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Debt hysteria

At least the debate on cutting public spending has started.  God knows why the Tories took so long to get it going, congratulations to Darling for breaking with Brown’s ludicrous strategy of pretending nothing is wrong.  But some commentators are hysterical – for instance Paul Staines has got it all a bit out of proportion.

I prefer nobel laureate Paul Krugman’s more measured (and better informed) view.

But let’s take a slightly later start date: in 1950, federal debt in the hands of the public was 80 percent of GDP, which is in the ballpark of what we’re looking at for 2019. By 1960 it was down to 46 percent — and I haven’t heard that anyone considered America a debt-crippled nation when JFK took office.

So how was that possible? Was it through drastic cuts in defense spending? On the contrary: we’re talking about the height of the Cold War (with a hot war in Korea along the way), and federal spending actually rose as a share of GDP. So yes, it wasn’t entitlement programs, but it wasn’t exactly discretionary either.

How, then, did America pay down its debt? Actually, it didn’t: federal debt rose from $219 billion in 1950 to $237 billion in 1960. But the economy grew, so the ratio of debt to GDP fell, and everything worked out fiscally.

Which brings me to a question a number of people have raised: maybe we can pay the interest, but what about repaying the principal? Jim gets scary numbers about the debt burden by assuming that we’ll have to pay off the debt in 10 years. But why would we have to do that? Again, the lesson of the 1950s — or, if you like, the lesson of Belgium and Italy, which brought their debt-GDP ratios down from early 90s levels — is that you need to stabilize debt, not pay it off; economic growth will do the rest. In fact, I’d argue, all you really need to do is stabilize debt in real terms.

So let’s keep it in proportion.  As David Smith points out today, the economy in the UK has tended to do better in periods when public spending restraint has applied.

Keep calm and carry on?  Or panic and run around like a headless Guido….

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