This article will explore the varied options President Obama and the Congress have to work toward a normalization of the national debt over time. Fitch’s Rating Service Recently advised that the US credit rating will go down if the debt ceiling is not raised. Over the course of this year, President Obama and congress will meet to agree on an overall plan to increase the debt ceiling, together with a mutually agreed upon mix of spending cuts to avoid the sequester. The sequester provides automatic rounds of spending cuts to domestic programs and defense, with some exemptions.
The gross public debt rose to 121 percent (Chart 9) of GDP in 1946, and dropped steadily to 32 percent by 1975 and 57 percent at the beginning of this millenium. Gross public debt as a percentage of GDP hovers at approximately 101 percent, still under the highest point at the end of World War 2.
From 2005 to the present, GDP rose from $11.6 to $15.1 trillion, while total US debt between 2005 and 2012 increased from $11.4 trillion to $16 trillion and the population rose from 300 million to the present 315 million. The recent economic activity shows that the gross public debt tends to increase more prominently during wartime and recessions, while debt as a percentage of GDP goes down during peacetime coupled with good economic times, as evidenced by the experience at the close of the Clinton administration. Gross public debt stood at 57 percent of GDP in 2000. Currently, the US economy is leading the advanced economies, as well as Europe, and the trend will continue into 2013.
A closer look at the numbers shows that US total debt as a percent of GDP went down steadily from 382 percent in Sept. 2009 to 350 percent in Sept. 2012. What’s happening is that even a slow growing economy is reducing total debt as a percentage of GDP. The long term average is 207.2 percent.
The arguments in favor of raising the debt ceiling are numerous. Examples include the need to borrow to keep up with current expenses. A financial confrontation and meltdown could lead to chaos in the financial markets and derail the fragile recovery from blossoming into a full scale uptick in the world economy. The population has grown from 300 million to 315 million. A growing population will mean greater needs for infrastructure and public spending. Taxes were raised in the early 1990s despite the fact that the recession then was shallower and Operation Desert Storm was nowhere near the size of the Iraq War or the conflict in Afghanistan.
The arguments against raising the debt ceiling are to enforce spending discipline. The control over spending was basically lost soon after the commencement of the dual wars in Iraq and Afghanistan, as well as the Great Recession. The enforcement of spending discipline is essentially to remove ourselves from these conflicts so that the military budget can normalize over time. A growing economy will also reduce deficits as wage earners pay more taxes into the Treasury, instead of drawing unemployment and social safety net costs from the government.
The United States economy, as well as the other advanced economies and Europe are on an upward trajectory, with the US and China leading the way. Increased revenues, coupled with spending restraint should lead to a reduction of the debt as a percentage of GDP, as was the case at the close of the Clinton administration. The Obama administration and congress have raised taxes. This act, coupled with spending restraint, should make the deficits a smaller factor in the overall budget equation over time.