Educating Dean Baker
I never expected to type that. I have great respect for Dean Baker who, among other things, convinced Paul Krugman we were in a housing bubble. He is very smart and writes about important issues. But he has recently written two posts which contain the same elementary error.
I don’t want to be rude, but the posts make me think of Robert Lucas’s tirade against Christy Romer.
Steven Rattner remains convinced that handing future generations trillions of dollars of government bonds imposes a burden on them and is very unhappy that I don’t see things that way. Let’s try this one more time.
At some future point, everyone who owns this debt today will be dead. They will have no choice but to hand this debt on to members of the next generation, either their own heirs or someone else’s.
Baker asserts that if someone owns something, he must keep it till he dies then leave it to his heirs. In fact, it is also possible to sell it and consume the proceeds. My objection to Baker’s post really is just that elementary.
I suppose one might argue that I have missed something. I don’t think I have and explain at gruesome length after the jump.
First I stress that Baker didn’t just assert that something will happen, he claimed that something must happen “have no choice.” That means his claim is a mathematical claim which can be refuted by an example. The example is presented in
Diamond Peter (1965) “National Debt in a Neoclassical Growth Model” AER LV December 1965 pp 1126-1150.
The way in which national debt can fail to crowd out capital formation is that the current generation can (and will) choose to leave bequests. If they do this for purely altruistic reasons and if they have rational expectations, then public debt can affect the economy only due to distortions from the taxes needed to service this.
Note that, if Baker is right, then tax cuts do not stimulate aggregate demand. If he is right that, if there were non-distortionary taxation,, deficits would do no harm when the economy is not in a liquidity trap, they would do no good when the economy is in a liquidity trap (although public spending would stimulate).
OK now I will address the argument. I will always discuss what the current generation can do. In particular I will ask what happens if we all decide that those yet to be born will get no financial assets except as wages for work performed (to add a hint of realism I assume that they will be given milk and such when they are newborn but no cash no bonds and no stocks). I don’t think we are going to suddenly turn that selfish. I am asking whether we have that choice or if we have n o choice but o leave bequests.
As always I start from a very simple model with very extreme assumptions.
The extreme assumptions are that our days are numbered and that we know the number. That is people know exactly when they will die. Such people can arrange to have zero wealth when they die. They can sell bonds to other people who will live longer and use the money to buy and consume goods and services. If people know when they are going to die, they just don’t have to leave bequests. Aggregating, the current generation sells the bonds to future generations and consumes more than it would if there were no such bonds. This is mathematically possible and would happen under the extreme assumptions (which are basically the assumptions Diamond made).
OK now assume that death is unpredictable except also assume that there will be plenty of not yet born people working before the currently alive die (still extreme). Those who don’t want to leave a bequest can sell their bonds to the young and buy annuities. These are really existing financial instruments which pay a stream of income so long as the owner is alive and then are worthless. The market for annuities is tiny, because people with assets want to leave bequests not because the have no choice.
Well that is still unrealistic. Death can come at any time. But if this generation is nasty enough, we can name an heir in this generation. That way money only passes to those not yet born when the very last person no alive dies. Long before that, the now living people can sell bonds to the not yet born and buy annuities.
It is absolutely possible for us to make public debt a burden on future generations. The math works fine. There have long been models in the literature (most with the super strong assumption) which have the property that public debt makes future generations poorer. The distinction between models with infinitely lived agents and models with overlapping generations is fundamental in the macroeconomic theory literature.
Theory might be pointless but not because we can tell that something is logically impossible even though it would occur if a formal mathematical model were reality. Baker is claiming we know something from logic alone (always wrong) when, in fact, we can tell from logic alone that his claim is false.
OK no one will read this far so I can be as rude as I want. Baker’s two recent posts remind me of Cochrane and Lucas. The funny thing is that the concept of Ricardian equivalence is involved in both huge errors. In his diatribe against Romer, Lucas made the exact same error Baker made asserting that we know that there is Ricardian equivalence. That it is not an implausible theoretical possibility but a necessary truth. The similarity is that in all three cases, economists who have done good work made elementary errors. All three asserted that economists know something to be true, when elementary lectures are devoting to proving that it is false.
(Dan here….some minor formatting was done for easier reading)
I’m obviously missing something.
If I read him correctly, Dean is saying the next generation gets an asset (the loan) and a liability (the obligaiton to repay the loan). Combine the two and you have a transfer within the generation, but no transfer between generations, because the next generation gets both the asset and the offsetting liability. The asset and obligation offeset each other at every moment in time.
My point is that maybe they only get the assets they pay for. The next genration will end up owning the bonds, but may have to wokr earn a wage and use that money to buy the bonds in order to get them.
It is not true that if one ends up with something that it has been given to you. The obligation to repay goes to them whether or not they buy it. The bonds will mostly go to them as bequests, but they don’t logically have to go to them as bequests.
I obviously haven’t explained myself clearly. I don’t know what else to type. In any case, it was mathematically proven 46 years ago that public debt can impoverish future generations (and in a model with non distortionary taxation).
Rattner appears to be looking only at the debt burden to the next generation and ignoring the fact that the next generation will own the asset side of the equation. Dean says that ignoring the asset side is wrong. Your response is that there are models under which it is possible that public debt can impoverish future generation. To support Rattner one would need a model that says debt will always impoverish future generations or, at least, that such an outcome is the most likely.
Would you know if there is an ungated copy of Diamond’s paper?
I comment on the text by Baker which I quoted. Baker asserted that
“They will have no choice but to hand this debt on to members of the next generation, either their own heirs or someone else’s.”
This is not true, so I wrote that it was false. I didn’t write anything else.
I have no interest in supporting Ratner whose op ed I haven’t read. I included the word Rattner only to provide context to make it clear that Baker was writing about government bonds and whether this generation can make choices such that the next is more impoverished if we have our hands on more government bonds.
Any paper on Ricardian equivalence must cite Diamond’s paper. I think a google scholar search should be useful to you http://bit.ly/ABhKuE note about 2,30 hits for
Diamond AND 1965 and “national debt in a neoclassical growth model”
This is not an obscure result. Also any advanced Macroeconomics textbook and, I would guess, almost any intermediate macro textbook.
“they will have no choice but to hand this debt on to members of the next generatioin, either their own OR SOMEONE ELSE’s.”
I think that takes care of your objection.
I may have missed something. I am not a professional economist, but generally I take that as an advantage.
