The Wrong Analogy

No doubt the folks at the Heritage Foundation will pillory Paul Krugman for his column in this morning’s New York Times. Their disrespect for him matches his own disrespect for them. On the subject of the national debt, Krugman writes:

Perhaps most obviously, the economic “experts” on whom much of Congress relies have been repeatedly, utterly wrong about the short-run effects of budget deficits. People who get their economic analysis from the likes of the Heritage Foundation have been waiting ever since President Obama took office for budget deficits to send interest rates soaring. Any day now!

And while they’ve been waiting, those rates have dropped to historical lows. You might think that this would make politicians question their choice of experts — that is, you might think that if you didn’t know anything about our postmodern, fact-free politics.

The problem, Krugman claims, is that right wing ideologues have chosen the wrong analogy. They claim that the U.S. government is like a family who has taken out too big a mortgage. But that’s simply not the case, for two reasons:

First, families have to pay back their debt. Governments don’t — all they need to do is ensure that debt grows more slowly than their tax base. The debt from World War II was never repaid; it just became increasingly irrelevant as the U.S. economy grew, and with it the income subject to taxation.

Second — and this is the point almost nobody seems to get — an over-borrowed family owes money to someone else; U.S. debt is, to a large extent, money we owe to ourselves.

Of course, Krugman’s critics will say that’s absurd. America is on the hook to China. But, according to Krugman:

It’s true that foreigners now hold large claims on the United States, including a fair amount of government debt. But every dollar’s worth of foreign claims on America is matched by 89 cents’ worth of U.S. claims on foreigners. And because foreigners tend to put their U.S. investments into safe, low-yield assets, America actually earns more from its assets abroad than it pays to foreign investors. If your image is of a nation that’s already deep in hock to the Chinese, you’ve been misinformed. Nor are we heading rapidly in that direction.

Krugman repeats the argument he has been making for a long time. Politicians should be focusing on unemployment. When people go to work, tax revenues go up — and deficits go down. But that won’t happen until those in charge get their analogies right.

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Author: OWEN GRAY

  • ShannonLeee

    and lets not forget that as long as we carry the biggest stick and keep the world somewhat in order…our debt will always be welcome.

    There is a reason everyone ran to the dollar after the US had its credit rating reduced…we still have the safest currency in the world.

    We may see the Euro go bye bye by the end of this decade, but the dollar will not…because if we go down…we are taking everyone with us.

    The dollar is a WMD.

  • merkin

    The recession is the reason that the deficit is so high. Prolonging for years the recession’s holdover high unemployment, high under employment and wage suppressing effects will actually result in more debt load increase than actively attacking the problems head on.

    Just as it was in 2008 the biggest single problem we face is the foreclosure mess. The most cost effective thing we could be doing and should have been doing is to stop throwing people on the street, to provide a basis for rewriting mortgages to reflect the loss in home value caused by the bubble bursting.

    It is also important to call the Heritage Foundation exactly what they are, a propaganda producing organization to support the conservative bias of the nation’s businesses and the nation’s wealthy. They don’t do research to arrive at answers to the nation’s problems, they provide the illusion of research to support conservatism’s preferred solutions.

  • http://wideeyedandreal.blogspot.com ProfElwood

    How convenient to forget that bond interest rates are low because the Fed bought hundreds of billions in bonds, and is keeping interest rates at practically zero, which makes bonds profitable at even their low interest rates (at least for the banks that can borrow that money), especially in a risk-averse market.

  • Dr. J

    Of course we repaid WWII debt. People bought bonds, and the government paid them back as they came due.

    The rising interest rates are there to be seen as well, in Greece and Italy.

    Krugman’s point about borrowing from ourselves is a reasonable one. Deficit spending mostly siphons money from one part of our economy to another. Which makes it all the more curious that anyone would expect it to grow the economy.

  • Allen

    Republicans are always stating they hate debt and spending, one wonders why they create so much debt by spending the bond money the get from borrowing.

    This “Heritage” Foundation has never been about American Heritage. It is about military hair cuts, ugly American comments, Republican partisan talking points, and, being a national embarrassment.

  • SteveinCH

    And here we have a great example of why Paul Krugman is so dangerous to the US economy. I first saw a version of the argument that Owen links to over the holidays. Although I hate linking to Krugman, the link can be found below.
    http://krugman.blogs.nytimes.com/2011/12/29/the-burden-of-debt-again-again/

    Now, why is this such a dangerous argument? Because it massively misrepresents the story and I rather suspect Dr. Krugman knows this to be true. To show you why, let’s refer to the 2010 census data.

    http://www.census.gov/compendia/statab/2012/tables/12s1289.pdf

    Now, let’s focus on government investment outside the US and foreign government holdings inside the US. The private holdings are not income that accrue to the US government so they are irrelevant for Dr. K’s argument.

    US government assets abroad are about $560 billion. Most of that is reserve assets (the stuff that notionally backs our currency). Most of the reserve assets don’t pay interest (things like gold and SDRs). The securities holdings of the US government abroad are less than $100 billion.

