Inflation Economics, Government Deficits and Debt

Brad Delong has this wonderful lecture on inflation, government deficits and debt, which I do recommend everyone to have a read of its transcription. A very good introduction on the past and present public finances of the United States.

I would quote a few segments which I like most here.

First, investors are still pretty complacent about the current situation:

At the moment, it appears that investors all over the world do not agree with Doug [Elmendorf]. At the moment, it appears that investors think that the United States government is a sound operation–that in the long run we will balance our budget and that we will raise taxes in order to pay for our spending and also pay off our national debt. That is the reason that U.S. Treasury bond prices right now are so high and U.S. Treasury interest rates right now are so low.

Nevertheless, when you read Doug Elmendorf’s Long-Term Fiscal Outlook document and when you look at this picture, it is hard to understand why investors are so confident.

The key to keep everything afloat is confidence (possibly faith) in the country:

The answer is that the world’s bondholding investors believe in us. They believe that we will in the end elect representatives and senators who understand that winding up as Zimbabwe is not what you want to do.

But confidence can easily be lost, long before getting close to something like Zimbabwe

A problem is that even before you get anywhere near Zimbabwe–even when people just begin to fear that perhaps there is some chance the government might become one that resorts to hyperinflation–even the fear that there might someday be an unsound government with no plans to balance its budget can itself produce big financial crises and substantial episodes of depression economics. We saw this in Mexico 1995, in East Asia in 1997, in Argentina in 2001, and in Greece in 2010.

On Unsustainable Economic Situation (which includes the long-run US government budget situation):

first, they last for longer than economists believe is possible; second, when they end they end very, very quickly.

This last line is very chilling yet often time very true. Even Meredith Whitney is right about the near-apocalyptic public finances situations at muni level, this unsustainable situation may be sustained longer than she thinks, and when it end, it would end with at catastrophically fast speed.

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About Zarathustra

Zarathustra: Founder and Managing Editor of Also sprach Analyst. Once an analyst, now an investor and entrepreneur. Based in Hong Kong, but Londoner at heart.