Life After Full-time Work Blog

Here’s an attempt to identify the most important aspects.

A friend noticed that recently the US national debt passed $40 trillion. He asked me to write a blog post about it. And that got me thinking.

Not in terms of the absolute amount of money, because I have no natural concept of what a trillion is. I know it’s 1,000 billion; but I also don’t really have a feel for a billion, even though these days it’s a number that’s used a lot. I know a billion is 1,000 million; and now, finally, I have a number I understand, because a million has become reasonably familiar, given house prices and people’s total assets. But that still doesn’t help me with a trillion.

OK then, let’s think of the US national debt (which I’ll use as my example here, though all the principles apply to any nation’s debt, regardless of what the numbers are) as an individual person’s debt. That person, of course, would have to be the US as a whole. We often relate debt to income, so let’s do that with the US government. What’s its annual income? It’s the total amount it collects in taxes: from individuals ( roughly 53%), payroll taxes (34%), corporations (9%) and other miscellaneous taxes (4%). Is there an everyday number that we can relate all of this to? The closest I can find is GDP, that is, the country’s Gross Domestic Product; and the US government’s revenues are about 17% of its GDP.

All of which gives me a convoluted way of trying to understand the national debt.

Think of the US as a person (!!!), with an annual income equal to its GDP (which is actually the sum total of all people’s and businesses’ income). The government (that is, the national government: forget about states and municipalities, though it would be different in other countries) extracts annual taxes from this person, at an average current rate of about 17% of income.

What does the government do with this money? It spends it in various ways – and in fact spends more than it collects in taxes. It borrows money from investors to make up the difference, by issuing bonds on which it pays interest every year, and it promises to redeem those bonds when they mature. Not totally unlike an individual taking out a mortgage. For us, the security for a mortgage would be our residence, combined with our ability to meet the interest payments and capital repayments. The government is rather different. What it offers as security isn’t a financial asset. It’s the government’s (perceived) ability to raise sufficient taxes to make its payments. So, in practice, the only payments the government makes every year are the interest payments on its debt: when bonds mature, the government typically refinances them by issuing new bonds.

OK, let’s sum up where we’ve got to. The government is like a person with an unsecured mortgage, making interest-only payments on that mortgage. And investors are happy with this … as long as the government’s ability to make its interest payments seems pretty secure. (Otherwise the investors will demand increasing interest rates on that debt, if they’re worried about its security, and that would make front-page news, not just in the financial section.)

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Inevitably I got curious about how those numbers have played out (again, using the US as my example). And to me the obvious questions is: how have the annual interest payments on US government debt changed, relative to its GDP? Like: does this imaginary individual’s annual mortgage payments represent a stable or an increasing or decreasing proportion of annual income?

So I investigated. And here’s what I found. (For the curious among you, I got this from https://fiscaldata.treasury.gov/americas-finance-guide/national-debt/.)

Table of US National Debt and Interest Payments as % of GDP

So, what does that table tell me?

First, look at the National Debt column. Even though GDP obviously grows over time, and its increase reflects both inflation and productivity, the national debt has been increasing much faster than GDP. It was only in the Clinton years (roughly 1993 – 2000) that its expansion as a percentage of GDP was controlled. (The apparently static position since 2020 reflects the end of the emergency pandemic spending.)

So this artificial person’s “interest-only mortgage” has generally been expanding in size, pretty rapidly.

But wait, that’s OK, as long as the interest payments each year aren’t increasing as a proportion of pay. So let’s look at the right-hand column, which is more important.

It’s not the size of the numbers that are important, because this analogy to a person is entirely artificial. But the direction of the change is important. And that’s where we see a curious progression of increases and decreases.

It seems that the natural progression has been increases. So why the two periods of decreases? The first period (the 1990s) was because the Clinton regime deliberately ran budget surpluses (meaning the government actually spent less than it collected). And the second period (the 2000s) was because of bad times: the recession of 2001 and the 2007-2009 financial crisis, and we all suffered, because the financial authorities tried to do too much.

Since then the percentage in the final column has been increasing, and is pretty close to its all-time high.

Natural question: is this sustainable? Nobody knows. Increasing past its all-time high implies a greater strain on the US government than ever. How high is too high? Again, we simply don’t know. One sign of decreasing confidence in the government will be if the interest rate that investors demand keeps rising, not in nominal terms (like 3%) but in real (that is, in addition to inflation) terms (like 3% higher than inflation).

That seems to be happening right now, potentially a sign of  investors losing financial confidence in the US government and demanding higher compensation (interest) for lending it money. We’ll have to wait and see how it all plays out: whether the government decides to start to reduce its debt as a percentage of GDP, or investors demand an increasing yield on its bonds – or (worst case scenario) if the government defaults on a payment (which has never officially happened, though in 1979 it was a few weeks late with some payments).

Note that other governments have historically defaulted on payments, though not since World War 2 (apart from Germany and Japan in the immediate aftermath of the war).

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I’ve tried to look at this in what I think is a sensible way, by relating everything to GDP, which itself naturally increases in nominal (dollar) terms with inflation and the expansion of the economy. Looked at in nominal terms, the numbers seem frightening. For example, in 2000 the national debt was $5.7 trillion. As we saw, the interest payments required actually declined substantially by 2010, relative to GDP; but in nominal terms it was much bigger, more than double, at $13.6 trillion.

The lesson is that it’s more sensible to measure all these things in terms of GDP, because then we get automatic adjustments for inflation and the size of the economy. And of course that’s why I laid things out the way I did.

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Where does this take us, or leave us? In a way, nowhere. It’s an ongoing story. To me, it’s that final column in the table that tells me whether we’re winning or losing the battle of financial stability.

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Takeaway

Using the US as an example of most countries, not only has the national debt (the government’s borrowing) been increasing faster than its GDP; the cost of paying interest on that debt has also (apart from in the Clinton years) been increasing faster than its GDP.

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