All Those Trillions Must Mean Something, Right?!

Earlier this week, I discussed the meaninglessness of the gross federal debt as a measure of the U.S. government's fiscal position. I pointed out that of the current debt of roughly $11 trillion, about $5 trillion of that should not count as government debt because it is "intragovernmental holdings" of debt, accounting entries that keep track of what one agency of government owes another, not what the government owes its creditors. Almost all of the intragovernmental debt represents the value of Treasury securities held in the Social Security Trust Fund, which is currently growing by about $140-150 billion per year because Social Security taxes currently exceed benefits paid -- that is, the Social Security system is running a huge surplus.

I thought that at least that claim was uncontroversial, because the preference for using net debt rather than gross debt is bipartisan and essentially unchallenged. Earlier today, however, I came across the website for a recent PBS Frontline Documentary, "Ten Trillion and Counting," which interviewed a number of economists who are known to argue that current U.S. fiscal policy is unsustainable and which generally takes a sky-is-falling attitude toward the subject of government debt.

Since the title of the program clearly referred to the gross measure of federal debt, I was pleased to see that an economist at the Office of Management and Budget had sent a letter to the Frontline producers correcting their error. To their credit, the producers posted the letter on the website. Unfortunately, they also posted a response in which they announced that they "nonetheless stand by our decision to highlight what we consider to be the true dimensions of the problem by using the gross debt figure of $10 trillion -- now more than $11 trillion -- and counting." They were wrong to dig in their heels, and their unwillingness to change their minds provides an insight into the nature of the distorted public debate about the national debt.

The OMB economist, Thomas Gavin, pointed out that "[m]ost economists and budget analysts use debt held by the public -- and not gross debt -- as the most meaningful measure of the government's current fiscal position. This is a point of wide agreement among analysts, across political parties. ... And, this is a (perhaps rare) point on which this Administration agrees with the prior one." Gavin specifically addresses the significance of the debt held by the Social Security trust funds:

You might think that gross debt is a superior measure since intra-governmental debt is, in part, owed to the Social Security trust fund -- and, so, it might be thought to indirectly capture the federal government's obligations to future Social Security beneficiaries. But, this is not the way to do so. If you're interested in measuring the federal government's financial position going into the future, you have to take into account not just liabilities but also the federal government's main asset going forward -- namely, future tax revenues.

This is exactly right. Put simply, the IOU's in the trust funds represent the amount of money that the Social Security system will ultimately be able to demand from the Treasury when annual benefits exceed annual revenues (starting in about ten years). If Social Security ultimately needs to cash in all of those IOU's, it will be because future benefits will in the aggregate exceed future revenues by $5 trillion plus the total surpluses that we build up over the next decade. Gavin's point is that whether or not we tap out all of the IOU's depends on whether future tax revenues will fall short of future benefits and by how much. Frontline's producers respond to Gavin's argument essentially by ignoring it:

[I]ntra-governmental debt represents the future promises we have made. Due to the retirement of the baby boomers and rising health care costs, under some projections Medicare and Social Security will run out of money. If this happens, the trust funds for those programs will have to start cashing in those I.O.U.s, and to pay them the government will need to borrow more from the public. Or it could raise taxes to cover the shortfall, or it could make cuts to the programs to make them less expensive. If our future economy grows more robustly than expected, it will be easier to pay for these commitments, but the intragovernmental debt is not simply going to evaporate.

Actually, intragovernmental debt might indeed evaporate, at least inasmuch as it might never become a debt that must be paid. If, as one forecasting scenario used by the Social Security Trustees predicts, we will never tap out the trust funds, then those IOU's will never be cashed in. Future taxes will then pay for future benefits going forward, and there will be no need to honor the IOU's in the Trust Fund. This could also happen if -- as President Obama has suggested (and which I oppose for different reasons) -- benefits are cut and taxes raised such that the trust funds are not depleted even under more pessimistic predictions. In that case, by the way, workers today will have overpaid their Social Security taxes in order to cover a shortfall that never comes to pass.

On the other hand, the situation could become much worse, in which case the current intragovernmental holdings represent less than the total amount of money that future taxpayers would have to pay. A future Congress could refuse to cut benefits even if the trust funds become depleted, in which case future borrowing would be higher even than Frontline's approach would suggest.

The point is that the amount of aggregate intragovernmental debt holdings is simply unrelated to the ultimate burden that promised future benefits will impose on future taxpayers. Five trillion dollars is neither an upper nor a lower bound. It is a meaningless number. Gavin is thus correct to say that "[t]here's an active debate among analysts as to how best to summarize the federal government's financial position going into the future -- but using gross debt is clearly not the right way to do so." Frontlines' producers misunderstand the fact that future benefits and taxes might change, believing that somehow that means that the current amount of intragovernmental holdings actually means something.

Moreover, as my post on Monday pointed out, these debt numbers have no meaning out of context (and precious little meaning even after they are put in context). Whether the national debt is $6 trillion or $11 trillion or some other number, what does that mean? The debate to which Gavin refers has to do with estimates of net borrowing in the future, which only begins to mean something when measured against income (GDP) in the future. Even the scariest-sounding projections out there, with net future debt having a present value of roughly $80 trillion, have to be put in the context of a present value of all future income of roughly $1400 trillion, for a debt-to-GDP ratio of approximately 6%. And again, what does that number mean? What is the right number, and why should we believe that it is zero or that any other number is wrong?

As I have suggested in recent postings, technical expertise is neither necessary nor sufficient to speak intelligently about public policy. When it comes to accounting concepts with specific meanings, however, it turns out that some amount of knowledge is actually necessary. Apparently, none of that matters to those who have decided to hype a big round number.

-- Posted by Neil H. Buchanan