

Risk Of Debt Default

With increased liabilities in addition to the demographic changes, some feel that the small risk of the US government defaulting on debt has increased substantially. The credit swap on US debt has increased suggesting that markets think the likelyhood of debt default has increased. If this were to happen (or even if people felt it a real possibility, dollar assets would be sold causing a run on the dollar.) See: US is on verge of bankruptcy

Difference between National Debt and External debt

External Debt represents the amount owed by the US (both government and private) to other countries.

Difference between Government debt and trade deficit

Effects of National Debt

Higher Debt interest payments - debt interest payments amounted to $240bn a year. This is the 4th biggest form of government spending.
Burden on future tax payers
Reliance on country's like China to buy US debt. This makes dollar vulnerable to declining debt.

See: Effects of National Debt

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