Centerfield

Of course debt matters. But one of the most important things you have to take into consideration when deciding how much to worry about imbalances between nations is value. Value isn't static, it isn't a fixed quantity, because it is detemined by people's opinions. So it can be created and grown. Michael Jordan writes his name on a piece of paper and creates $20 of value that did not exist seconds before. Companies do the same thing when they make products or provide services. The fact that America is able to create additional value offsets the net outflow of money.

I'm not specifically defending the idea that the level of our current imbalances is indefinitely sustainable without adverse side affects. But notice that over the near term, in our current role as the biggest importers, we're the go-to market for the rest of the world. So other nations don't want us to collapse because then they have no one to sell their stuff to.

One of the newer ideas, at least to me, is the idea of also considering goods and services when thinking about trade imbalances. We keep making less and less tangible stuff. Naturally, if you focus on the stuff that goes back and forth on boats and planes, the running story becomes a progressively more woeful tale. But our economy is functioning more and more over time on services, to the point that we're starting to "export" those as well. Even though this has become a staple moan for the democrats, it's both to be expected, and healthy in terms of international economics as the standard of living rises worldwide. Our economy isn't just buying stuff other countries make, it's hiring workers and creating opportunities overseas. In addition to the "who will I sell to" question that arises if our economy tanks, there's also the "who will I work for" question.

But none of that implies indefinite sustainability all by itself.As standards of livings rise globally, new markets open and new companies grow that over time can become the answers to the questions(sell to, work for) that we are still the best answers for so far. My guess is that if what unfolds over time is more like an evening out of the global standard of living, then that means trouble for Americans. But if our standard of living keeps rising along with everyone else, then there is less reason for trouble. Which way does that go? It depends entirely on growth, which requires faith, among other things.

On this front (evening versus staying in first place), my opinion is that we have much more to worry about from new europe and emerging asian economies than we do from Old Europe. And on debt, my opinion is that we have much more to worry about with the problem of personal debt than the overall trade deficit. To the extent that the trade imbalance is driven by personal debt, we should seek to address it. Smart people should avoid assuming that if ones own finances are in good shape then one is sufficiently insulated from a possible reckoning.

But if there's one thing I think people should keep in the forefront of their mind when wondering about whether such a day of reckoning is coming, it's the idea that whatever happens is going to be driven to an ENORMOUS extent by collective faith and trust, and that collective faith and trust don't respond in perfect or even always rational ways to the side varieties of economic inoputs and outputs. In other words, what we've been doing will be sustainable as long as globally, enough people believe it's OK.

When I talk about stuff lkike this, I don't tend to get very many responses, so I never know if people just think I'm nuts,. can't follow me, or have lost interest by the time I get around to making my point. But if you think of money as notes that humans pass around to each other with promises written on them, then it's not to hard to understand that as long everyone agrees these notes are ok, we can keep buying stuff and other people will keep making it. And as long as the people whop spend a lot of time worrying about and dealing in these notes are roiughly split between those who want value to go one way and those who want the value to go the other way, we get a rough stasis.

In economics, there are rarely any simple answers. Everything affects everything else to some extent, and must be taken in the context of the whole to mean much. OK, a few quick observations, NOT meant to be a comprehensive dissertation, which would (and does) take volumes.

(1) One of the few easy ones. Corporate debt of MNC's remains simply corporate debt. While the international nature of the modern business world does present some challenges, most international corporate debt is held by other institutions (investment funds and other corporations) which adjust away any currency risks through the futures markets and other mechanisms. No real net effects. Mainly important because it isn't a problem, but does get counted in the trade deficits, resulting in misrepresentative figures. See below.

(3) I'm taking this out of order because it has a bearing on (2) and is more than one question. And now we start to get complicated. We're not headed into Brazil/Argentina territory. The historical hyper-inflationary problems of some nations are due to deficit spending, but not through debt. Instead they result from the excessive creation of money, the government running the printing presses at a greater rate than the economy actually grows. It's a tempting way to tax--just crank out a few gazillion more pesos when the budget comes up short--but money supply growth that exceeds economic growth (obviously) results in a lower real value-per-share of each individual peso, and inflation kicks in with a vengeance. Often called "the hidden tax." Some small rate of moentary inflation is needed for economic health to allow for growth and prevent deflation, which can be even worse. (See the financial panics of the late 1800's.)