I would suggest that not only does the next generation “own the debt” as well as “have to pay it back” (or pay interest… which is the same thing as borrowing more on its own watch.) but it also has the assets the government bought with the money it borrowed.
your dad borrowed money to build a house. he dies leaving you the house and the debt. are you worse off than if he hadn’t borrowed the money?
not being an economist i get a little nervous when the cost of servicing the debt gets too high for my limited imaginatioin, but paying it down is a simple matter of raising the taxes to do it. and presumably the people, or the children of the people who got the tax cuts that created the debt, used the money to enhance their own personal wealth, so they ought to be able to afford to pay the higher tax.
we may now return to the learned argument of those who know more than i do.
speaking as a mathematician of sorts, don’t trust mathematics. it can always betray you if you don’t understand the problem.
i would imagine public debt can leave the next generation poorer if the money was wasted. but i don’t see that as a bigger problem for the next generation that all the lexuses in the junkyards.
Baker takes the whole “I’m a curmedgeon” thing to an extreme level.
Bitch, bitch, bitch.
I read Baker differently. Let me quote the paragraphs in full:
Baker: “At some future point, everyone who owns this debt today will be dead. They will have no choice but to hand this debt on to members of the next generation, either their own heirs or someone else’s. (Note, contrary to Mr. Rattner’s assertion in his original NYT piece, the debt does not disappear, the ownership is transferred. [Sorry Mr. Rattner, you don’t get the $1 million prize.]) This means that future generations will be both paying and receiving debt service on $10 trillion of debt. How is this a burden on future generations as a whole?”
Yes, Baker is wrong. One choice is to tear up the debt rather than handing it on. He did not mention that. But I do not interpret handing it on as giving it away. When he talks about someone else’s heirs he contemplates selling it to them, as I interpret him.
Some people may overlook the fact that in the future, just as now, debt is two sided. It is a liability for some, an asset for others. He is making the simple point that the assets are passed along as well as the liabilities. How is that a burden to those alive at any future time?
Baker: “Again, the taxes needed to pay the debt service do imply distortions, but the distortions will not be anywhere near the size of the debt. Furthermore, there are all sorts of distortions in the economy, many of which could be much larger, that we never think of as imposing a burden on future generations.”
Baker answers his own question. There could be negativities in the future concerning the debt, in terms of distortions, but that is not what people mean when they talk about the burden of the debt. They mean “how can we afford to pay it back?”
Some weeks ago Nick Rowe ( http://worthwhile.typepad.com/worthwhile_canadian_initi/2011/12/debt-is-too-a-burden-on-our-children-unless-you-believe-in-ricardian-equivalence.html ) showed that under certain circumstances, including unwise gov’t policies, a situation could arise where gov’t bonds could not be rolled over. In that case there would be winners and losers in a way and to a degree that I do not think that Baker includes in his distortions. Rowe did not present any historical example, but such a situation is a (remote) possibility.
BTW, as I hinted above, I think that one problem with this debate is that people mean different things by the “burden” of gov’t debt.
I don’t get it.
In both cases, the later generation gets the debt. In Dean’s case, the next generation gets the asset for free, and in your case the next generation *chooses* to buy the asset.
If A holds a bond near the end of life and is faced with the choice of passing it along to B, or selling it to C (each of a younger generation) then so what?
If A sells to C instead of passing it along to B, then A has more cash to pass along to B.
If A spends the cash rather than passing it along, then the “problem” is A choosing to dissave– it has absolutely nothing to do with the government debt.
Could this be simply a case of language confusion? Robert assumes that the the word heir implies a literal bequeath to ones relatives. However in Dean’s context, heir is just a euphemism for any member or the next generation and the transfer does not necessarily require a bequeth. For example we say that the Greeks transferred their cultural heritage to their heirs in Rome. In this context, heir just means those who come after. Nowhere does Dean use the word bequeth.
Well, there is this
those who have lent the government money receive payments (interest). the money for those payments comes from taxes, at least some of which are paid by people who don’t get the interest payments.
in this way potentially you create a class of people who live in perpetuity on the labor of others.
i think it’s more complex than that for reasons i tried to give above. but at least let us recognize that talking about “generations” obscures a potential problem.
no doubt the next generation could impose a high tax in “interest.” and also no doubt the interest could be paid out of the growth in the economy created by the investment the government made with the money in future productivity… no different from selling stock in general motors which your “heirs” can live on forever… just a little bit of irony here intended.
As I understand Baker, at the aggregate level, Americans will continue to owe Americans, generation to generation. Baker excludes foreign ownership of bonds, so this is a mathematical identity. It does not matter how many bonds are bequethed or how many are sold by a person before dying. Eventually they will be owned by someone who is, from today’s perspective, in a future generation.
Things look different when you disaggregate because bond asset ownership (and liabilities, but let’s not try to go there) can shift in many ways. This does not undermine Baker’s point. BYW, I interpreted Baker’s words “either their own heirs or somone else’s” as recognizing that the assets may become redistributed over time, rather than stay in the same family forever.
Not that I claim to understand the national debt. The concept confuses me. I think gee, what if everyone–a hundred years from now, a future generation–wants to cash-in their bonds and nobody wants to own them–then we’d need new taxes to pay the debt! Those lying politicians were right! But, depending on how we raise the new taxes, the bondholders might be the ones who pay most of it, so they’d end up with next to nothing. Like a default. My head hurts now.
Robert I fully agree: you haven’t explained yourself clearly. In fact I am baffled and will have to re-read this a few times.
But at first reading I don’t see Dean asserting what you claim he is based on the excerpt cited. Unless you hold “hand this debt” to necessarily imply that no portion of it is in real terms redeemed. Now Dean may have meant that, perhaps supported by something in the [snip] but equally he could have been referring to the actual history of post-war public debt where between 1946 and 1980 nominal levels of debt really never decreased, and so were passed down, and yet debt as a percentage of GDP steadily dropped even as the US fought two not wars, plus a Cold War, sent a man to the Moon, built Interstate Highways, introduced near universal medical coverage for retirees, funded reconstruction not just of our WWII allies but the Axis as well. And in the process built the prosperity that Reaganomics proceeded to loot.
I am not going to assert that you missed something elementary, because you so truncated Baker that is impossible to see if he is actually presenting the argument you suggest. You seem to be imputing a certain belief in a steady static zero-sum economic future that discounts real growth that would make the debt service of any given level of public debt more affordable over time. In contrast on my reading of Baker since 1999, at least in relation to Social Security, is that his models assume some levels of real growth, even if at lower rates than the past.
