May 13, 2013 | Graham

Do deficits and debt really matter?



That’s the question we are posing in On Line Opinion’s May feature, and a recent news item might make it more newsworthy than I at first thought.

A 2010 paper by Harvard economists Reinhart and Rogoff was thought to show that growth suffers when a country has debt in excess of 90% of GDP. But the research was wrong, and the authors have admitted their mistake. (Bizarrely I discovered this fact at Climate Audit, a blog devoted to the statistics of climate change).

But does this really change anything?

I’ve always been skeptical that governments should always run surpluses and never have deficits. That’s not how I run my business. But then a business is not a government.

However, for businesses and for governments, it all comes back to one question – “If you have borrowed money, are you getting a higher rate of return on what you are using the debt for, than the interest on your borrowings, and is it enough to compensate you for your risk?”

In those terms the current Australian government debt doesn’t stack up. The money is being borrowed for living expenses, so there is no return on investment.

If it were being borrowed, at the depths of a recession, to put in place infrastructure for the next up-tick of the business cycle while contracting prices were at rock bottom, that would be another matter.

But we are at the top of the boom, and the largest bit of infrastructure they are building is the NBN, which is a totally unnecessary piece of infrastructure (and yes, I know it is an off-balance sheet item, however that doesn’t make their position any better).

Even so, I have no end of people trying to convince me that debt is not a problem for countries with a sovereign currency, because they can just print money to meet their obligations. While that might be true in the short-term, it can’t possibly be true in the long-term as repayment will have to be made via taxes, or inflation, or both.

So, while I share the majority view on Australia’s debt at the moment, in different circumstances I could be of an entirely different point of view.

I wonder where the balance will end on our feature?

 



Posted by Graham at 1:25 pm | Comments (10) |
Filed under: Uncategorized

10 Comments

  1. Even so, I have no end of people trying to convince me that debt is not a problem for countries with a sovereign currency, because they can just print money to meet their obligations. While that might be true in the short-term, it can’t possibly be true in the long-term as repayment will have to be made via taxes, or inflation, or both.

    And those people don’t argue against that. Taxes – used to control demand-pull inflation.

    Opening up new resources and/or creating a buffer stock of resource to control cost-push inflation (natural gas to oil/wool buffer stock)

    As long as productivity is increasing or as long as the newly employed are producing then inflation is unlikely, it is more likely to remain stable.

    And it should be noted or at least in my view, usually when people use the term inflation generically – they mean accelerating inflation.

    Comment by Senexx — May 13, 2013 @ 3:59 pm

  2. Deficits always matter if you don’t have the capacity to pay off the debt.John Howard was fortunate that China was buying heeps of our minerals/energy.Now however China is in the process of accessing cheaper minerals/energy from Africa/South America.

    With the sale of 4 State Banks and the Commonwealth we can no longer create from nothing the money to equal growth + inflation.

    Without export capacity the debt to private banks can never be repaid because imputs in terms of loans for growth from private banks,will always be exceeded by outputs interms of debt for growth + debt for inflation.

    Under this present system,the debt can never be repaid.

    Comment by Ross — May 14, 2013 @ 1:56 am

  3. There is only one law of economics that applies to everything and that is that if there is too much of anything it will drop in value. Paper cash is only a convenient way of carrying goods around to exchange for something you want. If there is too much of it it will eventually drop in value. There is so much potentially around now this collapse is bound to happen – but when is much harder. Reinhardt and Rogoff were not wrong they only really dais that 90% was wrong and 120% might be nearer the mark but the basic argument holds
    There is only one thing which ticks all the boxes for a useful money and that is gold. There is only a limited amount which only increases slowly and it cannot be printed

    Comment by Dickybird — May 14, 2013 @ 10:21 am

  4. Ross has provided us with his opinion, which is based entirely on his opening sentence.

    He has missed the point of this article. Countries with a fiat currency have not two variables to consider, but many, when framing budgets.

    Saving and spending are the only options available for those who cannot obtain loans.

    Availability and cost of loans and equity and interest returned on equity are the next considerations, for those corporations and credit-worthy individuals who have either significant savings and/or are loanworthy. Four more factors to consider.

