Is Government Debt Too High and How Much Should We Care?

0:28The news doesn't stop on the weekends. We put the past week's events into context, examining what happened in the markets and the world. Then on Sundays, we speak with journalists, columnists, and key political figures to prepare you for the week ahead. Join us as soon as you wake up and bring us with you wherever your weekend plans take you. Watch us on Bloomberg Television, listen on Bloomberg Radio, stream the show live on the Bloomberg Business app, or listen to the podcast. That's Bloomberg this weekend, Saturdays and Sundays starting at 7 a.m. Eastern on February 28th. Make us part of your weekend routine on Bloomberg Television, Radio, and wherever you get your podcasts.

1:10Bloomberg Audio Studios. Podcasts. Radio. News.

1:24I'm Stephanie Flanders, Head of Government and Economics at Bloomberg, and this is Trumponomics, the podcast that looks at the economic world of Donald Trump, how he's already shaped the global economy and what on earth is going to happen next. This week, we're zeroing in on government debt. Why is it so high? And why do investors not seem to worry about it in the case of the US? This Monday, October 13th, I had a conversation about that question as part of a conference we hosted at Bloomberg for professional economists in London. The panel included two economists who've both been at the centre of economic policymaking in the US and the UK over the years.

2:04Jason Furman, now professor at Harvard University, but previously chairman of the Council of Economic Advisers under President Barack Obama. And Rupert Harrison, now a senior advisor at PIMCO, but not so long ago a senior advisor to the former UK Chancellor George Osborne in the years after the global financial crisis. He was also chief economist for the UK government. Now, the level of public debt, government debt, has surged in the past 20 years, doubled relative to the size of the economy in many industrial countries. And for a long time, that didn't seem to matter much because interest rates were so low.

2:38In fact, servicing that debt, paying the interest, got cheaper even as the amount of debt took off. We've talked about it before, but that has changed lately, especially in the UK, where the burden of paying more and more in debt interest is now blowing a big hole in the Labour government's spending ambitions. In the US, too, Uncle Sam's interest costs have more than trebled in the last three years to well over$1 trillion a year. That bill's heading even higher in the next few years, partly thanks to the extra debt associated with the so-called Big Beautiful Bill. Yet, despite this, US Treasury bonds, US government IOUs, remain the anchor of the global financial system, the risk-free asset by which everything else is judged.

3:25The debt trajectory is so unsustainable, and America's place in the global economy so in flux, you have to wonder when bond investors might start to take a different view of US Treasuries and start selling them. But there's not much sign of that happening yet. So I was fascinated to hear how these two seasoned insiders from both sides of the Atlantic were thinking about the risks and potential for accidents. I started by asking Jason Furman the central question of our panel. Is government debt now too high, and how much should we care?

4:03Yes, and I'm not sure. So let me go through those. I first started working on fiscal policy in the 1990s in the Clinton administration. At the time, we were on track to eliminate the debt within the decade. We had balanced the budget multiple years in a row. and the 10-year treasury was at 6%. Now we have debt 100 % to GDP ratio. We have a deficit above 6 % of GDP as far as the eyes can see. We're in an enormous boom in terms of investment demand for AI data centers. We've created a lot of uncertainty about lending money to the United States, and the 10-year treasury is around 4%. And so what does all of that tell me?

4:53It tells me that there had been a lot more capacity to borrow than I had ever appreciated back when I first started working on this topic more than 25 years ago. And frankly, then most of us possibly could have thought. Now, we have more capacity than we realized. We also have more debt than we realized. And so the gap between where we are and where we can be is still uncomfortable. I have no doubt that if the United States or the UK or France or Belgium or Japan continue on the fiscal trajectories that they're on, at some point, it will become extremely expensive for them to borrow. You'll get the type of cycle of higher debt, higher interest rates, higher debt, higher interest rates, and it will all be painful to deal with.

5:43but I'm not sure when that date is. I'm not sure if I could responsibly tell a policymaker that this should be the number one on your agenda. But at the very least, my view is no one should be making the problem worse. They should be looking for opportunities to make it better. And at least in the United States, there's some basically accounting forcing events around the solvency of social security and Medicare, which come up in the next decade that I think are a much better way to deal with it than waiting for the market to force your hand when the options will be less good. Just for those who don't get into the details of this, just unpack that a little bit, the forcing event around Medicare and Social Security.

