Posted by: Dirk | October 14, 2011

Niall Ferguson on Occupy Wall Street

Niall Ferguson has recently been on the losing side in the intellectual debate with Paul Krugman about the meaning of rising bond yields. Slate summarizes the debate:

In a nutshell, Ferguson and his allies believe that the rising bond yields prove that markets are worried about the inflation that will inevitably result from the fiscal policies of the Obama administration and the Fed.

Krugman and his fellow travelers couldn’t disagree more. Far from being a sign of failure and impending disaster, they say, the rising bond yields actually signal success and impending improvement. Government bonds were so low last December because the world’s investors were totally freaked out about risk. … In the months since then, as the stimulus and bailouts have helped stabilize the economy, investors have started to relax. The indicators of market stress have improved. And so investors this spring began to sell the low-yielding bonds and start buying stocks and other assets again.

Today it is obvious that Niall Ferguson was wrong and Paul Krugman right. Does Niall Ferguson change his mind and commit defeat? No. Instead, we get more of the same. He takes on Occupy Wall Street in an article at The Daily Beast.

Never in the history of intergenerational transfers has one generation left such a mountain of IOUs to another as the baby boomers are leaving to their grandchildren.

This is an unsound argument for two reasons. Here is a chart of US total public debt:

Now,  looking at the graph you could have said that in almost every single year for the last 50 years. Nominal US total public debt is growing. What is more relevant, however, is whether debt is growing faster than GDP. If GDP grows faster than government debt, the real burden of debt is actually declining and would approach zero in the distant future. Of course, this is not the case most of the times:

When the red line (GDP growth) is above the blue line (growth of public debt), the real debt burden actually falls. This means that the government probably runs a budget surplus, which we have last seen in the late 1990s under Bill Clinton. Oh, and by the way, Alan Greenspan said in 2001 that we should not pay down federal debt. (Was he the baby-boomer’s voice?)

If Niall Ferguson was right about the baby-boomers, then how come that before George W Bush started the federal budget was in surplus? That does not fit with his story. Well, probably it would if the reason for the budget deficit during the Bush years is spending it on the American baby-boomers. The war in Iraq, the war in Afghanistan, a tax cut for the super-rich… this is not very convincing.

But now for something different. Let’s look at Ferguson’s argument again:

Never in the history of intergenerational transfers has one generation left such a mountain of IOUs to another as the baby boomers are leaving to their grandchildren.

Now wait. A mountain of IOUs… Let us be more precise who owes what to whom. The public debt is financed by government bonds which are sold to the public. For every dollar of public debt, there is one dollar issued as a bond. Somebody must be holding this bond, somebody who is alive, because the dead are not repaid. So if total public debt stands at $14 trillion today, taxpayers today and in the future owe that money. However, there are people who are taxpayers, but at the same time bond holders. The public, let’s not forget, holds $14 trillion of government bonds. That is wealth for them, the other side of debt. So, let us reformulate the sentence from Niall Ferguson:

Never in the history of intergenerational transfers has one generation left such a mountain of wealth to another as the baby boomers are leaving to their grandchildren.

Of course, this is just as right as the original sentence. What is debt to some, is wealth to others. Niall Ferguson, as the author of The Ascent of Money, should know this. Robert Skidelsky, in his review of the book, writes: ‘Money, according to Ferguson, is not a thing but a relationship—above all, a relationship between creditor and debtor.’

If the government debt is a problem, it is because the distribution of government bonds is a problem or if the tax system is inadequate to provide enough funds for the repayment of debt because maybe some tax rates are too low. That is an intra-generational problem, and this should be the one of two key discussions when it comes to the long-term sustainability of the public debt, the other one being that of how to spend the money. The short-term sustainability of the public debt is no problem at all, as the low yields on the government bonds show us every day.

Debt and wealth are two sides of the same coin.

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