Part I

Hello again thanks for coming back. The blog is about my attempts to evaluate the problem of our nation's high national debt in the hopes that I will become a more informed voter in the process. My secondary goal is to be informative to whoever reads this and hopefully encourage them to take an interest in government and the welfare of our nation. If you follow this blog to the end (and I hope you will!) I would encourage people to post comments or ask questions but I would ask that we try to keep this politically neutral. I want to stress that I want to talk about facts and ideas, not who you should or should not vote for, or who is or who is not at fault for current difficulties. When I comes to voting I strongly encourage everyone to do it. As for who you should vote for, I do not want any advice that goes beyond: be informed, do your homework, and vote your conscience.

With that said lets dive right into it. The issues this blog is about it the national deficit and the debt that that leads to. So let's start with basics before we look at any problems or solutions.

What is the national debt?

This is the money and that the Federal government has had to borrow over the years to run government functions that they did not have revenue to cover at the time.

Why does the Federal government need to borrow money?

When the government spends more money that it has on hand it is called deficit spending. When the government does this it has to borrow to cover the expenses it cannot afford.

Why does the Federal government just not spend more than it collects in taxes?

The main reason is that the government does not really know how much it will collect in taxes until the taxes actually come in. It is a little like owning your own business. You can estimate how much money you might make in a year but you will not know the actual amount until the year is over. So the government could write up a budget that it is sure it could afford at the beginning of the year, then a recession could hit and it turns out that the tax revenue collected thought the year was not enough by the end of the year. Also it would be very hard for the government to function reliably if it had to cut and reinstate programs on annual bases depending on whether the money was there or not.

Why doesn’t the Federal government just save money in good years and draw on in bad years?

Well it does do this to a certain extent but it is actually not good for the government to save too much money. It is because of the huge amount of money the government deals with. If the government were to save the hundreds of billions, if not trillions of dollars, it would need be able to ride out a slump in the economy, let alone a major recessions, it would have a harmful effect on the economy. The reason is if the Government pulled that amount money out of the economy, through taxes, and did not return to the economy through government spending or tax refunds it would severely reduce the national money supply and lead to deflating value of the dollar with would cause wages to drop and general economic instability.

How big is the federal debt?

Last I check (April 7th 2011) the debt was $14,264,245,526,311.58

Is that a lot of money?

Yes.

How does that Federal government borrow money?

The Federal debt is not like a mortgage or credit card debt like an individual might have. With government debt the interest rate and the terms are not set by the lender, but by the borrower. This is done by selling securities, now there are lots of different kinds of securities but they all work roughly like this. Let's say the US government needs $1000 that they do not have. To raise the money the government authorizes the Treasury Department to sell IOUs (securities) on the open market to earn that amount. So the Treasury makes 10 IOUs with the following terms: If you buy this IOU for $100 the US Government will pay you back $105 after two years (These terms are not the actual terms, just examples. The actual terms vary depending a number of factors. Some have to be paid back in 3 months and some after 30 years). Then the Treasury puts these IOUs on the market and ten people buy one each then bingo, the US government has the $1000 it needed, but they will owe ten people $105 in two years. It is also worth noting that after the two years is up the government does not automatically have to pay that back., it is paid back any time after when the agreed period of two years is over and the owner redeems those securities (so it is worth noting that the government cannot pay off the debt any faster than people want to cash in).

Who buys these IOUs (securities)?

Lots and lots of different people, countries, banks, companies and state and local governments, in fact it is very possible the you or someone you know owns some of that debt. Have you ever owned a federal savings bond or a Treasury bill? These are securities, and if you owned one you owned part of national debt.

Is this the only way the government borrows money?

No, the government also borrows money from itself, but I will cover that later.

Who owns the debt right now?

Again lots and lots people, countries, banks, companies and state and local governments. But broadly speaking $9,652,195,544,012.12 (about 68 percent of the national debt) are outstanding securities (so IOUs we have sold and not paid back yet) and $4,612,049,982,299.46 (about 32 percent) is money that the government has borrowed from itself (again more on that later)

I thought that we borrow a lot of money from China is that true?

Well yes and no. The US government does not “borrow” money directly, it sells securities (IOUs) that it has to pay back, but yes China does own a lot of these securities but not the majority (though they are the single biggest owner of securities). Here are the top 5 foreign Governments that own US security:

1. China $1,154.7 billion
2. Japan $885.9 billion
3. United Kingdom $278.4 billion
4. OPEC (Ecuador, Venezuela, Indonesia, Bahrain, Iran, Iraq, Kuwait, Oman, Qatar, Saudi Arabia, the United Arab Emirates, Algeria, Gabon, Libya, and Nigeria.) $215.5 billion
5. Brazil $197.6 billion.

All together the US government owes 4,453.4 billion to foreign governments.

Who do we owe the remaining 5,135 billion to?

Private individuals, banks, and companies, maybe even you.

Some of those countries do not like us very much why would they, or anyone else for that matter, buy our securities and finance our debt?

Because it is a good investment. The US government has never defaulted on a security. It is a safe way to invest because the US economy is rather stable and America is a reliable debtor. Whether you own $100 or $100 billion of Treasury bills that is almost as good a gold when it comes to keeping its value (and it is a lot easier to get and there is a lot more of it than there is gold).

You mentioned that the Government can borrow money from itself how is that possible?

Shakespeare’s Polonius said “Neither a borrower nor a lender be.” Well we are guilty of both here. The other chunk on the national debt is intergovernmental loans ($4,612,049,982,299.46). The way this works is a little less straightforward than securities. The government has a lot of trust funds. The most famous is the Social Security Trust fund. The Social Security Trust fund is an interest bearing trust of money that has been saved from when the Government collects more in Social Security payroll taxes than pays out in Social Security benefits. The trust is there to help in the event of a down turn in the economy (like the current recession) and Social Security payroll taxes cannot cover Social Security benefits. In these cases the trust will provide the money to cover the short fall until the economy picks back up. So how do we borrow from ourselves? Now let's say the government needs $1000 and it does not want to sell any more securities (like any commodity there is only so much demand and you do not want to flood your market). So it looks at its own accounts and sees billions of dollars in the Social Security Trust fund (which is in the form of securities just like the debt except this time the government is the buyer and not the seller). So the government cashes out the $1000 it needs and spends it. Of course the government has to pay that back to the Social Security Trust so it can buy new securities to replace the old ones and a little extra to make up for the loss in interest that would have occurred if that money had just stayed in the trust. This method of borrowing has some upsides in that it can happen quickly and the time that it has to be paid back is a little more flexible than a security that will cashed out by the owner when it matures.

Well that is quite the system, but it seems to work, then why should we be worried?

You are right, it is quite the system, and for all intents and purposes it works, and works well, but in excess it has its dangers. I will cover it in my next post.