That is we do not have to appeal to bequests at all. National debt will not crowd out future capital formation if real growth outpaces the cost of debt service on that debt. And to bring in (my reading of) Dale’s point, if debt taken on today is actual spent in a way that leverages future productivity and so real growth, increasing nominal public debt, even if ultimately passed to the next generation is not zero sum at all. That is in some sense we put both Hoover Dam and the Interstate Highway system on the national credit card yet I see no real world evidence that this crowded out capital formation in the decades that followed, instead the word I would choose is “enabled”.
I don’t want to be rude either. On the other hand lomg time AB readers know it doesn’t bother me much. And based on the Baker passage you cite the kindest judgment I can pass is “over interpretation”, which is so much more polite and less judgmental than “straw man”
coberly: “those who have lent the government money receive payments (interest). the money for those payments comes from taxes, at least some of which are paid by people who don’t get the interest payments.
“in this way potentially you create a class of people who live in perpetuity on the labor of others. “
Yes, gov’t bonds function as a subsidy for the creditors, and that can be problematic. But we do not have to wait for the future for that. 😉
Early in this debate, Paul Krugman mentioned that our progeny might be indebted to Bill Gates’s descendants, which suggests the possibility of that kind of problem. That’s not what he meant by “burden” of debt. 🙂
PJR (and Bruce)
let me attempt something here
I think Baker misses what it is the deficit hawks are afraid of… or perhaps he’s just talking about something else. And I think Robert utterly fails to explain it… because he relies on economic theory and some “mathematical proof” which may or may not apply to the actual facts.
I offered a model above of the dad who borrows to build a house and dies leaving his kids both the house and the debt… good dad or bad dad?
but let us suppose that dad owned a farm that had been in the family for generations. he borrows money on the land. he could use the money to buy a tractor which fails to earn enough money to pay back the loan, or he could just take the money to town and gamble and drink and whore it away.
good dad or bad dad?
the deficit hawks seem to think we are in the bad dad situation. and perhaps from their lights we are. no good spending money on poor people who only drink and gamble….
except that it turns out we spend the money on war toys and gambling schemes highly endorsed by the same people who are always yelling about the deficit
i’ll leave it there except to complain in a vague way that the folks above who worry about the question are worrying about it at too abstract a level for it to mean anything. or they are thinking strictly in terms of very narrow financial transactions which don’t shed much light on what happens in the real world with real people, much less real governments that live forever, for better or worse.
if everyone wants to cash in their bonds at the same time, the market value will fall toward zero.
another good reason SSTF is not invested in marketable treasuries.
to get away from the analogies a bit
suppose we had a big war and we paid for it with borrowed money. and suppose the next generation had to pay off the debt. did they inherit a burden or did they inherit a free country and are only too glad they get to pay for it with money instead of blood?
or, suppose we have a big recession and we have to borrow money to pay unemployment benefits and welfare. and suppose the next generation has to pay for it. do they inherit a burden or are they only too glad their dads could feed them through the recession and they are alive to pay for it with a tax that is really really hard to tell from the difference in the price of bread from one year to the next?
but just to not make this easy, suppose the country went to war against a former ally citing the danger of mushroom clouds and created a billion enemies we would have to fight forever and turn our own country into a police state to defend against little mushroom clouds? and suppose we put this on the credit card. would the children be glad to pay for this?
or suppose the big banks got too cute with pfreee enterprise and caused a recession and we went into debt to pay… the banks. and cut taxes to “stimulate” the economy by giving people money to give to … Wal Mart. are the kids going to be glad to pay for this?
I think these are the questions that need to be answered and not, gee, isn’t there a mathematical model somewhere that shows “debt doesn’t matter”? or does?
In reading all the comments subsequent to the one I responded to it seems that everyone fell into the old nominal/real trap as it relates to public debt.
Greenspan was not crazy in 2000 when he warned about the negative effects of eliminating the long bond by paying down nominal levels of public debt. His endorsement of the Bush ‘solution’ of tax cuts was misguided, a better solution would have been to determine that minimum level of US debt as a percentage of the U.S. and world economy needed to provide foreign and domestic reserve needs plus the flight to safety function and then the amount of structural debt that had been invested in productivity that would justify the extra debt service going forward and then if we like additional debt to satisfy the general welfare clause (this latter perhaps requiring dedicated taxes to fund the debt service.
Now the total of that reserve plus productive investment plus general welfare investment (which itself has productivity effects) might well be less than the current level of debt in nominal or percent of GDP terms and so argue for some relative austerity, but arithmetically once we hit the target as a percentage of US or World GDP the nominal amount of debt HAS to increase in nominal terms, even after discounting for inflation. That is just what real growth delivers.
For example on the narrower issue of that portion of Public Debt contributed by Social Security reserve requirements alone, nominal levels of Public Debt will have to increase huge amounts in nominal terms over the next 75 years even if we reduced Debt Held by the Public to zero (which as noted domestic and foreign bank reserve requirements plus flight to safety plus sovereign currency reserve requirements makes impossible anyway). That is in current dollars Social Security and Medicare Part A project to have cost of $37 trillion A YEAR by 2085. Ouch! Until you see that is out of a $455 tn annual GDP. Which means that maintaining the mandated one year of reserve to meet solvency tests means an equal amount of Public Debt just for that purpose alone.
$10 trillion now is not the same as $10 trillion then, instead you have to recalculate it in terms of comparative growth rates between GDP, debt and most critically debt service as a percentage of GDP. Something which based on some side conversations with him I am thinking Dean understands full well.
My disagreement with Baker is not purly verbal. He asserts that if there is nondistortionary taxation, then higher debt doesn’t make the next generation poorer. This is conceivable — Robert Barro conceived of a model in which it is true. Also tax cuts can’t stimulate the economy in that model. But it requires a long long list of absurd assumptions.
For counterarguments to Baker more recent than 1965 read anything written on debt by Paul Krugman or Brad DeLong before Sept 2008, that is before the US economy entered a liquidity trap.
On bequeeth it should be clear that if I have to buy something I am more burdened than if it is given to me. It is essential to Bakers argument that the bonds are given to the next generation not sold to the next generation. He asserts that they must be given because … Well someone else will have to help me with that.
