The U.S. Is About to Vastly Increase Its Debt. That’s a Good Thing
March 27, 2020
The U.S. Is About to Vastly Increase Its Debt. That’s a Good Thing.
The case is strong for spending a large amount of money in the short term to fend off worse economic woes down the road.
The United States government is poised to take on a huge amount of debt to contain the effects of the coronavirus pandemic, with budget deficits on a scale not seen since World War II looking likely.
But the only thing worse for the public debt outlook would be if it didn’t. That’s why a broad range of economic analysts — including even many fiscal conservatives who generally view high public debt as a long-term threat — support aggressive action.
The very large deficits on the way in 2020 are more likely to leave the United States in a better fiscal situation for the years ahead than an alternative in which the government is more tightfisted but fails to prevent the widespread collapse of American businesses or help workers in desperate financial straits.
Economists focus not on the absolute level of the debt, but on the interest costs to service it relative to the size of the economy. So a prolonged recession tends to be worse for the debt picture than some extra spending. Moreover, signals from financial markets suggest that the government should have little trouble borrowing vast sums of money on favorable terms.
Finally, this spending is meant to last only as long as needed to get the economy on track after the containment of the coronavirus pandemic, meaning it should be a one-time increase to public debt rather than an increase to permanent deficits.
The arithmetic of the budget deficit is stark. In forecasts prepared just before the outbreak became severe, the Congressional Budget Office projected a $1.1 trillion deficit this fiscal year, or 4.9 percent of G.D.P.
William Foster, the lead U.S. analyst at the credit rating firm Moody’s, now expects it to be more like 10 percent to 12 percent. Fitch, another rating firm, estimated it will be 13 percent. Those numbers would exceed the previous post-World War II record for the deficit, which was in 2009, when it was 9.8 percent of G.D.P.
The exact numbers are still unknowable. The $2 trillion stimulus package has come together so quickly that the budget office has not had time to do its customary modeling of its fiscal impact. (Parts of the legislation are designed as loans, so the hit to the Treasury will be less than the headline number.) G.D.P. is a guessing game at this point.
But even many analysts who generally prefer fiscal restraint believe it’s a good time to be borrowing a lot of money.
As the economic outlook dimmed over the last month, interest rates plunged to unprecedented lows. The United States government can issue 30-year bonds at only a 1.44 percent interest rate at Thursday’s close — and in inflation-adjusted terms, borrowing costs are negative.
The market for Treasury bonds has had periods of dysfunction in the last few weeks, causing a spike in longer-term rates, as major investors and foreign governments sold bonds and there were few buyers. But most signs are that this was caused by a global cash crunch, not fears of rising indebtedness by the United States.
Fitch Ratings, in affirming the nation’s AAA credit rating Thursday, said that it believes “recent dislocations and illiquidity in the market for U.S. Treasuries reflect changes in the structure of the market and exceptional conditions, and do not signal heightened perceptions of U.S. credit risk on the part of investors.”
If anything, with global central banks expanding bond-buying programs, a shortage of safe bonds in years ahead could be likelier than a glut. That would tend to keep interest rates low.
The Fed is now doing open-ended quantitative easing, buying Treasury and other bonds on a vast scale to try to push cash into fraying financial markets. And it has actively encouraged the rest of the government to take advantage of this cheap money.
“He told me, think big, because the interest rates are low,” House Speaker Nancy Pelosi said of the Fed chair, Jerome Powell, in with the PBS NewsHour.
An important factor in projecting the impact on deficits and debts: Spending on the virus response is intended as a one-off, not as an increase in the structural spending levels and budget deficits the United States should expect to have indefinitely.
“This is not permanently raising government spending,” said Louise Sheiner, a senior fellow at the Hutchins Center on Fiscal and Monetary Policy at the Brookings Institution. “It’s a one-time thing. A big one-time thing, but it raises the level of debt and doesn’t do anything to the trajectory of debt after that, which makes it less challenging in the grand scheme of things.”
Simple math shows why. If the national debt were to rise by $2 trillion compared with what had been forecast, and the government paid for it by issuing 30-year bonds at current rates, the debt service cost would be about $29 billion a year, a trivial amount in a $20 trillion economy. And unlike a private borrower, the government never need pay down its debt; theoretically the debt can remain on the books indefinitely so long as the cost of interest payments is manageable, which in turn depends on economic growth.
“We are certainly expecting a much faster accumulation of debt than we had previously,” said Mr. Foster, the Moody’s analyst. “But if this is effective, it will cushion the blow to growth, and the economy will pick up faster, and that would have positive spillover in terms of debt dynamics,” meaning the result of successful stimulus would be a larger economy and thus a lower debt-to-G.D.P. ratio than if the government hadn’t acted.
“At this stage, the government can’t be preoccupied with deficits,” he said. “The downside risk of an inadequate response is much more severe.”
“Public debt levels will have increased,” Mario Draghi, the former president of the European Central Bank, said published this week in The Financial Times. “But the alternative — a permanent destruction of productive capacity and therefore of the fiscal base — would be much more damaging to the economy and eventually to government credit.”
The $800 billion fiscal stimulus the Obama administration enacted starting in early 2009 was widely attacked for increasing the deficit. But the budget deficit peaked that year and declined over subsequent years as the United States economy recovered.
The Fed may one day need to raise interest rates and sell off its holdings of Treasury bonds to prevent inflation. But that would most likely occur at a time when the economy had returned to its pre-coronavirus trajectory and was seeing higher inflation levels than have been evident over the last decade.
All evidence now suggests that day is far away. Currently deflation, or falling prices, is more likely to be a problem. The price of oil, at around $23 a barrel, is roughly one-third the level at which it started the year, and bond prices imply that inflation will average only about 1.07 percent annually over the coming decade.
If that were to change — if inflation were to become a problem and the Fed needed to raise rates abruptly — it would very likely coincide with a much stronger economy that would make debt payments easier for the government to manage.
For all those reasons, even many stalwart opponents of deficit spending are embracing aggressive federal action in the virus response — and bemoaning that the pre-coronavirus deficits were as high as they were.
“One of the primary reasons to be fiscally responsible during periods of economic expansion is to have the capacity to fight downturns or emergencies,” said Maya MacGuineas, president of the Committee for a Responsible Federal Budget. “This is precisely the kind of moment, where borrowing is warranted and necessary, that we should have been preparing for over the past years.”
Neil Irwin is a senior economics correspondent for The Upshot. He is the author of “How to Win in a Winner-Take-All-World,” a guide to navigating a career in the modern economy.