    Countries such as Australia have a further options via potential adjustments of tax rates – on many taxes – thus hundreds of additional factors to balance (or not).

    Last and most important, the money supply can be added to or decreased by control of the printing presses.

    To pretend that countries have as simple a palette of options for managing their budgets as a 10-year old with a piggy bank is extraordinarily simplistic and erroneous.

    Australia has many, many ways to manage its balance sheet and to get this either right or wrong. Ross should start listening to real economists. They understand much more than one dimensional piggy-bank analyses.

    Comment by John — May 14, 2013 @ 10:27 am

  5. Dickybird,

    Why only gold? Why not cowry shells? Or ivory? Or other rare metals? Land? Same argument: Limited supply, slow increase and unable to be printed.

    Gold, as s substitute for paper money, lost its credibility almost a century ago and isn’t going to make a comeback any time soon. It is a side show.

    The whole money thing depends on faith. Faith that someone else will be prepared to swap a piece of paper or other token for something of real world value (food, shelter, services). That the changing price of gold is shown hourly on news channels around the world is testament to its lack of stability and real worth. If it was half as strong and stable as its pundits pretend, then there would be no need for a market – its value would be self evident. That gold is ultimately only another form of gambling chip demonstrates absolutely that the perceived value of gold is faith-based, not intrinsic.

    Comment by John — May 14, 2013 @ 10:39 am

  6. When a sovereign government key strokes a payment into existence then by the process of the recipient spending that payment the funds contribute to the incomes of the next in line with small proportions leaking into profits and savings at each goods and money exchange. Ultimately each amount created by the key stroking accumulates totally in savings held by financial institutions on behalf of their clients and usually in the private banks’ reserve accounts with the Reserve Bank.
    Then comes the tricky part; the government can sell bonds to the private banks and use the funds raised to offset the initial key strokes or they can tax some or all the savings out of existence, or they can leave the funds lie. Paying interest on bonds sold is upper crust welfare.
    The real key is that the poor spend their income and create demand and therefore employment. The well off don’t. From that it is fairly obvious that progressive tax is preferable to regressive tax.
    The government can run a deficit which increases at about the rate at which the size of the economy grows with no chance of any adverse consequences.
    The real thing to remember is that no currency government can ever go broke buying goods or services that are available for sale in the currency it issues. It will not create inflation unless the goods and services the sovereign government wishes to buy are in short supply and at present there is 12% total underemployment so a deficit is beneficial.