    Now foreign governments hold $4 trillion of US government securities. Foreign corporations hold another $1 trillion of US securities. So the ratio of instruments the US is paying debt on versus receiving interest on is somewhere between 8 and 50 to 1, nothing like the charts Dr. K uses.

    Then again, maybe Dr. K believes public and private assets are the same and money paid to US corporations is actually paid to the government. At least his math would work then but you’d think it might be worth owning up to that assumption.

    As to why he’s dangerous, it’s because people like Owen and many others simply link to his work, never understanding how disingenuous he’s actually being.

  • adelinesdad

    I’ve asked before but never got an answer. I’m not an econ expert so I’m perfectly willing to except a reasonable answer, so I genuinely invite one.

    Krugman’s argument is that deficits aren’t a problem as long as there is a demand for bonds, as measured by low interest rates on those bonds. Ignoring, for now, Prof’s point that some of that demand is artificial, that implies that we should only be concerned about our deficits once interest rates begin to rise. But…

    Rising rates means it costs more to finance our debt. Not just our current deficit but also all of our existing debt as it comes due and we have to find new borrowers at higher rates. So, we’d be faced with having to cut our deficits at the same time as our costs rise. In other words, we’d need significant austerity.

    Of course that austerity (especially if you believe Krugman) would slow down the economy, reducing tax revenue which also makes it harder to reduce our deficits and makes investors nervous that we will not be able to finance our debt and further drives up interest rates.

    From that perspective, the analogy that makes sense to me is one of the Titanic, where the captain says to speed up because there are no icebergs in sight. Especially since we’ve exhausted many of our tools for dealing with such a scenario already. All of this is compounded by the fact that, even if the economy recovers, our future fiscal situation still appears dire and investors aren’t ignorant of that. Investors may be willing to bet that we’ll be OK for the next 10 years. But when those bonds come due, will there be others investors that will make that bet? The game of hot potato is another analogy that comes to mind.

    The prudent course, therefore, is to be cautious about our deficit well before interest rates begin to rise, and to look for other measures of our current and projected solvency, such as the debt/GDP ratio which continues to rise.

    Again, I welcome any reasonable argument to show me where I’m wrong. I’ve got three kids. I’d love to be wrong about this.

  • Jim Satterfield

    Please notice that SteveinCH once again attempts to basically change the subject. Krugman’s point was not about comparing U.S. government assets abroad to foreign investments in the U.S., either private or government. It was about comparing the amount of U.S. debt held by overseas investors to the amount held by the U.S. itself. Those reading this and other posts by Steve should just keep in mind he is at least as partisan as Krugman and picks out “facts” that would seem to support his belief system even if not actually directly related to the point at hand.

  • adelinesdad

    Jim,

    Krugman:

    It’s true that foreigners now hold large claims on the United States, including a fair amount of government debt. But every dollar’s worth of foreign claims on America is matched by 89 cents’ worth of U.S. claims on foreigners. And because foreigners tend to put their U.S. investments into safe, low-yield assets, America actually earns more from its assets abroad than it pays to foreign investors. If your image is of a nation that’s already deep in hock to the Chinese, you’ve been misinformed. Nor are we heading rapidly in that direction.

    Granted, it wasn’t his main point, but it still was a point he made and SteveinCH’s counterpoints seem appropriate.

  • Dr. J

    So, we’d be faced with having to cut our deficits at the same time as our costs rise. In other words, we’d need significant austerity.

    Yes, if confidence drops in US bonds relative to other investments and interest rates rise as a result, we’d face an ugly austerity spiral of the sort Greece and Italy are facing. Krugman is optimistic to imagine that this would be a gradual process, and that it would be starting now if it were going to start at all. It’s akin to concluding the risk of fire is low because you don’t smell smoke.

    I’ve got three kids. I’d love to be wrong about this.

    Perhaps we can locate a fourth for you. :^)

  • SteveinCH

    Jim

    Thanks for making the point for me. I never claimed Krugman was making the claim I made. I claimed he should be making that point. An argument that we shouldnt worry about US government debt because the US is such a big holder of foreign debt only makes sense if the US government holds the foreign debt. The US government holds very little foreign debt and thus Krugman’s argument not to worry because of debt balance is specious at best.

    As quoted in the original post, this is his latest don’t worry about debt argument. It is his worst to date and basically a lie.

    As to selectively using data, feel free to go to the source and suggest an alternative interpretation. Or feel free to keep whining…

  • zephyr

    Oh sure, Krugman is dangerous… the same way the truth is dangerous. Amazing how resistant a party can be to breaking free of idealogical dogma – long after it’s shown to be essentially useless.

  • SteveinCH

    LOL Zephyr. Perhaps you should engage in substance as opposed to making trite statements. Talk about resistance…

  • zephyr

    Sure Steve. Calling the sky blue may be considered trite as well. What merkin said.

