10 hours ago . 8 min read
Unsustainable Government Spending
By Chris Ball, Association Professor of Economics at Quinnipiac University
It seems like every few days we hear that “Government debt’s unsustainable!” or “Government spending’s unsustainable!” or “taxes are unsustainable!” What does it all mean?
Should we worry? YES!
Should we care? YES!
More importantly, can we do anything about it? WE HOPE SO!
Spending is the problem.
Although we often hear alarming numbers about unsustainable debt – government debt is now more than 100% of our GDP - the root of the problem is unsustainable spending. The debt problem is really the result of a long-term spending problem.
When we as individuals aren’t living within our budgets, we are spending more than we earn. Each month that we do this, we must put some spending on a credit card (or take out a loan, if you can get one).
We all do that from time to time and that’s fine. The problem is when we do it consistently. If you keep it up, then each month you have to borrow more and more because you need to finance both your excessive spending and your credit card bill from last
month (at least in part if you make minimum payments). The total you owe – your debt – grows each month as you keep this up.
The same is true for our government. When the government spends more money than it brings in, it borrows and runs up debt the more it does this. Eventually, it too must finance both its excessing spending and the past debt. If it keeps this up, then debt will grow.
The government spending itself is a problem. And it’s a big problem at that. The more the government is a part of the total economy, or GDP, the more your country let’s bureaucrats in Washington and corruption allocate your nation’s precious resources. For many, many reasons they allocate resources very poorly – usually driven by personal political motives or bizarre bureaucratic logic – and that eventually slows growth. This is an important topic in its own right and I’ll devote a separate article just to understanding this. For now, we’re focused on the debt that results from excessive, unsustainable spending.
Today our government spending is 30-45% of our GDP each year!
Total government debt is 123% of GDP
and it has grown over 100% in the last ten years alone!
What happens next?
One day you find yourself “drowning in debt” and we call that “unsustainable” because you literally cannot keep it up. Nearly all your income is going just to make the monthly payments on your credit card, and you no longer have any money to spend on the basics of life.
When you hit that wall, you have a few options. You can declare bankruptcy, cut your spending, raise your income, or do some combination there of.
The government essentially has the same options but there are a few differences.
If you declare bankruptcy, you go to court and agree with your creditors (credit card companies in our example) on how much you will still pay, and the court imposes a payment plan on you.
When the government does this, it’s called a default on their debt.
There isn’t a global bankruptcy court, but the government will still have to agree with its creditors on how much it will repay and on a payment plan.
First, both you and for the government still have to pay most of the debt. And the payment plan will include cutting spending and raising income both to make it work. You give up a lot of your personal freedom when you do this and so does the government.
Secondly, it will be a long time before you or the government can borrow from anyone again. And when you eventually can, the interest rate will be extremely high because you are considered a financial risk. The same is true for the government.
There is a huge difference however, between you and the government in this situation. If you do this, it has no real effect on anyone but you. You ran up the debt, you couldn’t pay it, you – and whoever lent you money – suffer the consequences.
When the government runs up the debt and can’t pay it, we are all on the hook.
After all, it’s still “we the people” and it’s our government. Additionally, when a government defaults and interest rates rise (because they are a financial risk), suddenly everyone in the economy finds that interest rates are higher and internationally no one wants to lend to anyone in our country – government or private people – because we are all in this mess together.
The reason is because, unlike you or me, the government doesn’t produce anything itself. We can only earn money by selling services of ours that other people want to buy either through our work/employer or directly. The government is fundamentally different. It only gets money by taking it from private people1. For this reason, our government’s creditors also hold us liable for our leaders’ debts. Additionally, it means the only way the government can raise income (called “revenue” for the government) is by raising taxes and taking money from private people. That means people have less money to spend which lowers everyone’s demand for goods and services and this in turn lowers GDP.
In trying to raise revenue, the government harms the economy which it must tap to get funds. It literally harms the goose laying the golden egg. Our individual spending isn’t enough to make or break most of the businesses where we shop in our daily lives. But government spending is. When the government cuts spending it also lowers demand in the economy, lowering GDP even more.
So, unlike us, both government’s solutions cause economic harm, making them (a) painful for us all and (b) less effective at raising the income needed to pay for debt.
1 Sometimes there are small services the government provides for money, but these are rare and very trivial in terms of the government’s overall budget.
When the Greek government spent more than it earned for long enough, it eventually became unsustainable around 2008 when the global economy suffered a large recession. Greek debt went from 109% of GDP in 2008 to 146% in just two years. Un
able to pay its debts, Greece had to negotiate with international lenders to work on a payment plan. That plan included cutting spending and increasing revenue, but both those acts, combined with the
problems from the financial situation generally led to GDP dropping by nearly 7% and unemployment rising to over 20% while over 100,000 Greek companies went bankrupt themselves.
A similar story can be told for most cases of what are called “sovereign debt crises” in recent history: the Mexican crisis of 1994, Asian crises of 1997/98, Russia crisis of 1998, Argentina in 2001 and the crises around 2008 in Greece, Hungary, Ireland, and Iceland. That’s just to name a few. Sadly, they aren’t rare, and the US might add its name to the list soon if we don’t get our spending under control.
Those are all relatively small fish in the global economic pond. As a result, the bigger fish like the US, Germany and others spent funds to bail out those economies when they ran into trouble. The point is that there was a bigger economy to bail out the smaller ones when they failed. The USA is the largest economy in the world. If we fail, there’s no one left to bail us out and we would bring the global economy down with us.
If we don’t change soon, the pain will be hard and deep.
The government usually tries more taxes first, but that’s painful and can cause a recession, leading to less, not more tax revenue like they government had hoped. The other option is to print more money, essentially having the Federal Reserve buy the government’s debt. The problem here is that it helps initially, but if you keep it up, it causes inflation which is just another form of taxation by the government.
We are looking at both options today. Politicians don’t like to raise taxes because they get blamed and voted out of office. They also don’t like cutting spending because they can be identified with the harm it inflicts, again hurting their reelection efforts.
In our most recent recession, due to Covid, our government spent way beyond anything we’ve ever seen before except in the World Wars and it paid for nearly all of it by having the Federal Reserve buy it. That is, they just printed money. During Covid, the government increased spending by 50% and increase the money supply by 20%. That has literally never happened in US history, at least since the Federal Reserve was created in 1913.
Those are troubling signs. When government’s debt is 123% of GDP and it’s resorting to printing money at 20% a year, you get inflation and you still get unsustainable debt. As inflation takes off, interest rates rise and the interest on our debt rises with it. So, the situation will get worse and fast. The government will eventually have to cut spending or raise taxes or both.
It’s our government and so all that money
must come from us personally.
They key to avoiding these situations in the future is to control government’s spending and to save money when times are good. It’s the same advice you would give a friend. It’s just basic common sense.
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