Thread by @tymoignee

Thread
The CBO is at it again with its new Primer on the Federal Debt cbo.gov/system/files/2…
Below is a thread but for a fully developed counter argument see this: tandfonline.com/eprint/RBIF35M…

First note that it is actually quite a good primer on the technicalities of public debt: how it is measured, what is the debt ceiling, what happens when gov reaches it, etc.

The most interesting part is the last part about the consequence of the growth of PD. We are told: "The increases in debt that CBO projects would also pose significant risks to the fiscal and economic out-look, although those risks are not currently apparent in financial markets

"High and rising federal debt increases the likelihood of a fiscal crisis because it erodes investors’ confidence in the government’s fiscal position and could result in a sharp reduction in their valuation of Treasury securities, which would drive up interest rates"

" to put debt on a sustainable path, law-makers would need to significantly change tax and spending policies"

The typical arguments are at play: debt is not financially sustainable, crowding out effect, deficit spending is inflationary, more debt now means more taxes or less spending later because the debt needs to be repaid.
ALL THE THEORETICAL AND EMPIRICAL EVIDENCE FOR THESE ARE WEAK

One: fiscal deficits are the norm since the 1930s and the public debt has been growing almost continuously since 1790.

The fiscal position of the government is mostly a REACTIVE variable because of automatic stabilizers. That is, the government has very limited control over its finances. What drives the fiscal position of the government? The desire of other sectors of the economy to be in surplus

The domestic private sector and the rest of the world want to be in surplus so the government must be in deficit. As you can see in the graph. The government is almost always in deficit and if it is not another sector must be in deficit. Not everyone can record a surplus

Most of the automatic stabilizer at the federal level works through taxes. When the economy is doing well, the private sector does well, income growth and so tax revenue growth automatically. The reverse occurs in recession.The government as very limited control over tax revenue

When Obama and more recently Walker is asking the government to put its finances in order like any businesses or household, it does assumes that Federal finances and private finances are the same thing. They are clearly not.

Government issues the currency, it has no solvency or liquidity concerns like any other part of the economy. It does not have to balance its books and doing so actually hurts other sectors because their income falls(higher taxes and lower government spending lower private income)

The CBO actually notes: "because the US currently benefits from the dollar’s position as the world’s reserve currency and because the federal government borrows in dollars, a financial crisis—similar to those that befell Argentina, Greece, or Ireland—is less likely in the US."

But then it goes on with the typical line: "Although no one can predict whether or when a fiscal crisis might occur or how it would unfold, the risk is almost certainly increased by high and rising federal debt"
There is again no evidence for that.

Forced default by monetarily sovereign government is virtually zero on public debt denominated in their own currency. Moody's did find a few default for technical factors (something like the guy in charge of keystroking payments was in the bathroom when servicing was due).

As a point of reference default rate is zero on such type of debt. There is no need for a credit rating.
Moving to the impact on interest rate, the fiscal position has at best a very weak independent effect. The same is true for inflation and inflation expectations.

THE OVERWHELMING DETERMINANT OF INTEREST RATE ON THE PUBLIC DEBT IS MONETARY POLICY. If the fed does not react to the fiscal position or inflation expectations then markets don't either. The same is mostly true also for other long-term rates.

Thus interest rates on the public debt are policy variables not variables that is set by the market. Forget bond vigilantes; the Fed is in charge as are all central banks of monetarily sovereign countries.
Regarding inflation and the deficit again there is no direct link.

Deficit does not mean inflation, surplus does not mean deflation. Inflation is determined by other factors including factor costs, output gap and other ftalphaville.ft.com/2019/03/01/155…

The impact on economic growth is more on its variability than on its level. Automatic stabilizers smooth economic growth and so improve economic stability. Some studies have found a small decline in growth but it is not very large. For the US not much impact on growth rate

Automatic stabilizers have helped tremendously to reduce economic instability and we have had quite different growth patterns since automatic stabilizers have existed. Smaller, shorter, more spaced recessions since new deal/WWII

Regarding tax rate finally. Again there is no link between tax rates and the public debt. The public debt won't have to be repaid by your grand children. Tax rates may rise in the future but not to repay the public debt.

Conclusion: let the fiscal position be whatever it needs to be. It adapts to accommodates the needs of the economy and is not driven by discretionary spending.
Fiscal deficits are normal and help the economy. They help to smooth growth and private income.

If you want a copy of the Challenge paper. You will need to email me at [e-mail]. Free online copies ran out.