What Is National Debt & How It Could Impact
Put in simple words, national debt is the debt owed by federal government. It includes intra-governmental debt and public debt. It also is referred to as sovereign debt, government debt or country debt.
There are basically two types of debts that fall under the heading national debt. The first one is the debt that the government owes to its public. This debt is raised through sale of bonds to public and therefore it becomes a liability that has the discharged. The public could include the citizens of the country, foreign governments and international investors. The other type of debt is referred to as intra-governmental debt. This is a debt that the federal government owes to the various government departments. These are used in many ways, and a classic example is the spending of the government on citizens’ pensions and other such social needs.
Why National Debt Goes Up
There is no doubt that we often hear stories about ballooning national debt and how it could impact the country negatively. Hence, it would be interesting to find out the reasons for increase of this debt. Voters and also politicians often become addicted and get used to deficit spending. This often is referred to an expansionary fiscal policy.
It Should Be Handled With Care
This is done by expanding the money supply in the economy. It is done in many ways and use of budgetary tools is the most common method. These tools are used to cut taxes or increase spending. This puts more money in the hands of the public and it could lead to economic growth at least from the short-term perspective. However, we need to understand that this also leads to an increase in national debt. If not managed properly, it could lead to many problems and negative consequences.
Where Is The National Debt Spent?
There are innumerable ways and means in which the national debt is spent by the federal government. The government has to take care of the defense of the country and spends huge money on it. Further, the government and its elected representatives are also answerable to the voters. Hence, they have to spend quite heavily on constructions, health care and other such social and infrastructure schemes.
There are also many government-sponsored subsidies such as gasoline, groceries, and new clothing. All these spending on welfare schemes, infrastructure and other such activities give a boost and forward momentum to the economy.
It Sets off A Chain Reaction
It also results in more money being available across large sections of the population. When they have money in their hands, they use it for buying things or invest it in various avenues. This again leads to expansion of the economy. It creates more demand. More demand means more factories and more job opportunities. Hence, there is no doubt that well-planned and well meaning spending of national debt is essential and has many benefits.
When Is Public Debt Good
Unlike common believes and perceptions, it would be wrong to suggest that nations can grow without debt. It simply is not possible. However, the debt should be carefully managed and should not be allowed to grow beyond a particular level. Here are some obvious advantages and benefits associated with raising funds and even accumulating debt as far as national is concerned.
- Many economists believe that in the short run, public debt is good. This is because it helps the country to gain access to funds that are required for investing in infrastructure and other social spending activities.
- The general public who invest their money in public debt also stand benefited. They are able to get attractive returns on their investments. Further, the investors also feel safe with the investment because national debt is referred to as sovereign debt. In other words, the investments are safe because they have the guarantee of the federal government.
- Foreigners who have big money also feel safe investing their money in government bonds and other securities. They believe that it is safer than investing in stocks markets because of volatility and uncertainties that are part and parcel of stocks and shares.
- Investing in public debt is the best way forward for all those who are not very risk-friendly and would like to get their money back in time, though the interest rates could be less compared to investment in stocks, shares and commodities.
How Does It Impact The Country Positively
When there is judicious, intelligent and planned spending of public debt, it could have many benefits associated with it. There are scores of instances where correct spending of this debt could play a big role in improving the overall standard of living of its citizens. The way how it happens is not too difficult to understand. When the federal government has money to spend, it uses the same for investing in infrastructure and other forms of investments. It builds roads and bridges. All these require manpower and raw materials. This sets of a chain of economic activities.
It Creates Jobs By The Thousands
When there is increased demand because of such investment in infrastructure, there is a growing demand for human resources. This leads to more jobs. More jobs mean more money in the pockets of thousands of people. When people have more disposable incomes, they look at ways to spend it and also invest in it. Hence this again has a domino impact and it spurs economic activity and growth of the country in the medium and long term.
Improved Tax Collections
An overall improvement in the economy is measured by increase in GDP or Gross Domestic Product. In most cases the increase is fueled by new jobs, new earning capacities and increased spending by people at all levels and so on. As people buy more and spend more, it is quite obvious that they will be paying more taxes, both direct and indirect. This will lead to improved tax collections. The same can be plowed back into the country’s developed program, and the cycle will continue.