“what if everyone–a hundred years from now, a future generation–wants to cash-in their bonds and nobody wants to own them”
the question then becomes what do they do once they have “cashed in”…hide their cash under a matress?
Well Robert, your bad daddy doesn’t really apply to Baker’s argument because he hasn’t borrowed the money from himself or his kids. He went to others for the money. Like the US going to China for money. That said, the issue that your really raise is how he is spending his money–the source of the money is entirely irrelevant to what he leaves to his kids. He could be making a million a year from his farm, borrows nothing, and spends every penny he has on gambling–he even loses the farm on a death-bed bet that he’s not dying. So he leaves little or no inheritance. Bad daddy whether the money is borrowed or earned, because he’s robbing from his kid’s future, I guess.
Now, just to make my head hurt again, I’m imagining that all of his gambling losses were to his children, so they haven’t lost a thing from his bad behavior. 🙂
For those who want to see a little numerical example showing why Waldmann is right and Baker is wrong, look here:
“On bequeeth it should be clear that if I have to buy something I am more burdened than if it is given to me.”
Not at all true. You have only changed the composition of each party’s assets, not the value!
i think you were addressing my argument, not Robert. and your head hurts because you are forcing the argument into terms that are really meaningless. uncle sam is not one person.
the only difference between borrowing from some americans and borrowing from the chinese government is that we can’t tax the chinese government to pay off the debt.
whatever the faults of my argument, I don’t think they had much to do with nominal v real. i think i would suggest that the debt “problem” if it is one is the same whether uncle sam borrowed the money or general electric borrowed the money.
hopefully at least some of what US spends the money on makes us “richer” (as a country) than we would have been if the money was not spent. similarly, we might guess that at least some of the money G.E. spends is “wasted.”
in each/either case someone gave up some potential current spending in return for some possibly greater future spending. the fact that that future may be “richer” so the future spending is a smaller part of GDP then than the foregone current spending really doesn’t change the fact that someone in the future is going to be “paying” back the borrowed money… which i suppose might include the “heirs” of the guy who left them his GE stock… though now my head hurts.
I think the way to think of the effect of debt on the next generation is to compare different tax policies. Higher government spending can help future generatios more than bonds issued to finance it hurts them, but they would be still better of if the spending were financed by taxes.
My objection is that selling is different from giving. I didn’t miss the “or someone elses” qualifier.
I am with you up to the last sentence. You just claimed that how much we spend has nothing to do with government debt, that is you assert that Ricardian equivalence must hold and all of Obama’s talk of stimulating the economy by cutting taxes is silly. I add that the same argument applies to transfers as well as taxes (with opposite sign of course) so you must assert that people’s spending on food has nothing to do with the food stamps program or unemployment insurance, so foodstamps and UI can’t stimulate demand.
Are you comfortable with the ideological company with which you find yourself ?
Debt can certainly have something to do with consumption by the current generation as it can make higher consumption possible.
If you think that “is caused by” is consistent with “has nothing to do with” then we disagree notabout math but about the English language.
My bad daddy is a bad daddy. He is not an analogy for theUS government. In my argument the US government borrows money from US citizens who may give the bonds to younger people or sell them. I made no analogies. I used no metaphors. I wrote about people noting that, if they want, they can beselfish.
As you see no difference between giving and selling you will be glad to give me your car. Please transfer ownership to Robert waldmann and mail me the registration, keys and instructions to the location of your car.
Do I really have to argue that giving is different from selling ? How can I hope to communicate with people who insist that there is no difference ?
Pleas answer in comments.
Coberly I actually was addressing Robert’s bad dad, to argue that it does not matter whether he borrowed money. By raising the issue of bad behavior, Robert and you both point to a far more important issue than the question of whether we should raise money by giving taxes to our government or by loaning money to our government. That important issue is, raise money for what purposes?
I totally agree that giving is different from selling. You are totally missing the point.
A has a $100 Treasury bond, planning to bequeath the bond to an heir, B. If A decides to sell the $100 bond to C for a bottle of expensive liquor, A can still pass along the liquor. So far, there is nothing interesting– just a swap of assets.
If A now drinks the liquor, then sure, there is nothing to pass on to B. But that is because A drank the liquor– not because A sold the bond.
Does that make sense?
coberly: “I think Baker misses what it is the deficit hawks are afraid of… or perhaps he’s just talking about something else. . . .
“the deficit hawks seem to think we are in the bad dad situation.”
There is a saying that the Mississippi Delta (which is actually the region around the Yazoo River delta) is owned by the Union Planters Bank in Memphis. Farmers — back in the days of family farms, anyway — were perpetually in debt to the banks. In bad years they rolled over their debts, and bad years came often enough. They worked hard and they partied. They partied even in the bad years, because — well, why not? 🙂 Sometimes the bank foreclosed on some farmers and they lost their farms. That was the ultimate burden of debt.
The debt/deficit hawks never say why the debt is a burden. They just fan the flames of fear. They rely upon the unstated analogy to a household or family farm, where the fear is bankruptcy or loss of the farm. Baker, Krugman, and others are addressing that analogy, saying that you have to include the bankers and their families in your picture. (Bill Gates’s heirs, as Krugman puts it.)
to be honest i cannot follow the learned argument. it seems to me the proponents are in love with their model and don’t realize it has almost nothing to do with the real world.
you made a point above, i think, that sell or give makes all the difference. i can’t see that. the government borrows the money and taxes to repay it. it doesn’t matter who owns the bond or how they acquired it.
i looked at that. convinced me that economists were dancing on the head of a pin.
it makes a lot more sense to me than the assertion “giving is different from selling, therefore government debt is / is not a burden on future generations.”
Robert Waldmann: “On bequeeth it should be clear that if I have to buy something I am more burdened than if it is given to me. It is essential to Bakers argument that the bonds are given to the next generation not sold to the next generation. He asserts that they must be given because … Well someone else will have to help me with that.”
First, he does not assert that the money must be given. That is your interpretation. But then you must explain what he meant by handing on the debt to someone else’s heirs. If you give them the debt, then they are your heirs, right?
To be sure, it is clear that you are better off if you are given something than if you buy it. So let’s compare scenarios. In scenario A the debt is bequeathed, and the heirs are better off, as creditors. In scenario B the heirs buy the debt, at a cost to them. So they appear, as a group, to be worse off than in scenario A. But what happens to the money that they spent to buy the debt? As a group they inherit it, right? In terms of totals, it is all same-same, right? (Sure, there may be other effects that depend on who pays and who gets paid, but both Baker and Krugman admit that. That is not what they mean by the burden of debt.)
