Thursday, March 08, 2012

Does National Debt Mean Anything?

-- Posted by Neil H. Buchanan

I have been traveling through Australia for the past week or so, where I have given talks at Monash University in Melbourne, and the University of New South Wales in Sydney. Each time, I delivered a version of "Will the United States Government Ever Again Have a Functioning Budgetary System?" which I first delivered at the University of Hong Kong last week. It has been intriguing to try to describe U.S. budget politics to foreign academics, even those who (like many Australians) are quite familiar with U.S. law and politics.

Yesterday, for example, after I noted that the largest (by far) impediment to long-term budgetary stability for the U.S. was lack of control over our health care costs, I found myself trying to describe just how inefficient the U.S. health care system is. After describing the basic numbers and trying to provide an analytical account of how much administrative waste is built into our system, I ended up sharing a personal story (which I summarized here on Dorf on Law about a year ago) that captured the nonsensical nature of attempts to build "efficient incentives" into our private insurance system. Looked at through the eyes of people who had never had to deal with HMO's, employer-provided health insurance, or any of the rest, it was truly shocking to think about how crazy our system has become -- and how politically impossible (yet analytically and administratively simple) it would be to change our system to anything other than an economy-destroying mess.

Even on pure budgetary matters, it was educational simply to watch tax policy experts and economists from outside the United States puzzle over the whole separation-of-powers craziness that drove our debt ceiling crisis last year -- craziness that has now become a permanent part of our political landscape going forward. And reminding them that these U.S. political games can (and might) destroy the global economy takes all the fun out of it.

One of the most important aspects of foreign academic travel, therefore, is that it presents even those of us with very U.S.-centered scholarly agendas with an opportunity to think comparatively. One of the first things I did before giving my lectures on this trip was to look at debt-to-GDP ratios for major countries around the world. Although I often point out in my writing that one of the reasons to look at debt/GDP rather than straight debt is because a country's GDP determines its ability to carry debt (and besides, the U.S. would almost have to be carrying more debt than, say, Latvia, just based on size alone), I had never before taken a careful look at the numbers for other countries.

Almost immediately, I discovered two striking facts. First, the U.S debt-to-GDP ratio is not comparatively high, among the major economies in the world. The U.S. has a lower debt-to-GDP ratio than Japan, which is not very difficult, given that Japan's ratio is about 180%. We know that Japan has a high debt level, brought on by the "lost decade" and its debilitating aftermath. Although that is not news, it is notable that Japan -- which still has its own currency -- is not on anyone's list of "basket cases," or on a watch list for a speculative attack due to high debt. It is able to service a level of debt that is more than double that in the U.S., without causing a financial market panic. Even if Japan's debt is problematic in some ways, therefore, it is not causing the "bond market vigilante" problem that so many people assure us is just about to happen in the U.S., with our much lower debt levels.

I was also not especially surprised to see (on a different web page, which I cannot currently locate) that the U.S. debt-to-GDP ratio is lower than the U.K.'s. Again, anyone following these things even casually knows that the U.K. has been carrying higher debt for years, and that the Cameron Government's attempts to satisfy the Confidence Fairy have resulted in still more debt (and no surge in confidence or growth).

What I did find surprising -- simply because the conventional wisdom so strongly pushes in the opposite direction, and the facts are simply not widely reported -- is that the U.S. has a slightly lower debt-to-GDP ratio than does Germany. Germany!! The font of all wisdom, the paragon of virtue regarding government finances. The country that is willing to destroy Europe in the name of austerity. Germany is carrying more debt than we are, even after we have had a much worse problem with unemployment in the Great Recession and afterward.

It was surprising enough that the U.S. was not an outlier on debt levels, among its major trading partners. (We are also below Canada and France, and well below Italy.) The second striking fact that I found was that Australia and New Zealand are in a completely different range of debt-to-GDP. Australia's debt is about 25% of its GDP, and New Zealand's is about 30%. Although I could tell myself a story about why their levels are so much lower than those of the largest economies in the world, the stark differences could not help but get my attention. Even so, I have been assured by academics here that Aussie politicians do pontificate about deficits, etc.