Is there a website that has financial comparisons between the United States and other debtor nations, with both current and historic data?

Not any reliable one. The IMF doesn't track major nations. US data can be found at the Bureau of Economic Analysis (BEA). Some selected figures for comparison can also be found at the CIA World Factbook, an invaluable resource for many things international.

(2) Now we come to the meat--but there's some real problems in trying to understand what the figures mean even when we can dig them out. The trade deficit is one of the most misunderstood and misrepresented of all economic figures. When trying to examine trade figures from a national/government perspective, we're already in trouble because they combine both market economy and national economy figures. From a market perspective, a trade deficit (more foreign money flowing into the US than US money flowing out to foreigners) is actually a very positive indicator. It means that private profit-oriented foreign parties are making the judgement that there money is better invested here than elsewhere.

But when a substantial portion of that flow is money flowing into government and not into the markets, well, that isn't so good. It means foreigners are financing US gov't deficit spending, and receiving debt claims on the US gov't in return, namely US Treasury notes. This is the source of the "twin deficits" noise the media expounds. And it is relevant. But the waters start to get even muddier here. The $ is held as a reserve currency by foreign gov'ts, so there will always be an external debt to the extent they hold it. Obviously they want a strong $. But a strong currency is not always a good thing for the nation. The Euro is about the strongest currency in the world right now, but not because of robust European economic health. It's strong because it's contained, because monetary growth in Europe is being held slightly below actual economic growth, which is near zero.

Remember that in terms of a domestic economy deflation is bad, and mild inflation is good, at least in terms of economic growth. The Euro, as a collective currency, is severely restraining the growth of member economies. And those nations hold a lot of US $'s as reserves. So as the Euro deflates, and the dollar mildly inflates, the value of those reserves shrinks, the cost of US imports shirnks, and the demand for Euro exports shirnks. This is what they're upset about.

The US reply is to tell the Euros that they need to get their economies growing, to maintain growth parity with the US. But the big European member states are restrained in what they can do to spur growth, because their economies are largely welfare/socialist in nature. And they like having strong currencies, as it reduces their import costs. But they want everyone else to play the same slow/no growth game.

Then we get into the problem of US deficit spending, which is indeed a bit of a problem right now, but not yet a crisis. US public debt is on a par with Euro public debt. Our deficit spending (as a portion of GDP) is currently a bit higher. The Euros (masters of the deficit-spending game) have little to complain about. Their main gripe there is that we're not playing by Euro currency rules, and that this hurts their economies and power structure...several of the EU member nations are chafing at the bit to be released from the Euro restrictions. The US is telling the Euros to spend some more, and spur growth. But France and Germany, the top dogs who reap the greatest benefits, like things the way they are. The upshot is that low-growth high-tax nations are demanding that low-tax high-growth nations shape their domestic policies to suit the LGHT nations, because the LTHG nations' policies are making life difficult for LGHT nations' politicians.

It just gets more complicated from there, as in international economics everything ties to everything, and when you throw politics into the mix the picture quickly becomes near-inscrutable. The joker in the deck is China, with an articially undervalued currency in a growth state economy. The one thing you can depend on is that almost no one in the media understands what the hell they're talking about, but will say it loudly and in apocalyptic tones anyway.

More on all of this later, as time permits. Check the CIA factbook for public debt of nations, And for "external debt" under economic figures and you'll see what I mean. France and Germany and Great Britain go a long ways out of their way to hide those external debt figures. Spain and Italy disclose them. Run the disclosed ones of EU member nations by %GDP and compare 'em to the US and you'll quickly see what I mean when I say that hypocrisy is the order of the day in international political/economic disputes.

