Grappling with the Paradox of Theft

Why are rich countries broke? In Investors Business Daily (and below) I explain “The Paradox of Theft” —

As tourists hurry past the National Debt clock near Times Square — which flashes quickly changing numbers topping $19 trillion — many wonder, How can a rich nation like the U.S. owe so much money? I call it the Paradox of Theft. Typically, as a family grows wealthier, it is less likely to fall into deep debt, default and bankruptcy. A family in the top 5 percent of income typically owes half as much as a typical family in the bottom 95 percent (the ratio of their debt to income). Now we have all heard of exceptions, from Ulysses S. Grant (whose face appears on the fifty-dollar bill) to the bankrupt singers Meat Loaf and 50 Cent (whose faces do not appear on any currency). On average affluent people sleep more soundly, and happiness surveys show that money does buy some peace of mind.

So what’s the Paradox of Theft? Research foril_570xN.436025867_hu71 my just-released book The Price of Prosperity shows that the opposite is often true for the finances of individual countries—wealthier nations may pile up proportionately more debt than poorer nations! Amid the onslaught of the Great Recession in 2010, developing countries like Mexico and Russia had smaller debt burdens than the United States, Japan, and the Eurozone. While the United States stacked up debt equal to about 75 percent of its annual output, Russia owed only 10 percent. When the US annual budget deficit soared to over 10 percent of GDP, Russia’s deficit was less than 4 percent, Mexico’s was less than 3 percent, and Indonesia boasted a balanced budget.

And, don’t forget, government finances can fuel global aggression. Why do you think in February 2014 Vladimir Putin could simultaneously (1) strut bare-chested through Crimea; (2) scoff at UN condemnations; and (3) goad vicious Russian separatists in Ukraine but then sit back to watch Russian bond yields rise just 0.55 points over the next two months, from 4.65 to 5.2 percent? Because Russia—a far less wealthy nation than the United States—did not borrow as much from foreigners as the United States and its “rich” allies. On the eve of the Great Recession in 2008, when the US debt ratio was 39 percent, Mexico’s was under 17 percent, and Russia’s was about 10 percent.

Now, I am not arguing that it is better to live in a poor country than in a rich country, or that poor governments are smarter or more honest. They are not and many do stumble into debt crises. Still, we must grapple with the Paradox of Theft, and ask, why do richer nations often pile up more debt? Why is this the logic of rich nations? Three reasons emerge.

First, because rich nations can borrow more. Banks and bond buyers are more comfortable lending to rich nations. Rich nations tend to pay back their loans. Alexander Hamilton – hero of the U.S. Treasury and the Tony Awards — was right: by demonstrating a history of paying back debts, a nation builds a stronger reputation, which then allows it to take on more debt. A rich nation also has real assets to back up loans: trains, planes, tollbooth revenues, railroads, etc. And since the US dollar is still considered the world’s prime currency of exchange, bankers willingly accept promissory notes denominated in dollars. In fact, the US government makes money every time it simply prints a piece of paper with “$100” engraved on it (a practice known as seignorage). People around the world give the US Mint one hundred dollars of value in exchange for a slim six inch piece of paper that costs just about nothing. Weaker countries such as Mongolia do not issue much debt in its native currency, the tugrik, because few lenders will accept the tugrik as collateral. Instead, Mongolia promises to pay back its debts in US dollars.

Second, rich nations begin to pile up more debt because their fertility rates fall. They have fewer babies, but more senior citizens living longer. As the ratio of retirees to workers increases, they must access more goods without actually producing those goods. In an extreme example, Japan’s debt-to-GDP ratio has soared from about 50 percent in 1980 to 245 percent today. If the fertility rate falls below the replacement rate, it is almost impossible to pay back accumulating debt.

Third, as nations grow richer, the bonds that tie future generations frequently begin to fray. Who is burgled in the paradox of theft? Young people. Consider two Americans: (1) a baby boomer turning sixty-five this year and (2) an infant just riding home from the maternity ward at the hospital. The boomer will rake in $327,000 more in lifetime Social Security and Medicare benefits than he paid in federal taxes. The newborn better brace herself. She will pay $421,000 more in federal taxes than she will ever receive in future benefits. To fund government programs, her lifetime tax will need to be nudged up to about sixty cents on every dollar earned. And those earned dollars will be harder to come by.

One of my daughters recently asked me to buy our family an electric scooter. I wasn’t sure what she meant.

“You know,” she explained, “the scooters you see people ride at Costco.”

I didn’t like the idea. “That’s ridiculous. First of all, we all need more exercise. Second, electric scooters are expensive. I’m not paying for it. Forget it.”

She had a retort ready. “Don’t worry, Dad. I saw it on TV. Medicare will pay for it!”

The television advertisement does not, of course, explain who will pay for Medicare or the rest of the programs spurring the debt clock into overdrive.

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