Thinking about these completely counter-intuitive debt numbers, I was really at a loss to try to systematically describe what is going on. Fortunately, a listener at my Monash lecture -- Shelley Marshall, a non-tax scholar who is a Senior Lecturer at Monash -- spoke with me afterward, and she offered an interesting insight. This insight is so interesting, in fact, that I consider it alone worth the price (and physical toll) of this whole trip.

Dr. Marshall pointed out that most comparative global lists that we care about are reasonably predictable. That is, if you think about almost any statistic that is collected internationally, a reasonably knowledgeable person would be able to make a decent guess as to the general contours of the list -- the countries that would rank high, low, and in between -- before seeing any numbers. Certainly, GDP itself falls into this category -- so much so that it is big news when (as happened this week) Brazil surpassed the UK to become the 6th largest economy in the world, just as it was big news a few years ago when China passed Japan for the #2 spot.

Even non-economic data are often predictable. We know which countries execute people, and in what relative proportions. Similarly, we know which countries have high life expectancies, and which do not -- and we also know to be surprised when it turns out that certain countries that ought to be at or near the top of that list, in particular the United States, are not. (We are 50th -- virtually tied with the likes of Bosnia and Herzegovina, and barely a half-year longer than Libya and Albania.)

Dr. Marshall's primary example was the Human Development Index, a composite number that includes data on health care outcomes, social and educational statistics, etc. Again, we know in advance what to expect. And when the numbers surprise us, we can usually come up with a story to explain what is going on.

This is where Australia and New Zealand's debt-to-GDP ratios come in. I tried to come up with an explanation for their low ratios, and the best I could come up with was that Australia is natural resource-rich. (I honestly do not know if that is true of New Zealand, but that is beside the point.) This struck me as unsatisfactory, however, because of Australia's having had a relatively complete and relatively generous welfare state for the past fifty years or more. Even if they could tax natural resources, they were also running rather large government social programs. Why would they uniquely do so while accumulating less debt than similar European and North American post-industrial economies?

I then looked at a Wikipedia page that lists all the countries in the world, based on two different sources' estimates of debt-to-GDP ratios. I immediately noticed that -- unlike the source above, which compared just the U.S., Japan, and Germany -- the Wikipedia page obviously (and incorrectly) used U.S. gross debt (including debt held internally within the federal government). Also, these sources do not combine all levels of government into one debt number for the government as a whole. I assume that the debt numbers for other countries also carry similar anomalies and outright errors.

Even so, Dr. Marshall's hypothesis -- or, more accurately, her anti-hypothesis that there is no sensible narrative to describe comparative debt levels -- is on outstanding display on this list. She happened to know that hyper-capitalist Singapore is a high-debt country, and indeed, that country's debt-to-GDP ratio is nearly 100%. On the other hand, Russia's ratio is just below 12%, while Cameroon's is just above 12%.

With effort, one could put together further facts for each country, explaining their debt-to-GDP ratios. The point, however, is not simply that the ratios have no connection to any "gut level" knowledge about various countries. It is that the explanations will be idiosyncratic and inconsistent across countries. (Jamaica and Iceland are high on the list, while Ecuador and Haiti are low.) An even more important point, moreover, is that there seems to be no correlation at all between relative debt and economic prosperity. Or, if anything, the correlation runs in the counter-intuitive direction: Europe and the U.S. are relatively high-debt countries.

If national debt were as important as politicians claim it is, one would expect the data at least to lead to a little bit of insight, upon visual inspection. This does not, of course, mean that countries should issue debt without limit. It does, however, serve as a useful reminder that it is simplistic to associate debt with economic disaster. The evidence simply does not support that conclusion.

1 comment:

Michael C. Dorf said...

Very interesting post, Neil. This strikes me as part of a larger story about things that "everybody knows" that simply aren't true. A related example: Sovereign default is ruinous for future credit for the defaulting sovereign. Of course it's true that, other things being equal, sovereigns that default will have to pay higher rates of interest to borrow in the future, BUT other things are almost never equal. My colleague Odette Lineau's forthcoming book on sovereign debt shows that international bond markets treat past sovereign defaults as the heterogeneous events that they are. Some past defaulters have excellent access to credit, which makes sense when you stop and think about it, because a past default is only one factor in predicting a future one.