6:27Yeah, Social Security is our old age and survivors and disability pension system. Its trust fund is exhausted in 2033. Medicare is health for the elderly. That trust fund is exhausted, I believe, in 2034. And so Congress has to pass a law raising taxes, cutting benefits, or doing some sort of general revenue transfer gimmick, which would be the worst option there. You want to deal with these things in advance, but it's very often that you almost come right up against the date and deal with it. And these two problems total about 2 % of GDP, and our fiscal gap is probably about 3 % of GDP. So if you dealt with them, and that's a very big if, that gets you a decent fraction of the way to the adjustment you would need to put the debt on a sustainable course.

7:20Rupert, how are you thinking about public debt? So I think the question, is it too high? I think when you're thinking about public finance, you can't have a test of, like, is it working now, or even is it going to work next year or the year after because you have to be thinking about vulnerability and you have to be thinking about much longer time horizons because you can only make an impact on public debt over decade type horizons. So you have to think like, is this creating vulnerabilities for over the next decade? I was just going to make three opening points. One is like, it's clearly, it will probably at some point happen for the US, but it's not happening now.

7:51As Jason just said, the US 10 year is at 4%. And the market is not signaling that US borrowing and debt is unsustainable, even though if you look at a chart of deficits and debt in an economics textbook, it clearly is unsustainable. But the market's not pricing that yet. The US definitely still has a different environment. The PIMCO house view is that the dollar is going to remain the global reserve asset for at least the next five years. Treasuries will remain the global safe asset for at least the next five years. There are things happening around the edges. So there are global central banks diversifying reserves into gold.

8:25So gold is now over$4 ,000. There are things interesting things happening around the edge in cryptocurrencies and digital currencies, both crypto and central bank digital currencies that could in the long term challenge the role of the dollar. But actually, interestingly, in the short term, maybe the main effect will be if we get a huge explosion of stable coins that actually results in an increase in demand for dollars. So for now, the US is in a different situation. And maybe Jason's right that domestic politics is the forcing issue in the US rather than market pressure. It's clearly not the case sitting here in the UK or in Europe, that high debt clearly creates vulnerabilities.

9:03You can see that markets are sensitive to fiscal news. And so you see that in countries like the UK. We saw the Liz Truss episode. Obviously, there were some idiosyncratic factors that exacerbated that. But we've also seen market moves more recently, where clearly there's a high sensitivity. So the day that Rachel Reeves was seen crying in the House of Commons, markets reacted quite significantly because they thought she might be replaced as chancellor by someone who would have a looser approach to the fiscal rules, that tells you there's a sensitivity in markets. It tells you that you're vulnerable.

9:33And that's what high debt does. It makes you vulnerable. France is a similar situation where you clearly have some sensitivity in markets to political dysfunction and a lack of an obvious way out of prolonged deficits in France, counterbalanced by market fears about, well, what is the ECB going to do here? And that's what's limiting it. So clearly, for non-US countries, that vulnerability is there. And that's what high debt has done. It creates vulnerabilities. And I guess the final point, we are now in a policy world that is the precise mirror of the 2010s. So in the 2010s, the central banks had run out of ammunition because interest rates were on the floor, and the only game in town was governments.

10:10So enormous dependence on fiscal policy. So when the pandemic hits, for example, fiscal policy is the only game in town. Similarly, in Europe, with the energy crisis, fiscal policy is the only game in town. The next time we have recessions or crises, fiscal policy is going to be much more constrained because markets are much more sensitive, at least in the countries that are now pushing up against the limits. And the opposite is that it's now the central banks who have all the ammunition. And so that from a markets point of view, that's very important. As Jason said, if you were sort of stepping back, you said debt's gone up a lot in the last 15, 20 years.

10:43The cost of financing that debt and indeed that the bond yields have not gone up until recently, but it's been a pretty painful jump, especially in the case of the UK. I just wonder, when you look at countries, sometimes you think they're vulnerable because the long-term trajectory is clearly unsustainable in the case of the US, for example. In other cases, I think in Europe more often, and I think now particularly in the case of the UK, it's about the high and increasing amount of financing costs that's having to come out of the Treasurer. A lot of that has to do with the structure of the debt.

11:16And I just wonder whether it's made you think in retrospect. In 2010, one of the things that made the UK look quite resilient in these kind of cases was it had a very high maturity of debt. It's now relatively low, certainly much lower than it used to be, and has a very high proportion of index link guilt, which in retrospect has left it very vulnerable to the increase in inflation. So I just sort of as a matter of debt management, are we now looking back and thinking that was not a very conservative approach? I think it's a really interesting question, because it's actually not that the maturity profile of the debt has got shorter.

