Something Rotten in Denmark — Deficits

A few weeks past, Mr Krugman (and I’m not linking him) noted that contrary to popular beliefs (and cited some polls) deficits have not increased in the last few years. We are also told by similar sources that inflation is not occuring.

Yet. we need to keep raising the debt limits to keep the government solvent. If it was true that the deficits were not still increasing then we would be lowering not raising the debt limit. Somebody is not being honest.

3 Responses to Something Rotten in Denmark — Deficits

  1. Primer on deficits and debt:

    Deficit – Revenue – Spending. The difference is made up by creating debt (bonds) and auctioning them off in the open market. The price they get determines their interest rate.

    Economically deficits are usually measured as a % of GDP rather than in absolute numbers. This means if you have a growing economy, your debt could be shrinking even if you have a positive deficit.

    (You may sometimes read about a ‘primary deficit’…this is the deficit or surplus if you removed interest payments from the mix. Consider Greece veresus Italy. Greece has a primary deficit, Italy does not. When there’s talk of a ‘debt crises’, Italy can simply declare it won’t pay on its old debt anymore and tell the market to go screw if they are in primary surplus. Greece can’t)

    In absolute terms, if you have a positive deficit, you are adding to the debt each year. If there’s a debt ceiling, it will have to periodically be raised.

    Before the debt ceiling, Congress used to pass laws authorizing individual bond issues. If this was still the case, it would be even worse since you could have a budget balanced in absolute terms but still need to issue new bonds to pay off old ones that are expiring.

    The Constitution isn’t really clear about either option.

    Bonus: Trillion dollar coin- The Treasury is authorized to issue coins. What happens when a quarter is made. Well about 3 pennies worth of metal is struck and sold for 25 pennies. When a $100 bill is printed, the same amount of ink and paper is used as in making a $1 bill. The Treasury creates coins and bills and deposits them in the gov’ts account with the Federal Reserve. The Fed works with member banks to figure out how much actual coin and currency is distributed to banks…for example around 1999 there was the year 2000 theory that old computer programs would cause massive software failures leaving electronic payments crippled so the Fed engineered an increase in currency out there just in case demand for paper money spiked.

  2. Boonton,
    So this Krugman post (and other echoes) is all about confusing in not being clear in terminology for national finances regarding value, first derivative and second. You pretend that it is entirely clear that “deficit” is exactly the first derivative of debt. Where “debt” apparently univocally means the value, deficit the first derivative of the value, and ?? is the second.

    But this paragraph is then making the same mistake

    Economically deficits are usually measured as a % of GDP rather than in absolute numbers. This means if you have a growing economy, your debt could be shrinking even if you have a positive deficit.

    Your first use of the word “deficit” means your talking first derivative, your second to “debt shrinking” (negative deficit with positive deficit). That sentence doesn’t make sense. You’re mixing derivatives.

    So Krugman claims the second derivative (when value is % of GDP) is negative. And he claims this is something that everyone should know. But in household finance my debt and my deficit are often confused in terms, people speak of their deficit when they mean the difference between assets and debts. He pretends that the “deficit” is shrinking (after a period of highest-by-a-large margin deficits) is news, when the people polled are thinking that by shrinking deficits they means a negative first derivative (which it isn’t … only the second derivative may be slightly negative).

    Apparently it is news to some of the elite that common terms mapping first year calculus to finance are (a) well known and fixed in terminology and (b) first year calculus is well known to the average person. Given that you, a person who is not ignorant of the terms makes mistakes (as noted above) in the first part and that anybody asked whether the average person has a good fundamental understanding of calculus the answer is no … then pretending this is news or newsworthy only means the speaker is a really dumb or deceitful. For Krugman … he’s not dumb (apparently) so the alternative is that he is a deceitful liberal hack. But we knew that.

  3. Let’s say your GDP is 100. Your taxes are 9 and spending 10. That makes for a deficit of 1. Which is also 1% of GDP.

    Let’s say GDP grows by 5%, but everything else says the same. So now GDP is 105, but the deficit is 1. This year your deficit as a % of GDP is 0.95% instead of 1%.

    What about your total debt? Well in year 1 your debt was 1 or 1% of GDP. In year 2 your debt is 2. Since GDP is 105 debt as a % of GDP is not 2% but 1.9%. You can see what is happening here. The economy is growing geometrically with the debt is arithmatic. In 20 years the debt is up to 20. But GDP is up to $252 so debt as a % of GDP is 8%. In year 44 debt has gone up to $44, but since GDP is at $814 the ratio has dropped to only 5% of GDP. Each year the deficit is the same, $1, but as a % of GDP it drops as GDP grows.

    But in terms of absolute numbers the debt has been increasing every year. In year 44 people worry about a ‘crushing debt’ of $44 and envy the good old days in year 1 when the debt was just $1.

    Which perspective is right depends on what you want to talk about. Say your the rich guy whose buying all those bonds. In year 44 the gov’t owes you $44, much more than in year 1 when it just owed you $1. So for you the debt has grown a lot, to your benefit. But in terms of the economy the country’s debt burden is clearly lighter as time goes by. Notice if your debt grows slower than your growth rate, you never actually have to pay anything off since the actual burden will shrink.

    But in household finance my debt and my deficit are often confused in terms, people speak of their deficit when they mean the difference between assets and debts.

    True, your household is much more finite. For example, even if you get nice raises every year, you know the time is coming when you’re going to becme too old to work and your income will cease growing. And if you think about it you probably did have this perspective in the back of your mind. Think about the first loan you took out for a new car. That probably felt like a big deal to you. Yet not so many years later you took out a loan to buy a house and it was no doubt many times the car loan. Today a car loan is not a major issue but to your 20 year old self it was a huge thing…a major opportunity and probably a bit scary.

    Apparently it is news to some of the elite that common terms mapping first year calculus to finance

    I think the problem is not so much calculus…although it is in your post….you wrote that you were perplexed that deficits have not increased in the last few years but why would the debt limit have to still be raised periodically? Well you should know that any positive deficit, even a declining one, would still add to the cumulative debt.

    But no the larger probelm is percentages…even though almost everyone uses them and they are simplier than calculus people still are much more prone to confusion and mental errors when you start deploying them.

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