Sunday, December 22, 2013

National debt is not deferred tax.

Debt-phobes are fond of telling us that national debt is deferred tax. While household name economists make plenty of blunders, they don’t seem to make the “deferred tax” mistake. That is, it’s second raters who make this mistake: e.g. Pete Peterson, Niall Fergusonand Alan Reynolds.

Let’s take a period over which US debt as a proportion of GDP declined substantially. In 1948 the proportion was 90% and in 1986 the proportion had halved. See this table.

Now how much tax was collected to pay back those creditors? Er…. None! In fact quite the opposite: the US debt rose in that period from $252bn to $2,125bn. Put another way, far from anyone having to pay tax of bring about that reduction in the debt relative to GDP, quite the opposite occurred. That is, taxpayers were EXCUSED paying about $2,000bn in tax in that period because the US government funded $2,000bn of its spending from extra borrowing rather than tax.

The above sort of “second raters” will be baffled. How can this be? Well the answer is that far and away the biggest way in which national debt is reduced is INFLATION!!!!!!

I.e. national debt is not deferred tax: it’s deferred robbing of a country’s creditors via inflation. And if you can rob your creditors, then why not? Go for it!!

Even in the decade or so after WWII when the debt fell faster relative to GDP than in any other decade, the debt in terms of dollars stayed more or less constant. I.e. no taxpayers were called on to bring about that substantial reduction in the debt.


Of course, the above is not to suggest that governments can stop collecting tax altogether and instead, fund their expenditure from borrowing. But the basic point I’m making is that the “deferred tax” crowd (Peterson Institute, Niall Ferguson, etc) are a bit simple: they’ve much to learn if the want to understand the tax versus borrowing question.

As a start, I suggest they get to grips with Modern Monetary Theory.

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