This is getting silly. A bequest is different from selling a bond forward through time. In the case of a bequest, a bondholder has transferred the right to consumption from the principle and the accrued interest to an heir. When he sells the bonds to a younger cohort and consumes, he is not doing that- he is selling the right to principle and accrued interest from that point forward. Baker was absolutely wrong, and his defenders are equally wrong.
Think about the very first instance a bond comes into existence- a person forgoes consumption for the promise of greater consumption in the future. Every buyer of that bond in the future makes the same deal. Suppose at some point the bond is retired, eaten by inflation, defaulted upon- at that point t2 in the future, the buyer of that bond has already foregone consumption in the past, and he cannot be made whole over the course of the rest of his life without making someone else from time t2 forward worse off- the burden must be recognized by someone.
Yeah, the lack of empiricism in the debate is bothersome. I mean, there are many gov’t defaults, aren’t there? Presumably they defaulted because they regarded their debts as burdens. If the burden of debt is an issue, shouldn’t at least one of these defaults be a good example?
Robert W. There is remarkably little interest in REALITY in the above article and the above comments. That is, no one seems interested in the ACTUAL WAY IN WHICH in the REAL WORLD oldies sell bonds to youngsters. They actually do this via pension schemes. I’ll explain.
You claim (like Nick Rowe) that if oldies SELL bonds to youngsters, rather than donate them, a burden is passed on to youngsters. Agreed. But there is a catch as follows.
The above “burden passing” occurs ANYWAY in that youngsters support oldies in the latters’ old age. This happens partially by bond selling (done mainly via pension funds), but it also occurs via “pay as you go” or “unfunded” pension schemes.
So the $64k question is this. If government bonds didn’t exist, would it make much difference to the total amount of “burden passing”? My answer is “not much” or even “none”. And the reason is that those planning pensions would aim for much the same post retirement income, but would fund it in a different way: perhaps via increased use of unfunded schemes, or perhaps using assets other than government bonds (e.g. shares, houses, etc).
Conclusion: government bonds, or increasing the total volume or value of such bonds has little effect on the total amount of burden passing.
Yancey Ward has the cleanest intuition on this. Just read what he says a couple of times, and you get the idea.
yes. but the argument ‘assumes’ that we are all the same person. it does make a difference if i lose the family farm to the bank. it does make a difference if my “heirs” end up paying 20% of their income to Bill Gate’s heirs because BG’s heirs own a lot of government bonds.
i don’t want to sound like, much less be like, a deficit hawk here, but i do think it is necessary we address the question, fear, being raised and not diddle ourselves with abstract theories that are completely meaningless to real people.
you want to be a little careful of calling the opposition silly. it seems to me you don’t half understand the question.
maybe. or maybe he just agrees with you. i think musgrave is on a better track. with no financial arrangements whatsoever the “young” are burdened by care of the elderly. on the other hand the elderly were burdened by care of the young, and the young will themselves become elderly and may want to set a good example for their own young.
you can manage this by “family ties” or you can arrange to manage it, with some risk, by financial instruments like stocks and bonds, including government bonds… which are no different, in the relevant respects, than corporate bonds… or you can manage it with pay as you go financing.
all you are doing is providing a “system” for arranging for someone in the future to provide for you, hopefully because you provided for them in the present. and if everyone is very fortunate, because you provided for them in a way that increased their future assets.
I understand it perfectly. What is utterly amazing that people think giving and selling are equivalent here, but in no other transaction. Like Waldemann wrote above, if they really believe this, they can send me their assets for free. And if not to me, then they can will it to my heirs. Selling the bond and bequeathing the bond are only equivalent if the seller doesn’t consume afterwards- passes on the cash, or passes on anything purchased with the cash. The real world doesn’t work that way collectively. Never has, never will.
Again I think the more useful comparison is between debt financed spending and tax financed spending. That separates the question of what debt should we have from the question of how much should the government spend. I think that thought can be clarified by assuming that taxation does not cause distortions. One reason is that Baker and I agree that taxes required to service debt create distortions anda re a cost of debt. We also agree that the taxes which are the alternative to debt financing cause distortions. Where I disagree with the Baker and Barro is that they think this is the only issue to consider when deciding the timing of taxes. So, for example, to be consistent, they must say there is no reason to cut taxes right now just to pump up the deficit. I, in contrast, think that is good policy, because it causes higher aggregate demand for given short term safe nominal interest rates and that is good when the economy is in a liquidity trap (in normal times the effect is likely to be cancelled by the Fed).
The question of how high should government spending be is gigantically controversial and ideological. It is quite separate from my debate with Baker and Barro. For example, they have diametrically opposite views on the proper scale of government. But Baker endorses Barro’s view that debt is no problem.
I am not being totally fair. Barro is nowhere near as extreme as Baker. He presented a model in which, with nondistortionary taxes, public debt doesn’t matter. But he made the behavioral assumptions required for this to occur very clear. Baker set me off with the “have no choice” assertion that we can tell what effect debt will have on future generations without thinking about preferences or choices.
Again I appeal to DeLong http://bit.ly/xBn3Qh .
coberly: if there is exactly the same transfer between young and old either way, (so that if the old couldn’t sell $100 of bonds to the young then the young would have to give the old $100 so the old wouldn’t starve), then you are back in the world of Ricardian equivalence. A bond-financed transfer payment to one generation won’t increase their consumption demand, because they know it will reduce the amount their kids pay to them by an equal amount. So we lose the Keynesian multiplier.
You can’t have it both ways. If you accept Ricardian Equivalence then there is no net burden on the young, but you lose the Keynesian stimulus of bond-financed tax cuts.
Musgrave’s argument is a non sequitur. We could agree beforehand that all borrowed funds fund productive investment, but Rowe’s and Murphy’s arguments explicitly rule that out. All their argument is attempting to do is to isolate the nature of the transactions- forego consumption now to consume more later. Both government and the private sector can muck this up, of course, and not actually make the investments that provide the additional income to support the bond payments (housing in the last decade, for example). Krugman and Baker made a specific argument that did not rely on proper investing in productive capital- only that the debt accumulated today doesn’t really matter because we leave behind both liabilities and assets that net out. They can’t net out for everyone since, if the bond is ever retired, defaulted upon, or inflated to worthlessness, the last person who purchased it has already recognized the loss in the past.
