Saturday, June 5, 2010

U.S. Debt Approaches the Reinhart-Rogoff Line

Research by economists Carmen Reinhart and Kenneth Rogoff suggests that once a developed nation’s debt crosses 90% of annual economic output that annual economic growth tends to be about one percentage point lower.

Putting aside the fact that Rogoff and Reinhart are talking about a massive aggregated statistic, annual economic output, which is in reality impossible to calculate, there is something intuitively appealing about the Reinhart-Rogoff Line.

If a nation has debt equal to or greater than 90% of annual economic growth, it is a clear signal that the government is playing a large role in that nation's economy. This is always about moving assets away from the productive private sector and putting them in the bureaucratic sector, which is always a negative to annual economic output.

If such a trend continues, it will mean a serious decline in output. By the time, a country has debt equal to 90% of annual economic output, you know the impact is going to start to really hurt. Prior to crossing the Reinhart-Rogoff Line, government debt will still be suffocating to the economy but it may come in the form of projects not started and minor inconveniences, when you cross the Reinhart-Rogoff Line the debt, at some point, is going to start having a very noticeable impact on the standard of living.

Put another way, a Tea Party movement doesn't get started and gain momentum when a nation's debt is far from crossing the Reinhart-Rogoff Line.

Where does the U.S. government debt stand in relation to the 90% Reinhart-Rogoff Line? 88% The U.S. will probably cross the line some time this year. As of Friday, total national debt – the sum of all outstanding IOUs issued by the U.S. Treasury – stood at just over $13 trillion, or almost 90% of our projected GDP for 2010.

If a double-dip recession brings in GDP below projections, the U.S. debt will have crossed the Reinhart-Rogoff Line and be far into danger territory.

(ViaWSJ)

3 comments:

  1. Are you saying that the economy is especially sensitive to that last 2%? Why? Which of the qualitative statements above about the 90% line can't be said for the 88% line?

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  2. Crossing the line is inevitable, yes, but that's not the primary issue.

    The primary issue is that if Americans do nothing, America does not stand a chance to recover from its debt burden. However if Americans do take the stand to coordinate the stop to the rise in debt and followed through on it, America may be able to recover.

    As it is now, the only "bipartisan" deficit reduction plans being discussed inside Washington include tax hikes in one form or another. Those may help the deficit but they'll hurt the economy. Americans need better solutions.

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  3. To put it in simple terms that everyone can understand: "Get ready America! The shi+ is just an inch away from hitting the fast-whirling blades of the electric ceiling fan and covering everything and everyone with an undesirable mess"

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