Reason why S&P downgraded US, made easy

[myoakley]

Is anyone watching the turmoil in Europe? European countries (including France which is one of the "stronger" economies) would be happy with an unemployment rate of 9%! They should be an example and a warning to us of what happens when governments run up debts they cannot pay off.

 

[Talent312]

European countries (including France which is one of the "stronger" economies) would be happy with an unemployment rate of 9%! They should be an example and a warning to us of what happens when governments run up debts they cannot pay off.

The connection between government debts and unemployment is illusionary.
I'm sure that somehow a case could somehow be made that there is some relationship, but not that one causes the other.

 

[ondeadlin]

The connection between government debts and unemployment is illusionary.
I'm sure that somehow a case could somehow be made that there is some relationship, but not that one causes the other.

In general, you are correct. Unemployment is initially more likely to be the cause of higher government debt load than the result of such a debt load. But what's happened in Greece is that the government has been forced to take such significant austerity measures that it has laid off large numbers of government workers and ended large numbers of government contracts, which has driven up the unemployment rate.

In the past, Greece would have been able to deflate its currency and this would have significantly eased its debt crisis. It can't do that now because it's a member of the EU.

The suggestion that "debt" is dragging down the stronger EU economies is correct, but only in a tangental way. The connection to Greece, Spain and Ireland is what's dragging down those economies, not their own debt. This is, quite frankly, the EU's fault. The stronger EU countries linked their economies with weaker economies and then failed to take any significant regulatory steps to ensure the weaker countries were fiscally responsible. To resort to the overly simplistic analogies that this thread favors, it's as if Germany and France took out a joint credit card with Greece, failed to notice that Greece was spending way in excess of its means, and now Germany has the unsavory choice of paying Greece's bill or facing some consequences.

The U.S. is a completely different animal for a variety of ways. We are a reserve currency. We have almost 0 percent borrowing costs. We have a variety of ways to raise revenue that we have not tapped. We have not attempted any significant entitlement reform or addressed our runaway military spending (more per year than any other five countries combined).

The biggest difference between the simplistic analogy above and ... well ... reality is that the example ignores the fact that the U.S. has the ability to raise its "salary" or revenues at any time by raising taxes. This is exactly what will happen eventually and the longer it takes to happen, the higher the taxes are going to be. A wise person would be preparing for this in a variety of ways.

 

[esk444]

Remember, this is just a pretend senario.

Annual family income: $21,700
Money the family spent: $38,200
New debt on the credit card: $16,500
Outstanding balance on the credit card: $142,710
Budget cuts: $385

Family income is aprox $1808.00 per month

Family buys a car and finances it for 72 months = $600 payment and insurance per month.

Credit card debt = interest only 10% = $165 minumum payment per month

Mortgage at 142K or $800 per month on a 30 year

That adds up to $1565 of expences minus $1808 income. $243 is left to buy food , gas and utilities. This is probalbly a very real senario for people that are unemployed and living on one income or unemployment benifits. With a debt to income ratio as above this person would not be a good credit risk.

I'm putting on my accountant's hat, but this analogy fails in one pretty important way as it relates to debt: capitalization. If a family buys a house for $100,000, you probably wouldn't put that in your current expense balance if it was paid with a mortgage. You would just up the debt amount by $100,000 and increase the yearly expense amount by the mortgage payment amounts.

In the government, say you build a bridge that is supposed to last 20 years for $300M. That $300M shows up in that's years budget in total. They can't afford it, so they issue $300M in 20 year bonds. From a government perspective, this is an efficient way of doing business because: 1) I'm assuming you need to build the bridge; 2) why punish current taxpayers for it, when the next 20 year's of taxpayers will use it and benefit from it; and 3) the government gets cheap interest rates on their loans.

But reports will show a $300M expense in 2011 that is funded by $300M debt. However, but what happens economically is that $300M expense should be spread out over the useful life of that bridge. So it is really only a $15M+interest expense in 2011.

So the gap between yearly expenses and new debt isn't unusual. No balanced budge proposals would change that. The problem is when you are issuing long term debt for 2011 expenses that solely related to 2011. Then you are burdening future taxpayers to pay for benefits to current taxpayers now. That's not good governance and where balance budget proposals try to address. So that gap is an inflated number, probably designed to bolster their political argument. You need to look at more detailed figures to find out the real story.

 

[pgnewarkboy]

If you want to understand the European "debt crisis" read Michael Lewis book "Boomerang".