Another argument that got raised that is interesting to think about was the example where everyone collectively decides not to purchase the bonds, forcing the last buyer to bequeath them instead. This also doesn’t undercut Rowe’s argument since that last generation is the one that then recognizes the burden- purchased with the intention to sell, but found they could not. They are also our future in the examples, so the burden does get passed down even then.
coberly: “but the argument ‘assumes’ that we are all the same person.”
And it is that assumption that Baker, et al., are correcting. 🙂
coberly: “it does make a difference if my “heirs” end up paying 20% of their income to Bill Gate’s heirs because BG’s heirs own a lot of government bonds.”
I agree. But that is not what the debt/deficit hawks are talking about. That is not so different from the current situation.
IMO, we should not fund the deficit as much as we do by issuing treasuries, because it is a subsidy. And we could do that at any time, even under current law. That would take care of the problem of Bill Gates’s heirs. 🙂
I am afraid that this post and the commentary accompanying it are examples of why you need the entire context. Blogs tend not to provide the context – this posting does not. Reading just Dean Baker or just Paul Krugman or just Steven Rattner (or even all three) is not enough to provide the whole context either.
Most of the arguments are by analogy, so context really matters. If you follow it all you find that different commenters are not taking the analogies in the same context, so they are shifting the intent. It becomes an unintentional example of the old game “telephone.”
I believe that Baker’s point is that when the first generation dies and passes a debt to the next generation, there must be a creditor in the next generation as well as a debtor, so aggregate debt (that can be modeled by this analog) is not a generational issue. This does not say don’t worry; it says some people are worried about the wrong aspect.
Nick Rowe: “Yancey Ward has the cleanest intuition on this. Just read what he says a couple of times, and you get the idea.”
Yancey Ward has not made a systems argument. You need a systems intuition for this sort of thing.
To play the game and focus on just one statement, I choose “At some future point, everyone who owns this debt today will be dead. They will have no choice …”
Robert complains that this is not true because there are obviously choices, but I would note that when you are dead, you no longer make any choices.
Exactly my point.
It is the consumption which matters, not the sale of the bond.
David: “If A spends the cash rather than passing it along, then the “problem” is A choosing to dissave”
Why is that a problem? The spent cash still ends up being around after A dies, right?
In fact, since we assume that spending is a positive sum game, A’s spending is not a problem, but a plus.
Ralph Musgrave: “There is remarkably little interest in REALITY in the above article and the above comments.”
Indeed. In all the world, with all the gov’t defaults, is there no good example of passing on the burden of debt?
Quite right. In particular Nick Rowe & Co make the assumption that oldies sell bonds (or apples) to youngsters with no apparent interest in whether or to what extent this actually happens in the REAL WORLD. Plus the above assumption is BOUND to produce the result that a burden is passed to future generations.
Can you explain in greater detail why my argument is a non sequitur? I just don’t get it. Remember: I fully accept the argument that where oldies sell rather than give bonds to youngsters, that is a burden passed to youngsters, i.e. to the next generation.
you lost me. Baker is assuming we are all the same person: the next generation inherits the asset as well as the debt. Thats “the same person.” In fact it is the difference between the people who end up owning bonds and those who end up paying taxes that is potentially the problem. Though if you can convince me that I am getting value out of my taxes to pay interest on the money Gates (say) lent my dad, I would tend to accept it. Though I do expect a point could be reached where the interest i was paying would be “too much.”
and if the hawks aren’t saying “that”, i don’t know what they are saying. of course it is not so different from the current situation. that’s why they have been saying it so long. only they are also saying it is going to get worse. so bad in fact…
i don’t know that it will, but that’s the argument you have to address, not some abstraction about the next generation owning the bonds as well as paying the interest, or whatever abstraction Robert is on about.
I don’t see how you avoid funding the deficit without issuing treasuries… that IS the deficit. I don’t see how it is a “subsidy”.
if you could stop saying “utterly amazing” maybe you could explain why the distinction between buying and selling matters here. i don’t see it.
i don’t agree. i certainly don’t understand. would take too long to sort through all this.
Baker is not assuming that we are all the same person. He clearly (to me, anyway) is assuming both debtors and creditors, as well as one’s own heirs and other peoples’ heirs. He also admits that who owes whom could lead to distortions (as they are paid via taxation), but he does not think that those distortions are sufficient to make up the “burden” of the national debt. (Theoretically, he could be wrong about that, but the only examples that I have seen in this debate require major bungling for generations, so that the debt is not the only problem.)
As for what the debt/deficit hawks are saying, they are not saying what the burden of debt is. This lack of definition helps to fan the flames of fear. If they got specific, people might say, “So what”, or, “That’s ridiculous”. If the hawks were simply saying that what we would get for the debt might not be worth it, then they would not be scaring people. Then people might say, “Let’s repair our failing infrastructure. Let’s give grants to states to keep schools open, to keep policemen, and firefighters, and paramedics, and teachers working for us and our children.” The hawks do not want a sensible discussion, they want to scare people, they want to put teachers and policemen and social workers and paramedics out of work. “Starve the Beast” is their motto.
As for how treasuries are subsidies to the children of Gates, et al., suppose that we issued 0% interest bonds. Those would not only not be a subsidy, but, unless we had deflation, they would be a cost to the bondholders. But wait! If you buy $100 worth of those bonds for $100, that would be like buying $100 for $100. Silly, of course. But the gov’t can issue the equivalent of a 0% bond, just by printing or minting money. Congress has put a cap on printed currency, but not on coins. The Tresury could, at the discretion of the Secretary, mint as much money as we needed.
I don’t think that that is necessarily what we should do now, but if we had done it last year, we would not have had the melodrama about raising the debt ceiling. Here we have been in the middle of a major financial crisis for more than three years and people are suffering through no fault of their own, because the gov’t is stingy.
Way to conflate the stock of debt and an increase in the stock of debt. Well done.
Sorry, Min, for the confusion.
I was, for the purposes of argument, accepting Robert’s assertion that the debt posed a problem– hence the quotes.
But that’s debt, not deficit. It’s a whole different question whether *adding* to the debt can create a net benefit.
I seriously think you’re overthinking what Dean wrote.
