From: cbbrowne@csi.uottawa.ca (Christopher Browne)
Subject: Re: A NEW WAY TO REDUCE THE PUBLIC DEBT
Organization: Dept. of Computer Science, University of Ottawa
Distribution: usa
Date: Sat, 3 Oct 92 23:00:11 GMT

In article <1992Oct2.172646.27634@bnr.ca> bucknerb@bnr.ca (Brent Buckner) writes:
>In article <8239@lee.SEAS.UCLA.EDU> khanh@curtiss.seas.ucla.edu (Khanh V. Nguyen) writes:
>>This is the answer to the criticisms of my proposed plan to reduce the 
>>public debt thru inflation:
>>
>>A continuous public debt is not unusual, but America's debt has reached
>>a point that it is no longer manageable. The govt. has to borrow more
>>and more to pay the interest. This pyramid game sooner or later will 
>>explode. The only thing to do then is to declare the bankrupcy of the
>>United States and to auction America. My plan is painful, but it is
>>a kind of Shock Therapy. As soon as the debt has been devalued to a 
>>certain point, a new currency will be established to eliminate the high
>>inflation.
>           [further comments deleted]
>>
>It is nice to see discussion and a proposal on this topic.
>
>Now, on to the issue.
>Why bother creating a new currency?  According to your plan, the
>inflation will really be a one-time price rise (let's use your
>doubling of the price level).  For this discussion, I will
>omit discussion of how you would cause the expansion of the
>money supply (although this is a major issue for your plan).
>
>You still have to improve the government budget
>because real interest rates will be high.  Only if the present
>value of your future borrowing is low enough can you
>possibly come out ahead.  Let's look at the results in 1992 dollars.

Consider the problem:  The debt is too high.


Solution:  Reduce it.

What methods are REALLY available?

a) Increase revenues (taxes)  (an income change)
b) Cut spending (another income change)
c) Sell off assets (changes the asset/liability position)

Note that the two popular alternatives: 

I) "Inflate the debt out of existance", and II) "Renege on the debt"
aren't on that list.

Let's see roughly what happens if we try I) or II):

I) "Inflate, inflate, inflate"
Supposing, by some mechanism, we get a 1000% inflation rate, which
makes the $6T debt worth only $0.6T in current dollars next year.
(This would, of course, have many OTHER effects, many of which would
be BAD.  Let's just see what happens to the debt.)

Well, well.  We find that the interest rate that investors will
require goes up to roughly 1000%, in order that there can be a "real"
rate of return.  Suddenly, the government finds itself having to
finance that $0.6T debt at 1000%; meaning that that debt quickly
returns to its old value of $6T.

This wouldn't be so bad if there was a budget surplus, which might be
able to pay the debt down at an accelerated rate, but since deficits
are the rule, you're suddenly paying ENORMOUS interest rates on the
even more rapidly growing debt.

It quickly becomes more important to do something in a) b) and c)
above...

II) "Renege on the debt"

Sure.  No problem.  (Yeah, right!)

But this will have two major problems:

1) People will take the government's example, and stop paying their
taxes.  What's good for the goose is also good for the gander.

Taxpayers would have a really good excuse to pay less taxes; they'll
have major investment losses on any of the money they invested in
government debt.  Banks and pension funds that have money invested in
T-Bills will fail; losing their depositors'/creditors' money.  Mom and
Pop's Savings Bonds will become worthless; and everyone will be
writing off these losses, and won't be paying as much in the way of
taxes.  Government regulations to "deny" such losses would still not
be able to force a pensioner to pay taxes on interest he's no longer
earning on T-Bills that just became waste paper.

Moreover, this "bad example" set by the government will result in more
taxpayers "heading for the hills" and doing the tax fraud thing.

2) There will be an immediate effect that the government's spending
will be FORCED to balance its revenues and expenditures.

Why?  Because after a shock like this, what idiot would be stupid
enough to lend the government money?  (We'll ignore 3rd world loan
situations; we're talking about COMMON SENSE here, not decisions that
are strongly affected by political pressures/bribes/other weird things
that probably don't meet the public eye.)

If YOU declared bankruptcy today, I'd be more than a little reluctant
to give you a loan, particularly if it were intended to "wipe the
slate."

If I did, it would come with some costs and conditions; you'd be
paying the high risk rate, and I'd DEFINITELY demand some say over
your overall financial affairs in order to protect my interests (that
being the money lent).

A major problem with BOTH of these alternatives:  the value of US
currency would be DESTROYED on the world markets.

Local interest rates would go sky-high; since the variance on the
"prime rate" would be so high, people would simply refuse to deal in
US currency because its value would be so uncertain.  The standard
currency of business would become EuroDollars, or ECUs, or yen, or
something of the sort.  Gold/silver might be alternatives; ECUS/yen
would probably be easier to use, given that the precious metal
supplies ARE quite limited.

In short; money supply/inflation games may be able to change some of
the distribution of the debt.  They won't change its existence, or its
general scope.

-- 
Christopher Browne
cbbrowne@csi.uottawa.ca
University of Ottawa
Master of System Science Program
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