(Side note to Bryan's commentary re: "value". I remember the great flap over how all the consumer electronics of VCR's and such being no longer made in the US, but no one ever mentioned that the vast bulk of movies and music played on those worldwide came from the US, and was an export market about ten times that of the electronics imports themselves. The figures don't include a lot of relevant things.)

Rick:

I have just one suggestion: Pick up a copy of Henry Hazlitt's "Economics In One Lesson" before you write the next blog. It's a slim book, in soft cover, inexpensive and very readable.

The significance of the Debt must be put in perspective by comparing it directly with the size of the economy. Who should worry more, a million dollar a year income earner who owes a million dollars, or someone earning 50 thousand a year who owes 300 thousand? Debt only makes sense in its relation to the size of the economy, or as a percentage of GDP. Even if debt is increasing, the true situation is improving if the economy is growing at a faster rate than the debt.

A good way to quickly decrease the significance of the debt is to grow the relative size of the economy. A tax increase which lowers the deficit, but harms economic growth may be a short sighted solution. Cutting spending works. Measures not related to taxation or spending can improve the debt situation by removing obstacles to economic growth -- excessive regulation and restrictions on business, or unreasonable damage awards.

You asked about USA debt owed to foreigners. Foreigners hold 18.5% of our debt, according to the CIA World Factbook. (1.4 trillion out of ~7.5 trillion)

The true debt crisis of the USA is the unfunded liabilities of Medicare and Social Security. It's $7 trillion for Social Security, $36.6 trillion for Medicare -- that's 10 times the federal debt. Source: 2003 AEI study valuing present day value bonded debt equivalent of obligations not covered by current reserves or taxes.

Thanks for those lessons.

It does seem that everything affects everything else, so it's hard to really figure out what's going on. If I'm confused, you can imagine how the average voter whose never taken economic is (I've taken microeconomics, but not macroeconomics). I think that's why the deficit issue doesn't catch on. It's too abstract. If you can actually point to a specific bad outcome caused by the deficit, then it will move people.

Brian, I get what you're saying. Confidence is a key part of the value of a financial instrument. If confidence flees, value can collapse quickly, in a positive feedback loop.

Hey Susan, is that “debt verses GDP” graph for consumer, corporate, government or all three .

All 3.
GDP = consumer spending + business&residential investment + government spending - trade deficit

Susan: Thanks, but I was asking about the dept side not the GDP. I should have been more specific.

While trying to answer my own question I found a nice site with a lot of this data.
http://research.stlouisfed.org/fred2/

If I'm picking the right numbers off the feds web site the current consumer debt is 2093.4 billion and current GDP is 11810.0 billion. (So current consumer debt is 18% of GDP)

I going to guess this means the number shown for 1929 is probable heavily weighted with consumer/corporate debt while the 2004 is probably mostly government debt.

Make that “debt”, not “dept”.

Tully, bk, and Susan all make excellent points - to which I would only add one important idea. Since the US Economy has been the most solid in the world for such a long time, there is a vested interest in most other economies in keeping dollars (which is to say US Treasury securities, which is to say US Debt). The US still provides the risk-free global standard, and for the smooth functioning of the global economy, there must be a certain minimum US debt out there.

Put another way, the US has an obligation to issue debt. The most effective way to do that is to run some kind of deficit (if you have to borrow money, you might as well spend it for something). The key to the equation is productivity, which leads to a second concept: clearly, the world and the US are in some kind of transition, much like the shift from agrarian to industrial economies that happened in the 19th century. The result of that transition won't be clear for decades, I believe. In the meantime, we need to keep our debt under close watch, and we need to remain flexible.

Fixing the key drivers of our deficit, Social Security, et al., doesn't mean paying off the debt, or even making them deficit-neutral. It means keeping options open.

Two issues I've heard discussed recently (even on this blog) are very disturbing to me:

1) China pegs its currency value to the dollar. So even as the dollar drops in value we don't gain an advantage with the Chinese. They can't afford to have exports drop. With China now such a large member of the international economic community that seems to have some very negative impacts.

2) The aging of Western nations and the soon-to-come need for younger workers (likely imported) to support the retirees, a very serious problem in Europe. That doesn't seem sustainable.

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