From: ipser@solomon.technet.sg (Ed Ipser)
Newsgroups: sci.econ
Subject: Re: Confronting the Deficit/Debt Boogyman
Date: 8 Apr 92 03:43:23 GMT
Article-I.D.: nuscc.1992Apr8.034323.3954
Organization: TECHNET, Singapore

In article <1992Apr7.205923.2212@clipper.ingr.com> ald@clipper.ingr.com (Al Date) writes:
>In article <1992Mar30.061109.26002@nuscc.nus.sg> ipser@solomon.technet.sg (Ed Ipser) writes:
>>In article <1992Mar28.235325.16534@Princeton.EDU> jmo@courant.princeton.edu (Mike Orszag) writes:
>>>The levels of debt in the late 19th century were relatively low and were
>>>accompanied by a growing economy.
>>
>>They were also accompanied by a working Tenth amendment and, generally, a
>>much smaller federal government. Also, this was before the corporate income
>>tax and the tax on capital gains which together decrease the value of equity
>>as an instrument of investment financing. But I'm digressing.
>>
>>Let's return to the issue: How is it harmful to the US economy to decrease
>>the net assets held by the US federal government?
>
>I admit to being seduced by Mr. Ipser's argument, but I have more questions
>than answers.
>
>It is almost an article of faith (and I confess to being a believer myself)
>that the runaway national debt portends ultimate economic disaster.
>I find the Ipser argument that the rising debt is merely 
>equivalent to a devaluation in net assets held by the federal govt
>to be intriguing, to say the least.  Please correct me if I misstate
>the proposition.

This is the essence of my argument. Whereas states, cities, corporations,
and households have tended to use debt to pay for the purchase of other
assets (e.g. bridges, roads, collesiums, capital equipment, houses, etc.)
the federal government is issuing bonds to pay for welfare spending. It
borrows and then gives the money away.

>Of course, if any entity devalues its assets into the ground, 
>it is equivalent to being bankrupt, is it not?

Well, if not bankruptcy, then Chapter 11 reorganization will be the
ultimate result if the process continues unabated.

>I guess one premise that we have to question is whether govt bankruptcy
>is necessarily bad for the economy.  If this were to stop govt borrowing and
>otherwise proscribe the activities of govt, it might be an economic positive
>at some point.

Heresy! Get thee behind me Satan!

>Certainly there are negative side effects of a bankrupt govt, especially
>when there is no White Knight on the horizon.  
>The problem I see is that this govt has the power to extract wealth
>from the people to ameliorate the side effects of its (impending) 
>bankruptcy.  The govt could do this through taxes or inflation,

There is also the option of privatization and default. In the former case,
there would be no catastrophe, in the later case, the federal government
would crash dragging down the lenders with it.

>but if it were approaching a point where interest payments on the
>national debt were exceeding national income, it is unlikely that
>it could continue to borrow at some point.  Or could it?

At some point, lenders will begin to question the government's ability to
pay interest on the bonds, much less repay them. This will first show up
as an increased interest rate on government bonds which will, in turn,
accelerate the process. At the same time, the prospect that the
government might be unable to roll over its current debt will threaten
the value of bonds currently held and temper lending toward such a
situation.

Also, as an ever greater percentage of government spending goes for
interest payments, people will begin to look to other institutions to
solve their problems.

>The risk of wealth expropriation during the fiscal devaluation of govt is
>IMO what threatens the economy. Everywhere we hear that it is time to
>soak the rich.  As things deteriorate, envy is likely to become
>pandemic.  Envy leads to expropriation, which kills investment, which
>destroys an economy.

It is important to distinguish between confiscatory taxes and outright
confiscation or expropriation. The possiblity of new large scale
confiscatory taxes seems pretty remote so long as the Republicans control
the presidency. Moreover, the liquidity of capital, today, makes it
extremely difficult for governments to institute discriminatory taxation.
Add to this the fact that such taxes would likely REDUCE federal tax
revenues, it seems unlikely that even if such taxes were instituted, they
would get the federal govenment out of its current bind.