  • SteveinCH

    The sky isn’t blue at night but hey why worry. You’ll never engage on the substance anyway.

  • zephyr

    Steve, your tendency here has been to run interference for people who cling to failed policies. Is this what you consider to be “substance”?

  • SteveinCH

    zephyr,

    That’s interesting. What failed policies am I running interference for? How do you know they have failed?

    I’d love to debate specific policies for you but, again, I rather doubt you have any interest in doing that. You’d just prefer to hurl meaningless accusations.

    The fact remains that Krugman is using bad data. You may or may not agree with his point (I’d guess you do) but using bad data is using bad data.

    Odd that you have no interest in engaging on that point.

    But I’ll wait for you to choose a policy for a substantive discussion.

    Take care.

  • Jim Satterfield

    Krugman doesn’t say don’t worry about debt. He just has a different idea of what level of debt it takes to warrant the kind of worry that many are trying to generate right now. The calls for instant deep cuts that would cause an uptick in unemployment are foolish in the extreme given where our current employment levels are now.

  • SteveinCH

    Nonsense Jim. He says we are overworried about debt because he thinks we should take on more debt right now. There are no calls for instant deep cuts. Indeed there are no calls for actual spending cuts at all, merely decreases in the rate of growth of spending.

    But there’s those selective facts getting in the way again.

  • adelinesdad
    I’ve got three kids. I’d love to be wrong about this.

    Perhaps we can locate a fourth for you. :^)

    I hope I’m not wrong about that.

  • zephyr

    Steve, when you start contributing as much in the way of meaningful dialogue as some of the people you make childish comments about, then I’ll be happy to entertain your personal definition of the word, “substance”. So who else in your unique worldview do you consider to be “dangerous”?

  • Jim Satterfield

    There’s no call for instant deep cuts? Isn’t Ron Paul in a statistical tie for first place in Iowa? The man who calls for a trillion dollar cut the first year and a balanced budget with no tax increases within four years? Whether their paths to doing so are realistic aren’t the other Republican candidates calling for reductions in the 20 to 25 percent range?

  • SteveinCH

    Jim,

    Good point on Ron Paul. He is the only person who has proposed actual cuts. That said, and to answer the question posed by zephyr, he is also dangerous.

    As to the other R candidates, I haven’t seen any calls for 20 percent reductions in spending. But then again, Presidential candidates tend to say things about the budget they aren’t going to do. Remember President Obama’s pledge to cut the deficit in half?

  • SteveinCH

    Ah zephyr, there you go again. Meaningful is in the eye of the beholder, now isn’t it? I understand that the only meaningful contributions you may see are those attacking one party and defending the other. I see it differently. Perhaps that’s where we differ on what is meaningful.

    Take care

  • Allen

    So SteveinCH….

    Which “meaningful” Republican candidate do you support this time around?

    Of course I’m laughing at you. Can’t help it really.

  • SteveinCH

    Allen

    Thanks for adding to the thread’s substance. I’m supporting NOTA at the moment. That may change at some point but I’d bet against it given what I have heard so far

  • Rcoutme

    SteveinCH and Zephyr, perhaps you should reread the rules for the forum. Attacking bloggers and commenters is not allowed.

    Meanwhile, although national debt is, in fact, a problem, national economic stagnation is likely a bigger problem. Meanwhile, in the end, the U.S. government has the power to print its own money. Although it would not be an ideal solution, it would, in effect, be a last resort to solving the debt problem if enough investors did not buy bonds.

    In practical reality, if the Federal Reserve buys U.S. bonds, we are printing the money of our debt (since the Fed orders the Treasury to print up the money–in addition the Fed can just type a few numbers into a computer to create the cash, as most money is not actually printed anyways).

    The U.S. still pays interest on its debt–thus more money is needed when the bond comes due. Even still, congress has the power (should it choose to exercise it) to print and coin money, so it could also create the money for the interest.

    There are significant downsides to printing one’s way out of debt (inflation being one of them, but not the only one). Paul Krugman is simply trying to point out that we are no where near a precipice when it comes to our sovereign debt. We are, however, in a rather tough spot concerning unemployment.

    Finally: as for us paying back or not paying back the debt from WWII. We honored the bonds we floated for the war. Much of the debt, however, was paid with more debt. So one could claim that we paid the war debt; one could claim we did not pay it. It all depends on what one’s point of view concerning borrowing from Peter to pay Paul happens to be.

  • http://wideeyedandreal.blogspot.com ProfElwood

    Rcoutme:”Finally: as for us paying back or not paying back the debt from WWII. We honored the bonds we floated for the war. Much of the debt, however, was paid with more debt.”

    That’s a pointless distraction. The government always juggles short and long term bonds, constantly repaying new ones with old. What counts is whether the total is increasing or decreasing. After WWII, the total debt remained relatively constant, which meant that it was being paid down in real dollars (or inflated away — depending on how you want to view it) until the 1980s.