11:48It's that QE has massively increased the short-term sensitivity of the broader public sector to short-term rates. I wasn't in government during the kind of initial QE, but certainly after 2010. The effective shortening of the UK's maturity profile through QE and then the sensitivity to bank reserves is something that has sort of totally missed, went through the net, I think, of the policy world. I think economists really missed a trick here that we are actually throwing away one of the UK's main assets, which is this low maturity profile. I think that has been a real shame. I think it was referred to as idiosyncratic factors.

12:26Everyone has said in different ways, including you, that the US is in a distinctive position and it isn't being forced, at least by the international markets, to take the unsustainability of its debt seriously. I guess there were some challenges to that earlier in the year when we saw the sort of safe haven status of US assets and treasuries seemingly being challenged a bit and the dollar falling in response to sort of trade uncertainty and yields at certain times going up, although it is striking that they've gone down since the start of the year overall. How firm are you in your view that all the things that the president's doing are not going to fundamentally in the next few years change the way that people think about the US as the ultimate sort of asset in the system, the fixed point?

13:12One probably should never be particularly firm about anything in economics. I don't think I'd make an exception for predicting Donald Trump. But yeah, I mean, there's a lot to be nervous about. There's a lot of uncertainty. Certainly earlier this year, it looked that way. And I think we're highlighting an important point, which is a lot of this is not just debt to GDP ratios. For each percentage point that U.S. debt goes up as a share of GDP, interest rates are two and a half basis points higher. And just use that as a rule of thumb. And over the next decade, maybe the debt will rise 20 percentage points.

13:48So interest rates will rise half a percentage point. And, you know, that's what it is. What What matters, though, enormously are the types of institutions that we're talking about. Liz Truss's mini-budget, I believe, was a percent and a half of GDP. Presumably everyone in the room knows the number better than I do. But it wasn't that you could put that number into an equation and predict what would happen to gilts. You had to put the full set of institutional changes, ignoring the OBR, talking about the independence of the Bank of England, looking like she might do more, you know, et cetera, et cetera, add to the list.

14:23That looked roughly like what was going on in the United States earlier this year, but now central bank independence seems just a little bit safer. But would I guarantee it? No. I'm much more worried about it on a five - or six-year timescale than I am on a five-month to six-month timescale. So maybe Rupert was right when he said he had a call for the next five years for the dollar. And I don't think he went beyond that. Rupert has also pointed, I think you were agreeing with people, including Treasury Secretary Scott Besant, that the stable coin could in itself provide some underpinning for treasuries.

14:58I think it's just an interesting short-term possibility. Certainly the Treasury appeared to think that it can. Jason, do you think that's a real thing? I mean, if you look at all the different ways the dollar is used, in most of them it's dominant. But the one place where it's massively, overwhelmingly dominant is stablecoins, where it's, I don't know, 99, 98 percent of the stablecoins. That's higher than it is for any other purpose. And so I think that's interesting that the marginal thing, the new thing that's added to the world in addition to reserves and settlement and pricing and all that stuff is even more dollar dominant than the stuff that came before it.

15:36So at the margin, yeah, I think that is possibly a strength. Now, there's a big issue of are we regulating stable coins enough? Are people going to have confidence in them? Will there be a crisis in them? Do they get bailed out? How much are they used for criminal activity, et cetera, et cetera? So I'm not sure that the genius act we passed here to regulate them gets all of that right. But yeah, the margin is more dominant than the dollar has ever been in any sphere. I know there's lots of people in this world who are lobbying the UK as we speak to be more open to developing that market. Is that a get out of jail free card for Rachel Reeves if she pushes ahead with a UK stable coin?

16:16Well, like Jason just said at the moment, most of the world wants to put money into dollar stable coins. I'm not sure there is this huge untapped market for sterling stablecoins. But maybe. One of the frustrating things is we don't know, because it's quite striking that the UK, when it comes to digital currency, is absolutely stuck in the middle, because you've got the US going all in with crypto and stablecoins with the Genius Act. You've got the ECB still pursuing this concept of a digital euro, largely for kind of geopolitical reasons of wanting to try and help create this alternative to the dollar system, which is quite deeply embedded in European institutions.

