03/13/10 Stockholm, Sweden – The OMB’s 2011 budget showed that the US debt-to-GDP ratio will continue to rise over next 10 years until 2020, where the projection ends and when US debt will equal 77.2 percent of GDP.
Inflation is one strategy that could be used in an attempt to lessen that debt burden. By putting more dollars into circulation, and lessening the value of each, the feds could try to pay down the same nominal debt that would then be smaller in real, inflation-adjusted terms. Â
Unsurprisingly, it is not a practice that pans out well in reality…
“‘Many countries have tried this and they’ve all failed,’ said Mark Zandi, chief economist at Moody’s Economy.com.
“It’s true that inflation could reduce a small portion of U.S. debt. The International Monetary Fund (IMF) estimates that in advanced economies less than a quarter of the anticipated growth in the debt-to-GDP ratio would be reduced by inflation.
“But the mother lode of the country’s looming debt burden would remain and the negative effects of inflation could create a whole new set of problems.”
The new problems that crop up include:
* Inflation-indexed government spending. Many government obligations, like Social Security, are tied to inflation so those costs won’t go down.
* Future debt issuance. Inflation would make it more costly for the US to issue debt in the future because buyers will demand higher interest rates.
* Unintended consequences. Additional costs to society will develop such as increased economic stress for the poor. The poor tend to have salaries that do not increase with inflation. They also tend to require government aid that needs to match the rate of inflation.
For more details visit CNNMoney.com’s coverage of why the US can’t inflate its way out of debt.
Best,
Rocky Vega,
The Daily Reckoning
Rocky Vega
Rocky Vega is publisher of The Daily Reckoning. Previously, he was founding publisher of UrbanTurf and RFID Update, which he operated from Brazil, Chile, and Puerto Rico, and associate publisher of FierceFinance. He specialized in direct marketing at MBI, facilitated MIT Sloan School of Management programs, and has been featured on CBS. Vega graduated with honors from Harvard University, where he was on the board of Let’s Go Publications and directed business programs involving McKinsey, Goldman Sachs, and Harvard Business School faculty. He is also enrolled at the Stockholm School of Economics.
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Yes, there are expense increases tied to the rate of inflation. What they really need to do is create inflation and then “massage” the numbers to show inflation being about half of what it really is. Does anyone know what hedonic means?
The CBO is operating from a false premise, the premise that the CPI tracks inflation. It doesn’t. We all know this. The government will inflate its way out of the debt, and it will work, but the side effects msy cause a civil war.
The new problems that crop up include:
* Inflation-indexed government spending. Many government obligations, like Social Security, are tied to inflation so those costs won’t go down.
* Unintended consequences. Additional costs to society will develop such as increased economic stress for the poor. The poor tend to have salaries that do not increase with inflation. They also tend to require government aid that needs to match the rate of inflation.
Points 1 and the last portion of point 3 can be solved by understating inflation, something the US government has been getting better at since the early 80s