Sunday, August 5, 2012

Deficit, Debt and GDP

Usually I steer clear of economics, because I simply don't understand them. But a report on SunNewsTV on Thursday night was rather shocking. The Ontario deficit for 2012 is equal to the deficit of the state of California. Most of us know that California is in trouble. And even very left-leaning governor Jerry Brown is freezing wages and even making 5% cuts in some wages to reduce costs.

Ontario has one-third the population of California, but it has an equal annual debt. I hear the words "deficit" and "debt" thrown around and knew there must be a difference. Because states and provinces talk about balancing their "deficit" but they still remain in "debt". Do the difficulties that Ontario is facing really affect the rest of the country? Well I would think so, since Ontario accounts for one-third of the Canadian economy.

The deficit is the difference between how much the federal government spends and how much it collects in one year. If the government “earns” $2 trillion in taxes in one year, but spends $3 trillion, that’s a deficit of $1 trillion. In order to pay for the difference, the government has to borrow money from itself, American citizens, foreign countries, and other sources.
The national debt, on the other hand, is the total amount we owe. Every year that we borrow more money, the debt grows larger.
The difference between the deficit and the debt is especially important because when politicians talk about reducing the deficit, all that really means is that our debt isn’t growing as fast. It does not mean we’re getting out of debt.
In more personal terms: If you have an income of $50,000 per year, and you spend $60,000, that’s a deficit of $10,000. You would need to borrow that $10,000 from someone, maybe with a credit card or a home equity loan. If you reduce your spending the following year, to $55,000, you have “halved the deficit”, but you’re still spending $5,000 more than you’re earning, and going further and further into debt. After two years, despite halving your “deficit spending,” you’re $15,000 in debt. -

So what is the Premier of Ontario doing about the deficit? Well not too much, it seems. But these things catch up to you and I think Dalton McGuinty may be facing an election pretty soon. The only concern I have is that the Conservative party in Ontario is weak, because they really aren't conservative enough, and the NDP are busy making inroads in that province. Now the NDP are not known for being financially wise, so Tim Hudak had better get his act together.

A couple of weeks ago, we had a small party here of graduate students who were toasting a young man who just successfully defended his Masters thesis. One of the guests was a young post-doctoral student from Arkansas, doing some research here at Dalhousie University. We got into a little debate about American politics. He had claimed that he was a real red-neck, and I assumed he meant that he was a Republican, but that was certainly not the case. He went on the offense about Obama. I didn't have facts and figures on hand to debate with him, as he claimed that Obama's policies were working and that his plan for the economy was better than Mitt Romney's.

My husband decided to look up some stats on the US economy. The figures are shocking. Everyone knows that the US debt is somewhere around 16 trillion dollars; the problem is that no one really knows what a trillion is. We just kind of think "well it's a lot more than a billion" but we don't know how much more it is. A trillion is a million million or one thousand billion. Check this link if you want to see it in pictures.

Something that is talked about in economics is the ratio of GDP to debt. Since the GDP is gross domestic product, it tells us how much wealth a state or country actually has. The two are measured against each other because it gives a quick picture of the ability of a country to service its debt.

One of the things this fellow from Arkansas said was that the US debt was about 8% of the GDP. My husband, being the smart fellow he is, knew that wasn't right and he said it was closer to 20%. The next morning he checked some sites to see what it actually was and imagine his shock when he learned that US debt actually exceeds GDP!

GDP is a measure of the total size and output of the economy. One measure of the debt burden is its size relative to GDP. In the 2007 fiscal year, U.S. federal debt held by the public was approximately $5 trillion (36.8 percent of GDP) and total debt was $9 trillion (65.5 percent of GDP).[41] Debt held by the public represents money owed to those holding government securities such as Treasury bills and bonds. Total debt includes intra-governmental debt, which includes amounts owed to the Social Security Trust Funds (about $2.2 trillion in FY 2007)[42] and Civil Service Retirement Funds. By August 2008, the total debt was $9.6 trillion.[43]

Based on the 2010 U.S. budget, total national debt will nearly double in dollar terms between 2008 and 2015 and will grow to nearly 100% of GDP, versus a level of approximately 80% in early 2009.[44] Multiple government sources including the current and previous presidents, the GAO, Treasury Department, and CBO have said the United States is on an unsustainable fiscal path.[45] However, ahead of predictions, total national debt reached 100% by the third quarter of 2011.[46] If counted using the total public debt outstanding over the annual GDP in chained 2005 dollars, the ratio reached 115% on Feb. 2012.[47]
- Wikipedia: US public debt measured relsative to GDP

These figures of deficit and debt are thrown around and it is difficult to follow the seriousness of what is being discussed. But when you find out that the debt is greater than the ability to pay that debt, any person with half a brain knows that means trouble.

Having experienced financial difficulty in our own lives, and having credit card debt that equaled our monthly mortgage payment, we knew that we could not go on for long like that. As one real estate agent said to us "one hiccup in the economy and you guys are toast". At least he was honest, others weren't so truthful. He saved us from trying to buy a house we simply could not afford. In economic terms, we were living with a deficit that had built into a debt that was unsustainable. You can carry a debt for one year (that would be a "deficit") if you have a plan to pay it down, but if you carry it for much longer, then you are in "debt" which is much harder to get out of.

Too bad the Arkansas fellow isn't here now, because he needs to know these facts. It might change one Democrat voter to Republican this November. As for the poor folks in Ontario, the good news is that McGuinty won't be around for much longer. I hope that Ontarians are smart enough to prevent the NDP from moving in to fill the vacuum.

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