Do government debts and deficits matter? Some people think not. Some argue that governments control the money supply and can always generate more funds. This spending provides health care and other public services we want, which would otherwise require higher taxes.
This reasoning is not entirely accurate. If government were to keep on increasing the money supply to cover its wasteful spending, this would generate the kind of inflation that has brought countries like Argentina to their knees. The value of our wages, savings, pensions and anything else measured in dollars would be eroded. Inflating the money supply is not the answer.
Deficits arise when current income is insufficient to cover current expenditures. Government income is taxes. When government spends more than it receives, the resulting deficit becomes debt, which it must borrow to cover, usually by issuing bonds. If anyone is to buy the bonds, interest must be paid on them, and that interest must be paid out of incoming tax revenue.
For some time and until relatively recently, interest rates were very low. While this was not good news for retired people and others trying to live off savings, it was good news for anyone with debts, including governments. Borrowing was cheap. However, if your debts become big enough, low-interest costs can start to add up.
Although interest rates on most Canadian government debt remain low, the government spends more tax dollars on interest payments than healthcare, which most Canadians feel needs more funding. Similarly, the United States government spends more on interest payments than defence, despite the critical need to defend democracies. As existing bonds mature and are replaced at higher rates, the debt costs in both countries will continue to increase.
There is some justification for governments to go into debt, such as when the funds are used to increase economic output, our well-being, and tax revenue. Generating infrastructure in areas like transportation and communication is one way to increase productivity. Another is to invest in people by providing them with the kind of education and training that allows them to get better jobs and higher earnings.
That type of spending is to be encouraged as falling productivity contributes to declining per capita incomes and, thus, the standard of living in Canada.
Many governments accumulate debt not to improve their country and its citizens through long-term investments in infrastructure and education but rather to implement short-term measures designed to win votes. These measures often fail to increase well-being enough to justify their costs and can sometimes even diminish it.
A telling example comes from the U.S., which is facing a highly contentious presidential election this fall. Votes are being courted from current and future college graduates through the promise of student debt forgiveness. The American government has already forgiven US$155 billion in student debt for over four million borrowers, amounting to 0.6 percent of the country’s total annual output. The current administration is now considering increasing this amount by another $7 billion.
Forgiving debt isn’t always bad, but it carries the risk of encouraging people to take on more debt than necessary, expecting they won’t have to repay it.
What is bad is one of the criteria for deciding whose debt gets forgiven. Among the lucky ones who may see their debt disappear are students who chose to study programs with poor job prospects, known as ‘low financial programs.’ These are precisely the educational choices that should not be rewarded by debt forgiveness or any other means.
Students should be encouraged to choose courses that lead to in-demand careers. This not only ensures that graduates have good job prospects but also benefits society through their increased productivity. Both students and all others, including governments, should think twice before taking on any debt to ensure that the borrowed funds will generate enough income to repay the loan.
Dr. Roslyn Kunin is a Troy Media columnist, public speaker and consulting economist.
©
