{"id":201773,"date":"2024-01-30T10:00:00","date_gmt":"2024-01-30T15:00:00","guid":{"rendered":"https:\/\/ibkrcampus.com\/?p=201773"},"modified":"2024-01-30T12:47:17","modified_gmt":"2024-01-30T17:47:17","slug":"eight-truths-about-us-government-debt","status":"publish","type":"post","link":"https:\/\/www.interactivebrokers.com\/campus\/traders-insight\/securities\/macro\/eight-truths-about-us-government-debt\/","title":{"rendered":"Eight truths about US Government Debt"},"content":{"rendered":"\n

Key takeaways<\/h2>\n\n\n\n

Debt not a disaster<\/h3>\n\n\n\n

While it\u2019s more than $34 trillion, the US debt isn\u2019t necessarily a problem for investors, in my view, for eight reasons.<\/p>\n\n\n\n

Not a bad credit risk<\/h3>\n\n\n\n

The US is a good creditor with more assets than liabilities,1<\/a><\/sup> and a significant portion of the debt is domestically owned.2<\/a><\/sup><\/p>\n\n\n\n

Captive audience<\/h3>\n\n\n\n

US Treasuries are one of the safest, most liquid assets in the world. It\u2019s unlikely investors will lose their appetite for them.<\/p>\n\n\n\n

Is US debt a problem?<\/h2>\n\n\n\n

There\u2019s a perception, perpetuated by the media and many elected officials, that the US government debt is a looming disaster. Many even believe that a day of reckoning, when the US government collapses under the weight of its own debt, lurks. The national debt is now more than $34 trillion, representing 122% of the US gross domestic product, and has risen significantly in recent years, with more than $20 trillion in new debt added in the past 14 years.3<\/a><\/sup> Should Americans be concerned? Are investors at risk? The reality is very different.<\/p>\n\n\n\n

Here are eight truths about US government debt.<\/p>\n\n\n\n

Truth 1: Large deficits typically resulted from recessions and crises<\/h2>\n\n\n\n

In most years and across most administrations, the US government has spent more than it\u2019s received in taxes, resulting in deficits. These deficits have tended to be significantly larger in the aftermath of recessions and crises. That\u2019s when tax receipts decline and the government spends to stabilize the economy. The 2008 Global Financial Crisis and the 2020 pandemic resulted in unusually large deficits, which subsequently declined as the crises eased.4<\/a><\/sup> It could be argued that the ability of the US government to borrow money and support its citizens during crises prevented economic downturns from becoming even more severe and long-lasting.<\/p>\n\n\n\n

Truth 2: Level of concern may depend on which metric is used<\/h2>\n\n\n\n

The more than $34 trillion current US debt is greater than the $27 trillion US nominal gross domestic product (GDP).5<\/a><\/sup> Is GDP, the total value produced each year, the right metric for assessing the sustainability of US debt? The US is a very wealthy country. For example, the total US household net worth is over $150 trillion, which is close to five times the size of the nation\u2019s debt.5<\/a><\/sup> From that lens, the debt level may not seem as troubling. It may be one reason to explain why the nation is generally viewed by markets as a good creditor.<\/p>\n\n\n\n

Truth 3: The US isn\u2019t a bad credit risk<\/h2>\n\n\n\n

With $34 trillion in liabilities and $200+ trillion in assets, the US federal government has far more assets than many realize.1<\/a><\/sup> Rather than measuring debt as a percentage of GDP, which is primarily an income measure, measuring debt against total assets paints a far more solvent picture. If all the US government land, buildings, and natural resources were combined, the country would likely have more than $200 trillion in assets. While not all are liquid, they certainly paint the US as a much better creditor than many would believe.<\/p>\n\n\n\n

Truth 4: There\u2019s a captive audience for US debt<\/h2>\n\n\n\n

Given that Treasuries are one of the safest and most liquid assets in the world, it\u2019s unlikely investors will lose their appetite for US debt. The federal government owns 20% of US debt, making it the largest single holder.2<\/a><\/sup> Since this debt is just money the government owes itself, however, it has no effect on overall government finances. More than 40% of US debt is owned by US savers, pensions, mutual funds, and financial institutions, who hold Treasuries for safety, yield, policy requirements, or regulatory reasons.2<\/a><\/sup> While it\u2019s true that more than 20% of US debt is held abroad, it\u2019s not heavily concentrated in one country. The largest foreign investors include Japan and the UK, where yields are historically lower than they are in the US. 2<\/a><\/sup><\/p>\n\n\n\n

Truth 5: China\u2019s US debt exposure has declined without incident<\/h2>\n\n\n\n

China is the second largest foreign owner of US debt, but should this concern investors in light of geopolitical tension? Probably not. There\u2019s a notion that China could weaponize US debt by rapidly selling its US Treasury holdings, causing financial instability and a spike in borrowing costs. This risk seems unfounded, as China has been reducing its position in Treasuries for years without disruption to the US debt market.6<\/a><\/sup><\/p>\n\n\n\n

Truth 6: Higher interest rates are only a problem if economic growth doesn\u2019t keep up<\/h2>\n\n\n\n

The US issues debt for a variety of reasons, and theoretically, borrowed funds are put to productive use by the government. Interest expense (%) is the cost of this borrowing, and conceptually, US GDP growth (%) represents the government\u2019s \u201crate of return.\u201d As long as the rate of return (economic growth) is greater than the borrowing cost (interest expense), the US can pay down its outstanding debt. Currently, growth is higher than interest expense.7<\/a><\/sup><\/p>\n\n\n\n

Truth 7: The demographic concern \u2014 baby boomers turning 65 \u2014 is almost over<\/h2>\n\n\n\n

Aging baby boomers, one of the largest demographics in the US, were expected to put a financial strain on the country through increased medical costs. This risk hasn\u2019t materialized. Even though a large portion of boomers have reached retirement age, Medicare spending has been much lower than anticipated.8<\/a><\/sup><\/p>\n\n\n\n

Truth 8: Social Security isn\u2019t going bankrupt<\/h2>\n\n\n\n

It\u2019s true that the Social Security trust fund is expected to be depleted in 10 years.9<\/a><\/sup> That\u2019s not bankruptcy, however, despite what the doomsayers might say! Once the trust fund is depleted, Social Security will pay out based on what\u2019s collected in tax revenue. The interest from the trust fund would no longer be available to pay benefits. Given payouts would then be based solely on tax revenue, it\u2019s possible that retirees could potentially be paid less than their full benefits. The nation\u2019s politicians, however, could always adjust the program (for example, raise the retirement age and increase the taxable maximum, to name a few) to prevent retirees from receiving less than what they\u2019d expected.<\/p>\n\n\n\n

Footnotes<\/h3>\n\n\n\n