Can Bidenomics pay off?

 

                      Master of Bidenomics...or mastered by it?  Photo source: White House

The Fitch ratings agency downgraded US government bonds last week, saying Uncle Sam was not as reliable a borrower as he once was. The downgrade may raise the cost to the government of borrowing, because creditors may demand a higher rate of return -- that is, a higher interest rate -- to compensate for the loss of credibility.  Well, maybe. Treasury bonds are still highly credible.  The burning question is whether Fitch was right to say that the government has taken on too much debt. 

The White House scoffs that public debt does not harm the economy. Such investments as roads and universities enable us to produce more than before, argues the Biden Administration. They don’t drag down the economy; they accelerate it.

Of course, some public investments do pay off. We couldn’t have an economy without the protection of the military. The question raised by Fitch was whether most public investments pay, where “investment” refers to anything that the government finances by borrowing. The largest categories in Uncle Sam’s spending are Medicare and Social Security. Medicare invests in health; Social Security, in the quality of retired life. Undoubtedly such investments help us live better. But do they grow the economy?

 

A simple way to answer this question is to look at the ratio of public debt to GDP over the long run. If public investments pay off, they should raise output by more than is necessary to pay off the loans. The ratio of debt to GDP should fall over time.

 

In the figure below, the debt share of GDP has risen fairly steadily since the early 1980s, in the Reagan years, when Congress borrowed heavily to fight a severe recession. The debt share falls in the late Nineties, when the economy computerized and the federal budget went into surplus in the late Clinton years.  But it has risen ever since -- save after 2020, when the government stopped spending so heavily to fight the pandemic recession. Yes, MAGA Republicans, the debt share actually fell in the Biden years.

 

But in general, there is no evidence here that public investment has saved the economy. To the contrary.

 

Of course, public investment is not the only factor immediately affecting GDP. Business cycles, wars, immigration, demographics, and serendipitous innovations all play a role. But if the federal government eventually responds to these challenges with useful projects, then the debt share should fall over the course of decades. And it clearly does not. – Leon Taylor, Baltimore tayloralmaty@gmail.com

 

     

     

  Source of graph: St. Louis Fed

Reference

Spencer Jakab. The Scary Math Behind the World’s Safest Assets - WSJ. Wall Street Journal. August 1, 2023.