Public Debt Cannot "Get Ahead" of Private Debt

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In a recent note on the concern over public debt, Lars P. Syll points out that the focus “is solely on the upper limit of indebtedness”. Syll says there may also be a problem “if public debt becomes too low” or “too small.”

Public debt, however, is not too small. At least, not in the United States:

Figure 1: Showing the Growth of the Federal Debt above and beyond its pre-1975 Trend

If the 1945-1974 trend of Federal debt growth had continued unchanged to 2015, we would have ended up with a one-trillion-dollar debt. Instead, we got $18 trillion. The problem is surely not that the Federal debt is too low or too small.


Syll considers balanced budgets (“People ... are as a rule worried and negative” about “public sector budget deficits and debts”) and Ricardian equivalence (“financing government expenditures through taxes or debts is equivalent”). He contrasts the “rather widespread consensus” (“public debt [is] acceptable as long as it doesn’t increase too much and too fast”) with the view of “both Keynes and [Abba] Lerner” (“Public debt is … a means to achieving two over-arching macroeconomic goals – full employment and price stability”).

Syll has the consensus saying a high level of public debt hinders growth. He has Wolfgang Streeck saying just the opposite: slow growth caused the increase in public debt. Despite the difference of opinion, there seems to be agreement that GDP is the right context to use.

But GDP is not always the best context for debt. For if the economy slows, there is less GDP but no less debt. Then too, one needs money to pay down debt, but money is destroyed when debt is repaid. GDP is important -- income is important -- because it brings us money. But we pay down debt with money, not with GDP.

There is another, better context for debt. Lars Syll comes close to identifying it when he writes: “Central to the Keynesian influenced view is the fundamental difference between private and public debt.” But Syll fails to pursue that fundamental difference.

The better context for debt is debt: Public debt relative to private, or private relative to public. Consider the relation between private and public debt:

Figure 2: Non-Federal Debt relative to the Federal Debt

While the economy was good in the 1950s and '60s, the line was going up. While the economy was good in the latter '90s, the line was going up.

When the line is trending down, as from 1974 to 1993, the economy is preparing to have the line go up again later. It is preparation for good times to come. When the line is falling more severely, as in the years since 2008, it is again preparing for good times to come.

Low and rising is good. High is not so good. Falling is preparation.

Why was the increase from the early 1950s to 1974 on Figure 2 so much more rapid than the decline from 1974 to 1993? Come to think of it, why was the decline of 2008-2016 so much more rapid than the decline from 1974 to 1993?

The latter question is easy to answer: There was no “panic” in 1974. The panic of 2008 sent the debt ratio tumbling, with private sector debt deleveraging combined with massive public deficits. We saw nothing like that in the 1970s.

In the 1970s, “safety net” policies put in place during and after the Great Depression accelerated the growth of public debt. This reduced the debt ratio. But the private sector was not in the midst of deleveraging. Private debt grew rapidly on the enlarged foundation of public debt. Private debt in those years grew almost as fast as public debt. Because private debt growth was hindered by neither crisis nor policy, it took 19 years to bring the ratio down enough that the economy could again grow with vigor.

In the 19 years before 1974, when the economy was good, private debt grew nine times faster than public debt. That’s why, after 1974, the economy needed rebalancing.

In the 19 years from 1974 to 1993, Federal grew more than 13 times as fast as in the 19 years leading up to 1974. But private debt grew nearly as fast as public debt, so the debt ratio came down only slowly.

The problem in the years of rebalancing was not that public debt was "too low" as Syll might suggest. Rather, the problem was that the debt ratio could not easily fall while private debt growth continued at such a rapid pace. The problem was not that public debt growth was too low, but that private debt growth was too high in a time when rebalancing was required.