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Monday, March 29, 2010

National Debt

I recently received this excellent question from a client, and he graciously allowed me to address it in this blog, because I'm sure it is a issue that puzzles many people:

"I've been puzzling over something lately, and my limited knowledge of economics has prevented me from reaching a conclusion."

"The US National Debt continues to grow. At this point, there is no way it can ever be ZERO, or even paid down significantly. Can it grow infinitely? At what point does something bad happen? If something bad is approaching, how is it possible to correct the course?"

This is one of the most important issues facing our economy as we try to recover from the "Great Recession." Unfortunately, government debt is one of those issues where there is little agreement among economists. Well, not exactly. There is agreement that too much debt is probably bad, and that large surpluses are also not good, but everything else is up for debate, including how much debt is too much.

An example of this disagreement has recently been going around the blogosphere. It is interesting to note that the blog posting this debate is entitled "inflation debate". That is because one common fear is that large deficits will ultimately get resolved with inflation, as the government "prints money" as a way to pay down the debt.

This issue is so important and complicated, that I will not try to address it all in one blog post. Instead, I will look at pieces of the puzzle over several posts. Hopefully, I will get some feedback as I go along and will address the most pressing issues.

It is important to understand the difference between debt and deficits. The US national debt is represented by Treasury Bonds -- money the government borrows from the public. These Treasury Bonds are then traded in the financial markets and represent low risk investments.

I believe that a country like the US should never have zero debt. Uncle Sam has the lowest cost of borrowing in the world, and debt plays an important role in the financial structure of the US government. Furthermore, Treasury Bonds are extremely important in helping global financial markets function properly. Remember that debt, which has bad connotations, is also called leverage, which has good connotations.

If we accept the premise that zero debt is not the appropriate goal, then it leads us to the subsequent discussion of how much debt is too much? And how much should we be concerned about current excess government spending? I will begin to tackle that in another post soon.