More selling of newsletters and books than accurate analysis by Mr. Schiff. Surprise, surprise.
The United States Is Not Greece
By Stephen J. Rose and William T. Dickens
Peter Schiff in The Real Crash and others see the U.S. as having the same problems as Greece and that what we see now in Greece is just a prelude to much larger problems in the United States. This is a false analogy that misrepresents the effects of large deficits as well as the specific problems that Greece faces.
While large government deficits can lead to economic distress, the relationship is weak and complicated. Before the financial crisis began in 2008, most of the countries that now need bailouts in Europe had relatively small levels of government debt (e.g., Italy, Spain, and Ireland). In fact, it was the collapse of housing and other asset bubbles and the economic problems caused by the crisis that led to the debt problems in these countries today. So for the U.S. and others, it was the economic problems that caused rising debt and not the other way around.
Further, history shows many examples of high levels of debt not causing problems when circumstances are different (for example, in Japan today or the U.S. after World War II). A sign that debt problems are becoming economic problems occurs when the interest rates on a country’s debt rise. This indicates that investors are nervous about default and demand a premium to hold this debt. Of course, rising interest costs make the problems worse and put more pressure on the affected country.
Most countries that face rising interest costs on their debt will see the value of their currency decline. But, as a member of the European Monetary Union (EMU), Greece does not control its own currency (whose value of the euro by Germany and France). The United States has its own currency and its own monetary policy.
Not only does the U.S. have its own currency, its debt is denominated in dollars. Over the past three decades, many people have predicted that foreigners would stop buying our debt, or at least demand higher interest rates for the extra risk of currency devaluation. But this has not happened. Instead, when the world financial crisis exploded, investors flocked to US debt, driving rates down to very low levels. Repeatedly the market has disagreed with prognosticators of doom for the US.
Part of the reason for the strength of U.S. government debt is that our competitors are in worse shape than we are. If not the dollar, then what? The euro? The pound? The Chinese renminbi? (That would be difficult, because the Chinese restrict foreign investment.) Economic factors matter, and the size, stability, openness, and productivity of the US economy still make it the obvious currency of choice. The U.S. Gross Domestic Product (GDP) is 50 times as big as that of Greece, seven times the size of Great Britain’s, five times the size of Germany’s, and almost four times the size of Japan’s GDP.
The future of the U.S. economy must be assessed on its own merits, and the experience of Greece has little relevance to our situation. Greece is less like the U.S. than one of its 50 U.S. states. But U.S. states have more protection by being part of a long standing political union than Greece, which is loosely connected to the rest of Europe. When times are tough here, federal aid is very responsive to local business conditions, due to shared federal funding of unemployment compensation, Temporary Assistance to Needy Families, and Medicaid. In total, the federal government provides 20 percent of state and local budgets. In some states, total federal payments are 40 percent greater than the total federal taxes paid by the state’s residents. For Greece, aid is more modest and given grudgingly. Some Greeks are living, but it is much harder to start over in another country with another language than it is to move from one state to another.
While high deficits during economic downturns aren’t a major problem now, continuing high deficits are unsustainable in the long run. If Congress does not agree on some combination of spending cuts and revenue increases, deficits after the economy recovers will only fall to five to six percent of GDP rather than the two to three percent that is sustainable. This will have negative consequences on growth and will probably lead to a rising debt to GDP ratio and then larger deficits as interest payments on the debt grow. Ultimately, no country can continue to increase its debt faster than its ability to pay that debt and at some point credit markets will demand larger and larger premiums to lend that country money.
We are not Greece, but we could face unnecessary short and long term economic problems if our political leaders don’t come to sensible compromises.
Dr. Rose is a Research Professor at the Georgetown Center on Education and the Economy and an EconoSTATS Contributor. Dr. Dickens is University Distinguished Professor, Northeastern University .