    Comment by John — May 14, 2013 @ 11:45 am

  7. The major part of our current funding problems started with mining boom mark one.
    Instead of creating a massive income earning sovereign fund from the extra 65 billions per, the Howard Govt were then raking in?
    They started writing cheques for people who had never ever been previously entitled.
    And given the time element, these same people regard those cheques or formerly unavailable Govt largesse, as a now deserved entitlement!
    Moreover, when the rivers of gold stopped flowing, this very same largesse created the very same structural deficit, that is the real problem for our economy, along with its evil twin, endemic tax avoidance.
    Head in the sand or some other more warm and comfortable place, or endless denials, doesn’t change those indisputable facts, neither does blame shifting!
    Tax avoidance is only possible, due to our quite massively complex tax collection methodology.
    Had we the spine to jettison the whole mess of rotten scrambled eggs of the tax collection scheme we have now; and replaced it with a single stand alone expenditure tax, we simply wouldn’t be talking about debt and deficit, but where to invest the sizable and ongoing surpluses.
    A simple single stand alone unavoidable tax gathering system, would end the need for compliance and its often onerous costs, which currently rips an average 7% from the average bottom line.
    In many cases, in the current economic climate, the very stark difference, between solvency and bankruptcy!
    Creating a single stand alone unavoidable tax collection methodology, like an expenditure tax, with absolutely no exclusions on any grounds, would also allow us to end the need to collect fuel excise, or subsidise its use. All that does in reality, is churn money. [Ditto the ubiquitous endlessly cascading GST.]
    Or make work for a small army of bureaucrats!
    An expenditure tax can be collected via the banking system, in a fee free paradigm, in return for continuing banking licences?
    Which in my view, is a virtual licence to print money. Further, the rate can be varied region by region where necessary, to alone control inflation or stagnation; meaning, we can lower interest rates until the AUD falls to a value that allows our export and manufacturing industries to pick themselves up off of the floor, and get back in the business of making Australia and Australians, the prosperous nation and peoples, we really should be!
    Our monumentally massive resources base, literally commands, we ought to be! Always providing, we don’t almost moronically, lock away the most prosperous, wealth creating parts of it?
    Basically, we have created a highly flawed economic model that makes us it slaves, with its high priests muttering mantras in reverent endlessly repeated monotones, like say, the Govt has no business being in business.
    Facts are, privatisation has rarely if ever, corresponded to a reduction in prices or an increase in service provision, but rather the opposite?
    Whereas, retaining ownership and tendering out labour/management contracts, may have?
    Privatisation of Telstra and the CBA, has deprived consolidated revenue of the 14 odd billion dollars both used to inject into consolidated revenue, as an annual dividend!
    In hindsight, and in my view, just another mistake made by an economic illiterate?
    We need a brand new economic paradigm, that becomes our slave and works for us, rather than visa versa, which would allow us to narrow the gap between the haves and the have nots!
    And then use the increased discretionary spending power, we would have thus created, to really turbo-charge the domestic economy.
    The one we must have, if we are to punch above our weight in the global market place and thereby, create the scales of economy, we must have, if we would go on and eventually become a world leading economy.
    We have the requisite resource base and, (hopefully, occasionally) the intellect!
    All that seems to be missing is the political will and the willingness to let go of an infant nation’s security blanket?
    i.e., foreign debt merely masquerading as investment capital!
    Debt or deficit?
    Well even in business, we understand that there is this thing called good debt.
    And as long as it is used to increase the volume of business or streamline and reduce running costs, it’s not a bad thing! Streamlining, is as simple as identifying and removing all the unproductive parasites and practises, and wherever possible, the profit demanding middle man.
    Essential therefore, that we recognise councils, so we can do just that, via regional autonomy and direct funding models!
    If however, debt is simply used to fund unavoidable recurrants, then it is usually the start of a one-way trip toward bankruptcy.
    We have just two choices!
    End endemic tax avoidance and increase internal revenue by as much as the 100 billion+ per, that is arguably being avoided!?
    Or, do very little other than install asinine austerity measures?
    Which in effect, screws down the lid on the economy, thereby progressively reducing the overall discretionary spend, and wait until we become the wallowing in debt, poor southern state, of the once mighty US? Or perhaps, China?
    Alan B. Goulding.

    Comment by Alan B. Goulding — May 14, 2013 @ 12:17 pm

  8. John,
    Cowrie Shells and Ivory fail as they are too easy to fake but other rare metals would do nearly as well but being rare they are not recognized as such. Land is ideal but try selling a few feet of your plot to pay the groceries.
    The final argument on faith is not bad. I am reminded of Richard “My Kingdom for a horse” Some people will exchange all their money/paper/gold/loaves of bread/horses for the one thing they have to have at the time. Gold is only the most convenient and safest item to hold and to have when you really need something

    Comment by Dickybird — May 14, 2013 @ 1:07 pm

  9. John I’m not providing you with mere opinion.It is a mathematical reality that imputs in terms of loans from increases in growth by private banks to our Govts,will always be always be excelled by outputs in terms of debt on growth + inflation.

    Unless we have new growth in the mining/energy industry,debt created by our OS bansksters will totally enslave us all.

    Comment by Ross — May 17, 2013 @ 9:33 pm

  10. There seem to be two “John” contributors.

    I went first and second.

    Ross, pardon my slowness in responding – I have now added this site to my address book, so future messages won’t end up in the spam folder.

    I am familiar with some mathematical models regarding creation and flows of fiat money, but I cannot understand your second sentence. Possibly, we are close to agreement, but at present the key sentence is gobbledy-gook. What do you mean by “excelled”?

    Comment by John B — May 19, 2013 @ 2:49 pm

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