Sunday, November 22, 2015

Ben Carson, the National Debt, and Interest Rates

I am not sure why I find this so irritating, but...

A reporter, Chris Mathews, argues that presidential candidate Ben Carson doesn't understand some basic economic concepts.

And then Mathews goes on to suggest that he has a pretty weak grasp of those same concepts.

A reporter, Ryssdal, tried to ask Carson about his view regarding increasing the debt ceiling and default.   From Carson's answers, it does appear that he has no clear understanding of the issue.   First, Carson states that he is opposed to an "increased budget."   I think that would be opposed to an increase in government spending.

When asked again about the debt limit, he states that that he opposes increasing spending limits.  That fits in with the interpretation above.

And then he is asked a third time and says that he thinks we need to "restructure the way we create debt."

Mathews then explains his understanding that Congress must both approve spending and borrowing.  He seems to think that if Congress approves spending and then fails to approve borrowing, then it defaults.

Well, I guess that something like that is the Obama Administration's position.  But Mathews doesn't appear to be aware of peculiar nature of the argument.

If the debt limit is not increased, then new debt can still be issued to pay off the principal of old debt as it comes due.   The debt limit is a limit on total borrowing.   Since spending can be financed by taxes as well as borrowing (and most Federal government spending is in fact funded by taxes,) there is no necessary connection between approving spending and approving borrowing.

To avoid default,  it is necessary to do more than to borrow new money to pay off government bonds as they come due.  Interest must be paid on the debt as well.   Interest expense is a current expenditure.  Fortunately, the U.S. government collects more than enough tax revenue each year to pay all of the interest due on the existing national debt.

The Federal governments receipts are over $3.2 trillion per year and the interest expense is about $200 billion.  The government could pay the interest due on the national debt each year and still spend $3 trillion on other things without any additional borrowing. The total amount the government owes could remain about $18 trillion.

While the government collects substantially more tax revenue than it owes in interest on the national debt, Congress has approved substantially more expenditures than tax revenues.    The government is spending close to $3.7 trillion each year.   In other words, the current budget includes a deficit which is supposed to be funded by borrowing.     The budget deficit is over $400 billion.    But cutting spending enough to balance the budget, the government would collect about $3.3 trillion per year.   To avoid default on the $18 trillion it already owes, it must pay $200 billion of that in interest.   And this leaves a little more than $3 trillion to spend on everything else.

The Treasury Department says that it does not have the administrative capability of doing anything other than spend money already approved by Congress.  This mixes in a variety of current expenditures with interest payments and principal payments as they come due.   It is able to borrow enough money to cover all the expenditures beyond the tax revenue which comes in from time to time.   If the Treasury Department hits the debt limit, it will run out of money and won't be able to make payments.  Some of those payments might be for interest and principle on the national debt, and so there will be a default.

Another argument, which Mathews seems to be making, would be that there is nothing special about making payments on the national debt.   If Congress has approved an expenditure, then failing to make that payment is a default whether it is a debt or not.   While this is not an entirely unreasonable use of the term "default," the consequences of such a default are not nearly as bad.   I don't think any organization other than the U.S. Federal government could, much less would, take this approach.    Most obviously, if revenues come in less than expected, just about every organization can and will curtail planned expenditures.   If the Finance department says they are unable to pay debt service and avoid default unless they are provided enough money to pay every planned expenditure, then it is time to find fire them and get someone competent in charge.

Of course, the reality is that President Obama and the Democrats would probably prefer to default on the national debt rather than fail to pay out money to favored Democrat groups.   (And I bet there are plenty of Republicans who prioritize defense spending and even tax relief over avoiding default.)   But more importantly, threatening to fail to make principal and interest payment when due and threatening to blame this fiscal irresponsibility on the Republican Congress is a plausible threat to compel the Republicans to vote to increase the debt limit.  

Anyway, it is true that Carson didn't make it obvious that he was aware of these issues, though his last answer might be consistent with a good understanding--we need to restructure the way we issue debt.

Mathews' last statement on the matter, that Carson could have replied that when he is President he will balance the budget and increase the debt limit at the same time, really does suggest that Mathews is confused.   If the budget were balanced, the debt limit would not need to be increased.    Government would need to spend no more than close to $3 trillion per year.

Mathews points out correctly that Carson's proposal for a low flat tax has not been matched by proposals to cut government spending enough to maintain a balanced budget.   A 3 to 4 percent cut across the board wouldn't balance the current budget even without tax cuts.  It is more than 12%.

If the growth of government spending is held to less than the growth rate of the economy, then even with modest tax cuts, it would be possible to bring the government's budget into balance eventually.   But this would take time and there would be budget deficits and an increasing national debt in the meantime.   Cutting taxes and immediately balancing the budget requires very steep cuts in government spending.

Mathews also comments on Carson's view on interest rates and debt.  Mathews claims that there is no relationship.   That is not obviously true.   There are a variety of mechanisms through which a higher deficit (which increase the national debt over time,) would lead to higher interest rates.   Alternatively, a higher debt would lead to higher interest rates as well, though care should be taken not to double-count.  Perhaps these supposed mechanisms do not really occur, but Mathews seems to be unaware of them.

Of course, Carson's view is backwards.  He seems to think that a higher national debt is associated with lower interest rates and these lower interest rates are bad because they make it more difficult for savers to accumulate wealth.    Carson seems to think that a higher national debt causes the economy to be weak and the Fed responds by lowering interest rates.

I hardly would like to see Carson advocate that the government borrow a lot of money so that lenders will earn higher interest, but it would be nice if Mathews and Carson understood basic supply and demand.

I wasn't planning to support Carson anyway.   However, the damage done by bad economic reporting is probably worse than that done by economically illiterate Presidential candidates.


1 comment:

  1. The sensible thing for a President to do if the debt ceiling is hit is to simply ignore the debt ceiling. And this is what has always happened, although they employ some flimsy accounting gimmicks to pretend otherwise.