The US Debt and How It Got So Big
Five Reasons Why America Is in Debt
The U.S. debt is the sum of all outstanding amounts owed by the federal government. As of Feburary 2020, it exceeded $23 trillion. The U.S. Treasury Department tracks the current total public debt outstanding, and this figure changes daily. The debt clock in New York also tracks it.
Nearly 75% of this debt is held by the public. The government owes this to buyers of U.S. Treasury bills, notes, and bonds, including individuals, companies, and foreign governments.
The remaining quarter is intragovernmental debt. The Treasury owes this debt to its various departments who hold government account securities, such as Social Security, which is one of the biggest owners. These government account securities have been running surpluses for years, and the federal government uses these surpluses to pay for other departments. These securities will come due as baby boomers retire over the next two decades. Since Social Security and trust funds are the largest owners, the answer as to who owns the U.S. debt is basically everyone’s retirement money.
America's debt is the largest sovereign debt in the world for a single country. It runs neck and neck with that of the European Union, which is a unified trade body of 28 member countries.
The national debt is greater than what America produces in a whole year. This high debt-to-gross domestic product ratio tells investors that the country might have problems repaying the loans. That's a new and worrying occurrence for the U.S. In 1988, the debt was only half of America's economic output.
How the U.S. Debt Got So Large
The chart below tracks U.S. debt from 1989 to 2019. It has increased by more than 680% during that time. In September 2019, the end of the government's fiscal year the national debt was about $22.7 trillion. This figure includes both debt held by the public and intragovernmental debt.
There are five significant causes behind of the size of the national debt.
Federal Budget Deficits
The national debt is an accumulation of federal budget deficits. Each new program and tax cut adds to the debt. These show up in budget deficits by president. The largest deficit goes to President Obama. He added the American Recovery and Reinvestment Act stimulus package, the Obama tax cuts, and an average of almost $690 billion per year in military spending.
Although the national debt grew the most, dollar-wise, under Obama, it wasn't the biggest percentage increase. That honor goes to Franklin D. Roosevelt. He only added about $236 billion between 1933 and 1945, but that was about a 1,047% increase. He did this to fight the Great Depression and prepare the United States to enter World War II at the start of the 1940s. (It's also worth noting that FDR is the only president to serve three terns.)
President Bush had the second-largest deficit. He also fought the financial crisis with the $700 billion bailouts. Bush added the Economic Growth and Tax Relief Reconciliation Act and the Jobs Growth and Tax Relief Reconciliation Act tax cuts to end the 2001 recession, and he responded to the 9/11 attacks with the War on Terror.
There was also President Reagan who cut taxes, increased defense spending, and expanded Medicare. All of these presidents also suffered from lower tax receipts resulting from recessions.
Social Security Trust Fund
Every president borrows from the Social Security Trust Fund. The Fund took in more revenue than it needed through payroll taxes leveraged on baby boomers. Ideally, this money should have been invested to be available when the boomers retire. Instead, the Fund was "loaned" to the government to finance increased spending. This interest-free loan helped keep Treasury bond interest rates low, allowing more debt financing. However, it must be repaid by increased taxes when the boomers do retire.
Foreign countries such as China and Japan buy Treasurys to keep their currencies low relative to the dollar. They are happy to lend to America—their largest customer—so that it will keep buying their exports. Even though China warns the United States to lower its debt, it continues to buy Treasurys.
Low Interest Rates
The U.S. government has benefited from low interest rates. It couldn't keep running budget deficits if interest rates skyrocketed as they did in Greece. Why have interest rates remained low? Purchasers of Treasury bills are confident that America has the economic power to pay them back. Foreign countries have increased their holdings of Treasury bonds as a safe haven investment. For instance, in the 1970s and 1980s, foreign holdings were about 10%, but that number grew to almost 55% by 2011.
The Debt Ceiling
Congress can limit the national debt, but it can also raise the debt ceiling. Since 2001, Congress has modified the U.S. debt limit 14 times, with more sure to come. The debt limit has also been suspended. In 2019, President Donald Trump signed the Bipartisan Budget Act of 2019 that increases discretionary spending limits for FY 2020 and FY 2021 and suspends the public debt limit through July 31, 2021. As a result, the debt limit will be whatever level the debt is on that day.
How the Large U.S. Debt Affects the Economy
In the short run, the economy and voters benefit from deficit spending because it drives economic growth and stability. The federal government pays for defense equipment, health care, and building construction, and contracts with private firms that then hire new employees. These new employees then spend their government-subsidized wages on gasoline, groceries, new clothes, and more, and that boosts the economy.
The same effect occurs with employees the federal government hires directly. And as part of the components of GDP, government spending makes up a huge chunk, most of which is allocated to military expenditure.
Over the long term, debt holders could demand larger interest payments. As the debt-to-GDP ratio increases, they’d want compensation for an increased risk. Diminished demand for U.S. Treasurys would further increase interest rates, which would slow the economy.
Lower demand for Treasurys also puts downward pressure on the dollar. The dollar's value is tied to the value of Treasury Securities. As the dollar declines, foreign holders get paid back in a currency that is worth less. That further decreases demand, and many of these foreign holders of U.S. debt are more likely to invest in their own countries.
At that point, the United States would have to pay exorbitant amounts in interest. The amount of federal spending today points to high-interest payments on the debt in the near future.
Congress knows a debt crisis isn’t far away. In less than 20 years, the Social Security Trust Fund won't have enough to cover the retirement benefits promised to baby boomers. That could mean higher taxes or curtailed benefits once the high U.S. debt rules out further loans from other countries. This would primarily affect retirees younger than 70, but it could also affect those who are high-income earners and not as dependent on Social Security payments to fund their retirement.
The U.S. debt affects several parts of our economy and many people. Understanding what the national debt is and where it is headed could help you better prepare for your own financial future.
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