It was Rattner who suggested that servicing the debt would be a problem. [Oh, wait, he implied that they have the “obligation of paying off that debt.” Even worse!] Dean’s point is that the liability is also an asset. On the whole, and at any given point in time “they” will service the (nonexternal) debt by paying themselves– whoever “they” are at the time.
That’s all he means by that– not that is entirely nondistortionary and not that there are no distributional concerns associated with the debt service.
Bruce Webb: “Greenspan was not crazy in 2000 when he warned about the negative effects of eliminating the long bond by paying down nominal levels of public debt.”
That’s a good indication of how gov’t bonds are a subsidy. That’s why Greenspan did not want them eliminated. (And rightly so, IMO. :))
i sort of agree. but i think that strictly speaking what Dean is saying is that as long as “americans” own the bonds as well as owe the debt “America” is not made poorer by the debt. That is a “we are all the same person” argument to me. no doubt Dean knows that we are a nation of taxpayers and bond holders and these are not the same people, but for the purposes of the quoted statement he seemed to be assuming away the difference.
as to the deficit hawks, i agree with you, but we also could raise the point about who owes what to whom and what did we get for it.
and as for the more abstract arguments… your “just print the money” which taxes everyone and not just the rich to pay for the “borrowing” and the … frankly to me bizarre theories of the professional economists present…. i don’t see what they have to do with the original question, let alone reality in general.
and i don’t see what difference it makes if the second generation inherits the bond or buys it.
One choice is to tear up the debt rather than handing it on.
How does that make a difference, Min? If they tear up the debt then they have torn up both an asset and a liability of the next generation. It still nets to zero. But the ballance sheet is just smaller.
I also don’t understand this business about the burden caused by selling the debt. If the next genereration buys $10 trillion dollars in assets, for say $9 trillion, instead of those assets being torn up, then at first pass one might say they have only netted $1 trillion in assets while picking up a $10 trillion liability.
But what about the $9 trillion that the oldsters acquired in the sale of the assets? Are we assuming that gets buried with them in their coffins. Of course it isn’t. It almost entirely becomes the inheritence of the next generation.
A bond-financed transfer payment to one generation won’t increase their consumption demand, because they know it will reduce the amount their kids pay to them by an equal amount. So we lose the Keynesian multiplier.
If they reason that way it seems to me they are thinking very illogically. In the real world a large portion of the bonds end up being owned by the central bank, and just represent an agreement between two branches of the government to extinguish a certain amount of money on a certain date by debiting the treasury account and “crediting” it to the infinite monetary well which is the central bank. That could indeed be a burden on the next generation if they foolishly decide to accomplish the extinguishing opertation it via taxation. But more likely, a susbtantial portion of the money the treasury has committed to be extinguished will simply be “borrowed” from the central bank, in order to be “paid” back to the central bank.
These intragovernmental “debt” arrangements between the treasury and the central bank are just an obsolete bookkeping fiction that is functionally equivalent to the central bank, in each generation, is directly crediting the treasury account by some positive amount, in conjunction with, and stimulating, growth in the real economy. The only constrain on the whole business is the constraint of price stability. The net crediting of money as a share of the economy should not greatly exceed the increment of real growth.
In other words, a substantial portion of the debt at all times is a pure fiction that is an artifact of outdated monetary institutions and the artificial division between the treasury and the central bank. It will only be a burden on the next generation if they foolishly decide to pay that portion of the debt off by taxing themselves and then throwing the tax revenues into the bottomless CB money hole. If they instead simply order the CB to credit the public sector the sum owed to the CB (that is by requiring the CB to purchase another round of bogus “debt”) there is no burden.
And if the current generation has the foresight to recognize that the next generation will not be idiots, then the current generation will not foolishly suppress their current demand out of the mistaken notion that they have to take into account the revenue that the next generation supposedly will not have.
Sorry about all the typos. That’s what happens when I comment too late in the night. I think the reasoning is right though.
Dan Kervick: “How does that make a difference, Min? If they tear up the debt then they have torn up both an asset and a liability of the next generation.”
If they tear up the debt, they have torn up an asset of the current generation that holds the debt and torn up a liability of the future generation(s) that will pay the taxes to service that debt. So tearing up the debt reverses and intergenerational transfer. And if you go all the way back to the beginning, and tear up the debt immediately after it is issued to the first generation, then there is no intergenerational transfer at all.
Dan Kervick @ 1:29 : Now you are getting into the question that matters: (permanently) money-financed deficits are different from bond-financed (future tax-financed) deficits. But if money-financed deficits can do things that bond-financed deficits cannot, then why do you need the deficit at all? Instead, use monetary policy (which includes both current and expected future monetary policy) to buy back bonds and increase current demand while at the same time reducing the burden on future generations.
Nick Rowe @ 8:03
I must be missing something Nick. I was talking about tearing up the assets in lieu of passing them on as a bequest. If they pass them on to the next generation, the bonds become both an asset and a liability of the next generation. And if they tear them up, they become neither an asset nor liability of the next generation.
coberly: “your “just print the money” which taxes everyone and not just the rich to pay for the “borrowing”
You are assuming that printing or coining money creates inflation. It does so only under certain circumstances, like when we have full employment and a booming economy. Then is the time to increase taxation to take money out of the economy.
As for inflation “taxing” everyone, it reduces the burden of debt on debtors, at the expense of creditors. If the burden of debt is a problem, inflation could be part of the solution. If the burden of debt is a problem, why should we subsidize creditors?
Moi: “One choice is to tear up the debt rather than handing it on.”
Dan Kervick: “How does that make a difference, Min?”
Just pointing out one error of Baker’s. He said they had no choice but to pass it on. 🙂
why should we subsidize debtors?
thing is i sort of agree with you after you remind me of the not necessarily inflationary printing of money. but i thought that’s what we already did.
the other thing is, even though i can in principle accept the idea that 20% (or any %) of my income reasonably goes to pay people who lent money to the government so the government could do things that makes me arguably richer today… i am a reasonably enlightened person and even i couldn’t be that reasonable over a long time. i’d start feeling really bad about that 20%.
coberly: “why should we subsidize debtors?”
By and large, we do not. At least we don’t usually put them in jail anymore. IMO, we should have a proper balance between creditors and debtors.
