The fear of burdening our grandchildren with debt, we are forever being told, is the reason why there is a need to return to a budget surplus.
Few argue with the proposition, most only quibble about the speed to reach a surplus.
Is it valid?
Clearly if the Jones borrow long term from the Smiths, the younger members of the latter family may suffer a reduced standard of living by having to repay the debt, incurred by older members who received the benefits.
That certainly applies where the older members simply consumed the benefits.
It is less obvious when the benefits were of an enduring nature. Borrowing to build the Sydney Harbour Bridge has few detractors.
To extrapolate a family debt situation to the whole economy is an example of the fallacy of composition.
Another instance is thrift/austerity, prudent for an individual, a household or a business, but if everyone did it the economy will shrink. One person’s spending is another’s income.
The leap from a micro to a macro truism in the case of government debt requires the conflation of ‘debtors’ and ‘creditors’ with ‘current generation’ and ‘future generation’.
At the macro level government borrowings are internal borrowings and any future repayment is simply a distribution within the economy.
It is not a flow out of the economy which may diminish the living standards of the future generation, as may happen at the micro level when the Jones have to repay the Smiths.
Even if the government bonds are held by foreigners, they are denominated in $AUD and any repayments are made into an Australian bank account. If the foreign owner wishes to take the proceeds out of Australia he will have to swap his/her $AUD with someone else holding his/her preferred currency. There may be a secondary exchange rate issue with possible flow on macro effects, but the repayment proceeds will remain here.
When did the USA government last repay its debt in full?
In practice government debt is rarely repaid, it is rolled over. Only interest payments are made.
When did the USA government last repay its debt in full?
For any quizzers out there, the answer is 1835.
A successful private business like BHP has issued capital and retained earnings of $86 billion and borrowings of $31 billion, in other words $127 billion of net assets before borrowings.
The Australian government doesn’t have issued capital.
Nor does it have retained earnings. A prolonged period of surpluses would be needed before any accumulated earnings emerge.
A prolonged period of government surpluses implies a prolonged period of private sector deficits. Debits will always equal credits. Private sector deficits imply a decrease in private financial assets or an increase in private borrowings. Nothing else is possible. This simple accounting reality escapes most people.
Private debt is already almost ten times greater than public debt, yet the prevailing view that we need to move to surpluses as soon as practicable will only exacerbate the situation that led to the GFC in the first place.
Without any borrowings the net assets of the government will be zero, implying a government of a size only dreamt of by Tea Party advocates.
There is no prima facie optimum size for governments as a proportion of the total economy.
Borrowings by the Australian government will always exist. They are necessary.
There may be valid arguments against particular uses of government borrowings, but borrowings per se aren’t imprudent.
For every public borrowing there is a corresponding private asset. This too is usually overlooked.
Australian government borrowings should realistically be regarded as its de facto issued capital which any properly functioning government requires and which attracts a small rate of return. It is no different to many companies which issue perpetual securities with interest payable but no set redemption date.
But bond interest is costing us $1 billion per month thunders Treasurer Hockey. We can’t afford it.
Mr Hockey’s right about costing $12 billion per year. That’s only 3% of budget outlays currently about $400 billion per year, and less than 1% of gross domestic product (GDP) at about $1,500 billion.
Interest doesn’t consume resources; it is simply a split up of the national pie. If anything the national pie should be larger as a result of borrowings provided enduring benefits flow from the spending.
Interest payments don’t form part of GDP which is the total of what we produce, whether it’s consumed, invested or exported.
National income is the other side of the ledger from GDP.
Income comes in many forms. Interest is one.
Splitting up the pie …
Paying interest is part of splitting up the pie. The government faces distributional problems all the time. Its role is to solve them.
Reducing the size of the pie by restricting borrowings is a dumb idea.
Currently we have a superannuation system driven by compulsion and tax advantages for higher income earners that is showing increasing signs of inequity and failing to meet expectations.
Before Keating changed the landscape in 1983, superannuation funds needed to hold 30% of their assets in government or semi government securities to qualify for tax concessions.
Today the Australian government has about $300 billion in gross debt. The superannuation system has about $1,800 billion in assets.
Superannuation fund managers skim 1.5% from the asset pool each year largely, swapping existing assets amongst themselves hoping the capital gains will prop up returns.
Buying existing assets doesn’t meet the economist’s definition of investment. It belongs in the same camp as playing the horses.
Yet the earnings of superannuation funds in pension stage, and that comprises the bulk of earnings over a superannuant’s lifetime, occurring any time from 55 years of age onwards , even whilst still working pursuant to transitional to retirement concessions, are completely tax free.
The Henry Report recommended 7.5% tax on earnings regardless. A groundswell of support to cut superannuation concessions to the well-off is likely to result in changes.
A revival of the need for superannuation funds to hold government bonds to qualify for tax concessions, especially in the pension stage, would mean payment of interest, will form part of a broader retirement incomes policy rather than a burden we can no longer afford.
Any national conversation on the way forward is pointless unless the myth of government debt burdening the next generation and the corresponding surplus fetish persist.
Abandon them and the way forward will be easier and fairer.
An abridged version of this opinion first ran in the Mercury http://www.themercury.com.au/news/opinion/surplus-fetish-heavy-cross-to-bear/story-fnj4f64i-1227268278093