In fact the increased tax collections will also lead the federal governments with enough money to pay interest to those who have invested their money for the national debt. A portion of the increased revenue can also be used to create a pool that could be used to repay the principal as and when the investors want. Hence, there is no doubt that it is a win-win situation for all the stakeholders.
When Does Public Debt Become Bad
However, there is a tendency by most governments to go overboard with these types of debts. The social benefits and the freebies that can be offered with the help of these debts make them very popular both with the elected representatives and the voters. Hence, there is a tendency to make indiscriminate use of the money. This leads to over borrowing and over a period of time, the governments find them in a situation where the national debt grows out of proportion and becomes difficult to manage.
The Debt Should Be Managed Efficiently
Because of the risks involved in over borrowing, there is a need to exercise caution. It is therefore, vital that investors in such public debt instruments should be able to measure the risk versus benefits. This is done by comparing the debts to the overall total economic output of the country. This is referred to as GDP or Gross Domestic Product. The debt-to-GDP ratio helps the investors and the Federal Governments to have a clear indication as to how safe and manageable the debts are. At the end of the day, these are liabilities for any government and it should have the capacity to repay the same as and when the maturity dates occur or as and when the investors want it, subject to certain terms and conditions.
Problems Associated With Such Debts
Whenever the debt starts reaching a critical level as a percentage of GDP, alarm bells start ringing. The investors who have invested money in the national debt start talking their minds. They would like to be sure that their investments are safe and that they will get their money back. Secondly, they also would like to get a higher rate of interest. This is perhaps because they would like to be covered for the higher risk that they are taking on their shoulders. These debt instruments offered by federal governments are rated by various internationally renowned rating agencies. A higher rating means that the debts and investments are safe because they are within manageable limits. If the Debt to GDP ratio keeps going up and crosses safe threshold limits, the rating agencies might end up bringing down the ratings.
A lower safety rating should be avoided by federal governments because it could have many adverse impacts. To begin with, the governments may have to end up paying higher interest ratings on future borrowings. Secondly, the general public within the country and foreign investors may not be confident when they have an opportunity to invest again in these sovereign bonds. As mentioned earlier, when the national debt threshold limit balloons beyond the accepted levels, there will be a clamor from investors for more interest and this could be a drain on the resources of Federal governments. They will push the country’s economy into a corner and in some extreme cases, the government might also risk defaulting on its sovereign commitments to it investors.
The Risks Of Abnormally High National Debt
It is the responsibility of the federal government to ensure that the debts are kept within manageable limits. If they fail to keep a close tab and monitor national debt it could lead to dangerous situation. It is like driving a car with the emergency braking system on. As the cost of borrowing becomes expensive, it could negatively impact the various components of economic expansion. This could impact infrastructure, investments by government and private enterprises. If they are not controlled and corrected in time this could lead to a situation where the country could slip into economic slowdown or recession.
What Is The Position Of Debt In This Country
The total debt of the country is more than $22 trillion. The total debt to GDP ratio of the country is around 106 percent. The public debt was at a lower level of $16.2 trillion. The public debt to GDP ratio is at around 78 percent. This is quite high and according the financial experts, this should be below 77 percent. The Federal government is aware of this and is taking steps to correct the situation. The correction has to be drone gradually and cannot be rushed through because it could lead to severe problems.
What Could Be The Repercussions
The government of the day is taking steps to correct the disturbing national debt situation of the country. This is important because if the situation is allowed to drift it could lead to problems that will not remain limited to the public of the country alone. We need to bear in mind that China and Japan are the largest in terms of debt size that is owed by the USA. The two countries are huge exporters of products and services in this country. The payments to these countries are made by USD. The dollars are again reinvested by way of sovereign bonds or treasury bonds. Hence, it is important that the debts are brought down as soon as possible.
The Final Takeaway
To sum up, there is no doubt that it is virtually impossible for countries to manage their show without any borrowings. Even the richest of countries have to go in for borrowings and use the same for generation of economic activities. Hence, there is no doubt that national debt within manageable limits is important and vital to the growth and progress of economies. However, the levels of such debts should be monitored and kept under check and this is where the governments, economists of the country and the public in general need to understand the importance of being prudent in managing the fiscal position of the country. Any spending that is based on such national debts should be carefully planned and the medium and long term benefits of the same should always be kept in mind because of obvious reasons. The levels should be monitored quite regularly and any slippages should be corrected within the shortest possible time.