Joseph Stiglitz, the 2001 Nobel Prize winner in Economics and a professor at Columbia University, offers a very controversial viewpoint in a recent interview with Henry Blodget: the U.S. government needs to borrow even more money for additional stimulus, and it needs to do so now. Warning against "deficit fetishism" that he sees sweeping through public sentiment, Stiglitz argues that additional spending could actually pay for itself over time if done prudently, and that concerns over deficits and debt levels are simply a new manifestation of the short-sightedness that led to our current problems.
The rationale Stiglitz presents leaves much to be desired, however. His main point seems to be that, at current levels and interest rates, the U.S. has no problem paying its debts -- which is true. But, in a stunningly quick reversal for someone who decried the short-term nature of financial markets in the same interview, Stiglitz breezily ignores recognizing projections that total deficits in the coming decade will amount to $9 trillion, nearly doubling the current national debt. This "minor" oversight is accomplished by arguing that targeted spending in education, technology and infrastructure will pay for itself if the government allocates the money correctly; thus, in the long-run, spending that returns about 6% annually will actually lower the total debt.Besides the challenge of getting politicians to actually spend money on worthwhile, non-pork barrel projects, earning returns of nearly 6% on a sum of money befitting stimulus-sized scale is no easy feat. For example, a scan of publicly listed companies with enterprise values (market capitalization less cash on hand plus debt) of more than $10 billion revealed there were 445 such firms, and that half had a return on assets of less than 4% (only 193 of the 445 earned a ROA in excess of 5%). A real stimulus project as proposed by Stiglitz would, however, suffer from more constraints: it would be larger than the companies being studied, any payoff would likely be deferred by several years at a minimum, and it would be subject to the political process. The net result is that the 6% return target would be challenging to achieve, to say the least.
Another odd comparison by Stiglitz is the equating of government borrowing with corporate borrowing, in that investors (supposedly) encourage companies to raise debt to expand their balance sheet, yet those same people will decry the government borrowing more even if it creates investment. As long as assets are rising as fast as liabilities, Stiglitz says, there is no cause for concern. But this is simply wrong; the method of financing matters greatly. Using the same logic, it makes sense to acquire as much real estate as possible with 100% loan-to-value mortgages, because assets will increase as fast as liabilities. Of course, leveraging an asset up as much as possible doesn't make sense in reality; building equity is crucial, and having the government continue to borrow money at a rate well in excess of GDP growth will eventually lead to ruin.
Lastly, Stiglitz is confident that politicians will eventually cut back on deficits when it's more appropriate to moderate government spending, because taxpayers will be concerned. But, as is being seen in Greece, it isn't the taxpayers who are bringing about the reckoning, it's the bond market. Government borrowing does not occur in a vacuum, and precedent makes it more likely that Clinton Administration adviser James Carville's words about the bond market holding all the power will once again ring true. Interest rates on 10-year Treasuries have risen from 2.777 percent to 3.80 percent in the last year, and if there's one factor that will give pause to more government debt issuance, it's a continued surge in borrowing costs.
Were another stimulus package to be hastily approved and delivered, it would of course boost GDP numbers near-term, but with a longer-term cost that will remain hidden for years; at the margin, each additional dollar of borrowing required makes it more likely the U.S. will face a debt crisis in the future. Where the breaking point exists for Treasuries, such that our government's creditors will no longer extend additional funding, is unknown, and we should try to keep it that way. Those who would criticize financial markets for having a short-term mindset and employing excess leverage, then suggest that government focus on the here-and-now and leverage up, have an incoherent and/or incomplete world view. Aggressively pushing borrowing capacity to the limit is foolish for individuals, it is foolish for companies, and it is foolish for countries.
James Cullen edits and writes at CollegeAnalysts.com.
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