forget debt as a percentage of gdp, it's really much worse

8/10/2019 Forget Debt As A Percentage of GDP, It's Really Much Worse

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FORGET DEBT AS

A % OF GDP,

IT’S REALLYMUCH WORSE

JEFF DORMAN



FORGET DEBT AS A % OF GDP, IT’S REALLY MUCH WORSE Page |!

Fidelity Financial Co., LLCWhite Paper

When central bankers, macroeconomists,

and politicians talk about he national debt, they

often express it as a percent of gross domestic

product (GDP) which is a measure of the total value of all goods produced in a country each

year. The idea is to compare how much a

country owes to how much it earns (since GDP

can also be thought of as national income). The

problem with this idea is that it is wrong. The

government does not have access to all the

national income, only the share it collects intaxes. Looked at properly, the debt problem is

much worse. I collected national debt, GDP,

and tax revenue data for thirty-four OECD

countries (roughly, the developed countries

worldwide) for 2010. The data are a bit old, but

that is actually the last year available for

government tax revenue numbers. The debtfigures are for central government debt held by

the public (so the debt we owe to the Social

Security Trust Fund does not count) but the

central government tax revenue includes any

social security taxes.

Some people hate the notion of comparing acountry’s financial situation to a family, but I

think it is useful in many cases with this being

one of them. For a family, debt that exceeds

three times your annual earnings is starting to



FORGET DEBT AS A % OF GDP, IT’S REALLY MUCH WORSE Page |#


become quite worrisome. To picture this, just

take your home mortgage plus any auto,

student loan, or credit card debt, then divide by

how much you earn.

If the answer is two or less, you are in great

shape. If you are between two and three, you

are pretty normal. Over three and you probably

are feeling some financial stress with debt

payments absorbing much of your paycheck.

When we look at national debt as a percent ofGDP, we see few signs of danger by this rule.

Debt-champion Japan is over 180 percent,

Greece is just under 150 percent, with Italy in

third place at 109 percent. The U.S. is in

eleventh place (out of 34) with debt equal to 61

percent of GDP.

Economists and central bankers know this is

not the same as the family debt to income

concept, which is why they warn of danger at

the level of 100, 90, or even 70 percent

depending on which economist you talk to or

exactly how you define the total amount of

debt.

The reason for the different standard is that

the government cannot claim all your income

as taxes or we would all quit working (or



FORGET DEBT AS A % OF GDP, IT’S REALLY MUCH WORSE Page |$


emigrate).

A better comparison is to examine each

country’s debt to government tax revenue,since that is the government’s income. This

also offers a better comparison because

different countries have very different levels of

taxation. A country with high taxes can afford

more debt than a low tax country. Debt to GDP

ignores this difference. Comparing debt to tax

revenue reveals a much truer picture of theburden of each country’s debt on its

government’s finances. When I compute those

figures, Japan is still #1, with a debt as a

percentage of tax revenue of about 900 percent

and Greece is still in second place at about 475

percent. The big change is the U.S. jumps up to

third place, with a debt to income measure of408 percent. If the U.S. were a family, it would

be deep into the financial danger zone.

To add a bit more perspective, the countries

in fourth, fifth, and sixth place are Iceland,

Portugal, and Italy, all between 300 and 310

percent. In other words, these three are startingto see a flashing yellow warning light, but only

three developed countries in the world are in

the red zone for national debt to income. The

U.S. is one of those three. This does not factor



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the several trillion dollars owed to Social

Security, yet it includes the Social Security taxes

collected. If Social Security taxes are not

counted, the U.S.’s debt to income ratio rises to688 percent (still in third place). This tells you

something about the likelihood of increasing

Social Security taxes in conjunction with

declining Social Security benefits.

Politicians do not enjoy spending funds on

debt payments as it produces no photo ops andno grateful voters. Yet without quick and

significant action on the federal budget, as soon

as interest rates begin to rise toward normal the

burden of the national debt on the federal

budget will become heavy indeed. Something

will have to give. Measuring the national debt

as a percent of GDP may be a commoninternational norm, but it makes little sense

since not all national income is collected in

taxes. Looking at debt to government tax

revenue, more akin to a family’s comparison of

its debt to its income, the story of our national

debt becomes much scarier.

Somebody needs to drag the President and

Congress to a credit counselor quick to begin

repairs on the government finances. Otherwise,



FORGET DEBT AS A % OF GDP, IT’S REALLY MUCH WORSE Page |&


one day sooner than we think, the creditors will

be knocking on the door.



FORGET DEBT AS A % OF GDP, IT’S REALLY MUCH WORSE Page |'


Fidelity Financial Co., LLC

215 S. 88th Street

Omaha, NE 68114

Mark T. Houston

(402) 880-7008

[email protected]

WWW.FIDFIN.CO

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