Expropriation is perhaps the worst possible outcome, and the least probable.
First, such expropriation would be unconstitutional and coupled with a loss
of faith in the federal government's solvency, any large scale attempt by
the federal government to, for example, as once poster put it, sell
California to the Japanese, would most likely result in secession and/or
civil war. The idea that the federal government is going to nationalize
private property to pay down the debt is fairly far fetched and totally
impossible.

In fact, it is precisely because socialism has lost its popular allure that
the federal government is in the bind that it is today. As more and more
people come to see government not as the solution, but as the problem, its
ability to coerce others to its will becomes successively weaker. It
is important to note that, accoding to pollsters, the new generation of
Americans is the most Republican since the Civil War.

The absolute worst possible thing for the economy would be for the federal
government to try to tax its way out of the deficit/debt as Bush tried to
do.

>The question I would ask Mr. Ipser is: Isnt the govt in or approaching
>a position of negative net worth?  

This depends entirely on the value of the assets held by the federal
government and the method of evaluating them. The appropriate method of
evaluating the government's assets is to consider what they would be worth
in the hands of private citizens. In the event of an equity for debt
swap, bond holders will find themselves in possession of federal assets
and the bond value they would be willing to relinquish for the title to,
say, federal park land, would bear little relationship to the amount of
income generated by that parkland under federal administration.

An alternative perspective is provided by the continued willingness of
lenders to buy bonds. The idea that government bonds are of the highest
rating by definition or such is entirely without foundation. There are
many states and cities, for example, where it is considered more
dangerous to lend to the government than to coroporations operating
within the government's jurisdiction. Yet federal bonds remain of the
highest reputation. The market seems to consider them quite safe
investments despite a $4 trillion debt and $300 billion annual interest
payments. If bond holders are not worried about default or inflation, why
should we?

At this point in time, I don't think the evidence supports the assertion
that federal liability exceeds federal assets.

>If liabilities exceed assets by a large amount then doesnt
>the issue of the devaluation of govt assets become irrelevant to the
>issue of govt cash flow (with immediate repercussions in the economy)?

In a sense, federal assets are already irrelevant to the issue of federal
cash flow since the federal government does not generally charge users of
its assets. For example, adding new interstate highways does not increase
the revenues of the federal government since there are no tolls on the
roads.

The relationship is more important with respect to the credit of the
federal government. As the liabilities approach or exceed the assets held
by the federal government, bond holders essentially are left with no
collateral and, so, will perceive a higher risk and charge higher interest
rates or refuse to make loans altogether.

>And, isnt the debt run-up not only a devaluer of the govt's assets, but
>also a threat to its very viability?  I am no fan of the status quo
>of statist govt, but it seems imprudent to let it destroy itself by
>profligacy.

It depends on the choices. If the choice is between lower spending and
higher deficits, I will vote for lower spending. But if the choice is
between lower taxes or a lower deficit (or higher taxes and a higher
deficit), I will vote for lower taxes.

>But then, maybe it is inevitable.

I hate questions of inevitability. Let's just say that it is the current
trend barring some major change in politics. In fact, if anything, opponents
of the deficit/debt underestimate the political tenacity of it. Consider:
how are you going to convince an electorate addicted to a higher level of
federal spending than federal taxes (currently $100 billion) that in order
to save the welfare state, they will have to suffer a higher level of taxes
than spending? How much more? Well, at least $300 billion more just to keep
the debt in check since that is the amount of interest payments.

Little wonder, then, that politicians can't resist raising spending by a
$1.50 for every $1 in new taxe revenues.

>Perhaps we should start planning for the next Republic.

Let's work instead on restoring the one authorized by the US Constitution.
In a post-Cold War environment, a federal government constrained to its
constitutional powers of national defense, foreign policy, and interstate
relations should be orders of magnitude smaller than the welfare state we
have today.

The government outlined in the US Constitution may not be perfect, but it
is better than the one we have now.