Our Greatest Threat Is...Ourselves?

I'm larger than the US economy, more threatening than cyber attacks, most of you have me, and I'm not going anywhere. What am I?

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More than terrorists, cyber-attacks, or nuclear war, it’s our debt that keeps our Department of Defense (DoD) up at night. In his 2017 confirmation hearing of Secretary of Defense, General Mattis stated, “The greatest threat to our national safety is our own federal debt.” Seven years later, we’re paying $4 trillion per year on our debt, four times the entire DoD's budget in 2022!

To understand Mattis concern, it helps to think of debt by its practical name: pulling forward earnings. When we go into debt, we're pledging future income to pay for today's expenses. For this reason, government typically takes on debt for projects that'll benefit future generations, like infrastructure or fighting the Nazi's--after all, they're paying for it. So to be spending 125% beyond our means in peace time in unheard of. This secular trend in debt has sparked much research into this phenomenon.

In his paper in the Journal of Economic Perspectives, economist Pierre Yared characterizes debt policy from advanced economies like ours; “The government becomes like a person who always wants to start exercising or eating healthier tomorrow, but never wants to start today.” Burn. Perhaps even more concerning than the price tag is who we'll be paying.

Our debt represents a massive wealth transfer. In 2006, the U.S. owed only $2 trillion abroad; today, that figure has grown to $8 trillion, with major creditors like Japan and China. Instead of supporting U.S. institutions, about a quarter of our total debt payments now flow to foreign nations. This outflow removes a significant chunk of money from our economy, creating the potential for deflation. To make matters worse, countries like China and Japan leverage our debt to fuel their own growth. By driving demand for U.S. Treasuries, they keep the dollar strong against the yuan and yen, bolstering their manufacturing sectors while relying on the U.S. as a key consumer market.

Don’t be stupid, we have rules. They’re just terrible, and no one follows them. Tons of countries declare things like, “We won’t spend $34 trillion!” or “Revenue from this tax will fund this project!” These fiscal rules are the equivalent of saying, “I’m running a marathon next year!”—while refusing to make a training plan. Lofty mandates erode compliance because they’re either completely arbitrary or so rigid they break under pressure.

When a fractured Europe came together as the EU under the Maastricht Treaty, they agreed to a fiscal framework that declared a 3% national debt limit for all member countries. Two random assistants determined that. They later confessed to a journalist that there was no logical reason they chose 3%. Even rational rules get ignored. The US raised our debt ceiling over 50 times since 1960. Failing to plan is planning to fail.

A better fiscal framework is proposed by Nobel Prize-winning economist Joseph Stiglitz, Orszag, and Rubin. Their paper provides a five-point plan that institutionalizes better budgeting. Three things drive our budget; inequality, demography, and productivity. Inequality determine our welfare payments, demography our entitlement programs and productivity our income via taxes. Their five point plan ties our budget to its underlying drivers in a way that fights inequality, doesn't overspend on entitlements, and boosts productivity.

The five recommendations are:

1. Index Social Security to life expectancy--Social Security (SS) is an annuity that pays recipients for the duration of their life. Since life expectancy is going up and revenue as a percent of GDP for SS is going down, we need reform. A modest approach is to index SS to life expectancy. Anytime we can index government spending to the real world, we should jump at the opportunity. Indexing SS to life expectancy would mean higher expenses would be offset via a reduction in benefits and an increase in the amount of income subject to SS tax. Further reform recommends a more progressive distribution of benefits since lower income people tend to have shorter life spans. Prioritizing people who need the payments is humane and will lower inequality which might save us other welfare expenses.

2. Countercyclical investment spending--Currently, our government invests pro-cyclically, meaning the peaks and troughs of business cycles are exacerbated by government spending. Stiglitz et al recommend making investment counter-cyclical to help ease the pain of business cycles. By providing investment in downturns, we can limit unemployment and stoke consumption that’ll support local businesses. Investment is advised to be spent only on pre-existing programs that show promise.

3. Introduce competitive pricing in healthcare private markets--About 1/3 of Medicare patients use private companies to manage their payments. Introducing competitive pricing in this private market will bring down the price we pay for Medicare while also providing an incentive for these companies to offer better care.

4. Longer duration debt instruments--Allowing bonds that have a 30-year maturity can mitigate fallout from interest rate volatility while locking in the advantages of low rates. Stiglitz et al wrote this in 2021, two years before interest rates spiked.

5. Provide discretion to address uncertainty--The future is uncertain. Let elected officials do their job.

   
   

These recommendations are the roadmap to a better budget, but they miss the plot. The root cause of our federal debt is political polarization. Yared comes to this conclusion only after considering every other logical explanation. Outside of war, there are three instances in which the optimal policy choice is to increase government debt.

1. Tax Smoothing--Tax smoothing is betting that future generations will be better positioned to pay, so we kick the can down the road to them. 2007 and COVID are good examples of when we needed money but couldn't justify raising taxes, so we took on debt. Outside of those two examples, tax smoothing doesn't hold. Future generations are in a relatively worse financial position because of the need for them to fund the retirement of boomers.

2. Safe Asset Provision--Safe asset provision involves public debt relaxing tight market conditions by supplying more Treasuries, which can lower rates and add liquidity when needed. However, this concept doesn't hold much water as money has been cheap for an extended period, making this strategy less relevant.

3. Dynamic Inefficiency--If capital investment drives consumption, we are considered dynamically efficient. However, if investments turn out to be more of a money pit than a spout, the government can intervene by issuing debt to help mitigate negative ROI. Since the US has been dynamically efficient since 1960, the need for government intervention through debt issuance has been largely unnecessary.

   
   

None match up. Yared concludes, “the absence of a clear normative reason for the trend in government debt across advanced economies suggests that political forces are behind this pattern.” Political polarization puts short term thinking into overdrive which results in more and more debt. Our attitude towards each other created a monster that’s now the greatest threat to our national security. With this understanding, my policy recommendation changes.

Elect Denzel Washington for President. Hear me out. As Coach Boone of the newly integrated TC Williams Titans football team, Denzel united a racially divided team. During pre-season camp at dawn, Denzel ran them down to the battlefield of Gettysburg. He cautioned them, “If we don’t come together right now, on this hallowed ground, we too will be destroyed—just like they were.” For the remainder of camp, players were made to room with a teammate from a different race and learn about their family, interests, and passions. When the team bus dropped the Titans back at school, parents were stunned to find their white sons singing and dancing with their black teammates.

One day, we will remove money from politics, have a pool of better applicants for office, and reduce toxicity. Today’s not that day. What we can do today is change our attitude. If Remember the Titans taught me anything, it’s that attitude reflects leadership. By electing leaders who embody unity, we can begin to address the deep-seated issues that divide us. Our current political climate may be fraught with challenges, but with the right leadership, we can create a country that's not its own worst enemy.