Debt to GDP: Who Really Carries the Burden?
Over recent months, much has been made of the rapid increase in public debt levels. Protests against excess government spending in the U.S. and severe economic problems in debt-laden European countries have forced the federal debt to the forefront of national issues. There are, of course, those who attempt to justify the massive debt—if we were to take measures to decrease the debt right now, they say, the nation’s economic health would worsen considerably. On the other hand, there are a growing number of economists, policymakers, and taxpayers who would prefer to endure the short-term pain of public spending cuts in order to avoid the long-term implications of a true sovereign debt crisis.
Arguments aside, average American citizens may simply be wondering how bad the debt really is. In discussions dealing with this issue, one particular statistical measure is used more often than others: the ratio of debt to gross domestic product (GDP). After brief examination, we might conclude that there is some fault with this particular measure.
Economists compare a country’s debt to its GDP in order to observe the burden of debt relative to the size of the economy. However, those who are familiar with basic economics know that government expenditures are included in the calculation of GDP. Since the government cannot create new wealth (it can only redistribute wealth that already exists) and survives only by extracting resources from the private economy, it is puzzling that so many economists choose to compare debt to simple GDP. The government can only pay its debts by taxing the private economy in one form or another, which places the debt burden squarely on the private portion of the economy. One could easily make the argument that the debt to GDP comparison does not accurately reflect the burden the private economy will eventually have to bear—especially considering that government spending now represents nearly 25% of GDP. To illustrate this, we can remove government spending from GDP and see what the numbers say:
The previous graph shows us that the burden of debt on the private economy (GDP minus government spending) is on a different, and more troubling, trajectory than the oft-cited debt to GDP (which includes government spending). This makes perfect sense when one considers that dramatic increases in government spending and debt will artificially inflate GDP. The following chart, which some will find equally as troubling, shows the exact extent to which government spending has inflated GDP over the past 50 years.
It is no surprise that some prominent economists are still calling for continued deficit spending despite these problematic figures. Keynesian theories that have dominated economics over the past century teach that there is little difference between public and private spending, and they also seem to imply that it is wise to produce short-term benefits at long-term costs.
Luckily, there is a growing body of reality-based economic research to combat those ideas and warn of the very serious nature of our debt situation. Particularly outstanding work on the part of Reinhart and Rogoff (2009) shows that, unless the U.S. takes timely and meaningful steps towards debt reduction, we could see dramatic inflation in the future as the government is forced to monetize debt. It is quite possible that the costs associated with that inflation, along with almost certain tax increases, could far outweigh the fleeting benefits produced by large budget deficits. With the debt to GDP ratio skyrocketing—and the debt burden on the private economy rising even faster—citizens and policymakers are going to be forced to make difficult economic decisions that will shape the country for decades to come.
Andrew McManimon is currently pursuing undergraduate degrees in economics and finance at Winona State University in southeastern Minnesota. Andrew was one of the winners of Atlas’ Sound Money Essay Contest with his essay “The Ethical Implications of Monetary Manipulation”
All data obtained from Federal Reserve Bank of St. Louis – FRED database.