There are times, however, when general debt is a problem. Then we should address that problem. Traditional societies had occasional cancellation of private debt. We need not go so far, but we do need to alleviate the debt burden of the general populace. We bailed out the banks (creditors) with little squawking, even though they were largely at fault for the crisis. (And IMO, we should have bailed them out, though we could have done it better.) It is past time to bail out the debtors. Then we can get the economy moving.
this whole “argument” is very frustrating. I think the professional economists here are arguing a point of theory they may well have studied until it is revealed Truth. But they are not talking about the same thing that Baker, or I, or, I think, you, are talking about.
But as for debt being the problem with the current economy. I am not so sure. I think it is at a minimum fear of investment. But to be honest I think it is a managed recession for the political advantage of the powers that the banks “represent.” I realize that is at least borderline paranoid conspiracy theory.. but it’s what I keep coming up with.
Unless you are talking about the folks who “owe more than their homes are worth.” I’d agree they could use a little help of the kind I understand that corporations avail themselves of whenever it is convenient for them.
But I am not completely sympathetic, because when you buy a house you agree to pay what you think it is worth to you based on your expectations and your ability to pay and other factors. You know that those factors may change and you take the risk. As, of course, does the bank. The problem I see is that the bank does not want to accept the consequences of the risks it took, and has the power to get away with it.
nuff said. this is only “ignorant opinion” on my part. Only one step removed from arrogant certainty on the part of the educated.
Er… not quite.
If you tear up the debt, the lenders have still bought the scraps of paper. They just happen to be worthless.
coberly: “I think the professional economists here are arguing a point of theory they may well have studied until it is revealed Truth.”
They are making a number of assumptions that may or may not correspond to reality, and they are using the term, “burden of debt”, in an non-technical, ambiguous way. (I looked it up, and it seems to be an actual economics term, meaning “the cost of servicing debt”. As a technical term, if we roll over the debt we are passing on the debt burden to our descendants, since they will have to service it. Big duh! Obviously nobody is using the term that way, on either side of the debate.)
coberly: “But I am not completely sympathetic, because when you buy a house you agree to pay what you think it is worth to you based on your expectations and your ability to pay and other factors. You know that those factors may change and you take the risk. As, of course, does the bank.”
Well, I do not want to get too far afield, but there was predatory lending, and in the build up to the crisis people, not just home buyers, took on more credit than was prudent, which helped keep the economy going and helped increase the incomes of people at the top. Had the increase in incomes been spread evenly enough throughout society, the borrowers as a group would have been able to afford their loans.
As for predatory lending, let me refer you to William Black: http://www.financialsense.com/contributors/2011/09/14/william-black/transcript . About debt, let me refer you to Eccles about the lead up to the Great Depression: http://www.mavenandmeddler.com/impurely-maven/2010/9/20/marriner-s-eccles-on-the-causes-of-the-great-depression.html
You might be interested in this from Eccles’s testimony before the Senate Finance Committee in February, 1933.
“Mr. ECCLES. Well, how are you going to collect what the foreign countries owe?
Senator SHORTRIDGE. Oh, I grant you that we have no police force.
Mr. ECCLES. They are willing to pay if we take goods.
Senator K I N G . And services. Mr. ECCLES. Goods or services are the way you can get your debts paid.
Senator SHORTRIDGE. Then I take it you would have the tariffs reduced?
Mr. ECCLES. NO. Debts canceled. Then I think with the prosperity that you would get in this country you can collect more than that in income and inheritance taxes when you stop this loss of $2,000,000,000 a month through unemployment. You start the process of wealth, and even a capitalist is far better off. I am a capitalist,
Senator SHORTRIDGE. Well, I am a capitalist. But I am on the gold basis.
Mr. ECCLES. We could, as an alternative, further raise our tariff wall, put an embargo on gold and live entirely within ourselves.
The program which I have proposed is largely of an emergency nature designed to bring rapid economic recovery. However, when recovery is restored, I believe that in order to avoid future disastrous depressions and sustain a balanced prosperity, it will be necessary during the next few years for the Government to assume a greater control and regulation of our entire economic system. There must be a more equitable distribution of […]
I quoted a brief passage by Baker. If you have a different interpratation, pleas present it. You do not mention it at all. In particular Baker asserted that debt can’t cause or allow redisrtubution from one generation to another. It can. But you just can’t claim that distributional questions are beside the point. They were exactly what he was discussing in the text which I criticized.
Also note that I didn’t write anything about Rattner. The fact that I critcize Baker does not mean that I have to defend Rattner. Baker wrote something “… no choice …” which is false in a long known and important way. After generally praising Baker, I noted this. I did not write or suggest anything about Rattner, did not present an interpretation of anything Rattner wrote and did not claim to have read anything by Rattner. To be clear, the only writing by Rattner which I have ever read is excerpts ( if any , I don’t remember) in the posts by Baker and Krugman.
Now you might say that the brief passage by Baker, which is the sole topic of my post, was not worth a post. Then what do you think of the cooment thread ?
First, I’m not asking you to defending Rattner per se. I was trying to explain the context of Baker’s comments.
Second, I quote him more fully by saying “They will have no choice but to hand this debt on…” You seem to read this as “bequeath” when “as part of a trade” fits just as well. What else could he have meant when he wrote, “either their own heirs or someone else’s.” If you bequeath bonds to “someone else’s” heirs, then they are actually your own heirs.
Third, I quote him as follows:
“This means that future generations will be both paying and receiving debt service on $10 trillion of debt. How is this a burden on future generations as a whole?
Note the plurals. At any time, there will be overlapping generations, but they do not, of course, overlap in the nice OLG sense. There is a hodgepodge at every point in time, and we can’t advance to a point in time “a generation later.” The point is that at any future time any debt which is passed down is both an asset and a liability.
If you want to argue that the debt could be paid off or cancelled, then fine. I agree that he did not address that case. But then that debt is neither asset nor liability.
Yes, at any time, the debt service on such debt will likely represent a redistribution from some “generations” to others. But that is very different from saying the debt itself represents a redistribution to or from our “generations” to those future “generations.”
In short, we have to get past the idea that the debt-as-liability is itself a burden on future generations except that the debt is an asset to future generations as well. After we get that out of the way, we can talk about the burden of any distortions.
After the previous AB positng on this I followed a few links and ended up at
where Bob Murphy is convinced he has proved something. The post was already so old I saw little point in adding my dismay that anyone could think his apples model was useful. He has a simple model where there CANNOT be any useful thing for a government to do anything with taxes much less anything with debt. There is not any purpose to private debt either.
Being able to create a model where all government action is pathological does not tell us anything about a world in which some government action can be helpful.