16:48And the UK is doing neither. and the governor of the Bank of England has sort of made some slightly less lukewarm comments about stable coins, but with so many caveats that, you know, I like stable coins, but only if we regulate them to the point that no one's going to use them, was I think my summary of his article. So the UK is basically not getting involved in either of these things and maybe in 10, 15 years, we'll look back and either with regret or with huge relief about that. I don't know which it will be. Jason, you talked about when there is pressure, whenever that pressure is seen, potentially around Medicare and Social Security, you talked in terms of tax revenues.

17:24If you were just looking from afar at the US and certainly at the political dynamics now, you would conclude that taxes were never going to go up again in the US. So how is that going to shift? Or am I right? Do you think there are a few taxes we might be able to increase? Tariffs, I guess. Since the late 1970s, the two parties have agreed that taxes should go down for the bottom 99 % percent of Americans and have disagreed on the top one percent. And so you get this toggle in tax rates on the top one percent and you get this ratchet of each president lowers them on the bottom 99 percent. That tax phobia, in my view, means the United States has among the lowest revenue as a share of GDP.

18:09So I think here revenue needs to play a big part of the solution. Now, interestingly, Donald Trump did just break that decades and decades of constraint by raising taxes. He did it without Congress. He did it through tariffs. He argues that it's paid for by foreign countries, not by Americans. And, you know, I happen to think that's a terribly designed tax. It's a sort of very, very poor consumption plus capital tax with all sorts of international repercussions as well. But there's a part of me that admires that that difficult and painful a thing was actually done. I just wish it was something else difficult.

18:52And then the last thing I should say, though, is different countries are a different place. I mean, I'm sort of flabbergasted that there's any, I mean, I shouldn't be because it's France, but, you know, there's any attention to raising as part of the fiscal solution in France. I mean, the United States needs to move a tiny fraction of the way towards France, and France should be thinking about moving a tiny fraction or maybe more. Just to spell that, you mean maybe having more constraints on spending? Yes, more constraints on spending. I mean, this was an important part of the debate in France.

19:23It just seems to me you should be sitting there worried about productivity growth, worried that revenue is too high, worried about the reasons your country is unattractive to be in. And, you know, I realized that, you know, the prime minister, the president basically rejected the idea. But it's sort of amazing that anyone would be thinking that's part of the solution in France. But conversely, in the United States, we need to figure out how to tax, including at least some of the bottom 99 % of Americans. And just to draw a link with our previous discussion we had at this conference, the US has been able to unilaterally raise tariffs.

20:01And by and large, the major trading partners, certainly Europe, have not retaliated. And they've sort of accepted these asymmetric deals. I mean, I guess the flip side of that is if you want the US to lower those tariffs, they're going to have to do it unilaterally. And that's even less likely given the revenues that they're raising. Is that right? Yeah. I mean, there's two things. One is the Supreme Court is going to be hearing the case. and they may decide that a bunch of these tariffs are illegal. Now, there's other legal courses that the Trump administration can and has said it will do, but it's hard to get up to quite as much as the current tariff rate through those.

20:36So there's a legal avenue. They do remain quite unpopular with people. And the next president, especially if they're from a different party, might find it quite attractive that on their first day in office, they could sign an executive order that would basically lower prices for American families. So that's a little bit of an open question. I do think the more dominant thing will be if they're in effect for three straight years, people will really believe them. The last thing, though, in terms of the geopolitical dynamics, I think Donald Trump credibly had a threat, for example, with the European Union, that the United States is going to set tariffs at whatever the European Union does, plus 15.

21:14And so if the European Union had retaliated with 15 % tariffs, we would have gone to 30. If they'd gone to 30, we would have gone to 45. I don't know that any other president could carry that threat out in a credible way. And so the United States has established that it could have unilateral tariffs for three years while Donald Trump isn't president. I don't think it's established it could have unilateral tariffs without retaliation forever. the dynamic to me feels quite different with almost anyone else in the White House. So to your point, they will still need the money. I mean, they have managed to actually increase revenues and that would be another hole in the budget.

21:52I think we've actually run out of time. But I think we've had a pretty wide discussion. Jason, thank you very much for joining us from the US. Rupert, thanks again.

22:18Thanks for listening to Trumponomics from Bloomberg. It was hosted by me, Stephanie Flanders, and I was in conversation with Harvard professor Jason Furman and PIMCO advisor Rupert Harrison. Trumponomics was produced by Samasadi and Moses Andam with help from Amy Keene. Special thanks to the Society for Professional Economists. Sound design by Blake Maples and Kelly Gary and Sage Bowman is Bloomberg's head of podcasts. To help others find it, please rate it and review it highly wherever you listen to podcasts.