Economics

Understanding the National Debt

Is It a Problem and How Does It Affect Us?

Robert Spendlove Mar 12, 2018

The U.S. national debt has now surpassed $20 trillion. To put that number in perspective, it is larger than the combined value of all the companies in the Standard & Poor’s 500 Index. It is larger than all the physical cash, currency, gold and silver in the world.

Although the amount of the national debt is astounding, there are arguments about its severity and what should be done to limit it. Is the nation’s debt load out of control and in desperate need of reduction, or is it appropriate given the overall size of our economy? Is it an acceptable and necessary part of managing one of the most complex economic systems in the world?

Deficit vs. Debt

To understand the national debt, it’s important to understand the difference between the budget deficit and the overall national debt. The U.S. budget can be compared to the budget of an average household wherein individuals generate revenue by earning income. The government generates revenue primarily through collecting taxes. This revenue funds all operations and government spending, whether on Social Security, Medicare, national defense or national parks.

At an individual level, if people spend more than they earn they have a deficit, or shortfall, in the household budget. They must go into debt to make ends meet, using loans, credit cards or other similar instruments. The same is true at the federal level. When the government spends more than it takes in during a given year, it operates in a deficit. This deficit must be funded through debt, which is covered by issuing bonds. These are like loans that the government promises to repay. If the government continues to spend more than it takes in, this national debt continues to grow.

Debt as a Management Tool

The debate about the size and impact of the national debt has been ongoing for years. Some argue that deficit and debt spending are an essential component of managing the U.S. economy. The Federal Reserve can strengthen a soft economy or cool an overheated economy through its bond-buying activity either on the short-term, through the Fed Funds Rate, or on the long-term, through its balance sheet. If the United States had no debt, the government would not be able to manage the economy, and the resulting swings could be severe and painful.

Problems of a High Debt Load

On the other side, an increasing number of people are alarmed by the large size of the national debt. While there is relatively low risk of the United States defaulting on its obligations, the amount of money that must be committed to service this debt is not only increasing in absolute terms but also as a share of the annual budget.

In the most recent federal fiscal year, net interest payments on the national debt totaled more than $276 billion, or 6.8 percent of all federal spending. This money could arguably be used in more productive ways. And if left unchecked, the debt service requirements could start a vicious circle of the government becoming unable to meet its financial obligations. This situation could become even more dire if the U.S. faces another financial crisis in the future.

Another concern about rising national debt is not only the increase in absolute terms but also as a share of the economy. At the end of 2017, the national debt was estimated to be 77 percent of U.S. Gross Domestic Product (the broadest measure of the economy). By 2027, this debt is expected to increase to 91 percent of GDP. This would be the highest debt level since 1947 and more than twice the average during the past five decades. If changes aren’t made, within three decades the national debt will be twice as high as GDP — the highest in the nation’s history.

What Now?

While a certain amount of debt may be necessary to manage a complex U.S. economy, it is imperative to get serious about controlling its size and growth. The United States is still the most powerful country in the world but may struggle to remain on top if it becomes overburdened with servicing a ballooning debt load. If the U.S. is going to get serious about this issue, policymakers must get serious about both controlling spending and generating enough revenue to fund government operations.

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