Monday, April 25, 2011

What's Good Enough for GE Is Good Enough for America

[Originally posted at New Deal 2.0.]

S&P's threat to downgrade the US government's credit rating has been dismissed by economist-bloggers as a political intervention by bondowners and compared to "adorable children wearing their underpants outside their trousers." As far as the chances of the US someday defaulting on its debt go, the announcement has zero informational value.

Still, it's true that federal debt held by the public has reached 60 percent of GDP, while tax revenues remain around 20 percent of GDP. 60 percent of GDP is a lot! And double, nearly triple, tax revenue! What would we call a company with outstanding debt double or even triple its revenues, and expected to keep the highest bond rating?

We could call it General Electric. 

As recently as 2007, GE had an S&P rating of AAA with outstanding debt at over three time revenues. Or we could call it the Tennessee Valley Authority; TVA managed outstanding debt of 3.9 times revenue in the late '90s (it's since come down a bit), and S&P never downgraded its bond rating from AAA. Or, we could call it Hydro Quebec, with debt of over 4.5 times revenues (altho, admittedly, its S&P rating is only A+). Or the natural gas and energy supplier TransCanada, with debt equal to 2.2 time revenues and an A rating from S&P. Even Transocean, which operated the Deepwater Horizon rig for BP, managed an A- rating prior to the spill, with a debt-revenue ratio similar to what the federal government has now.

Now, it's perfectly sensible for a big utility, with its high proportion of long-lived fixed capital and stable revenue streams, to carry a lot of debt. If I ran Hydro Quebec (and converting the company to a worker- and consumer-owned cooperative wasn't an option), I'd take on a lot of debt too. But here's the point. If the question is, what if the government had to fund itself like a private business, the answer isn't necessarily that it would do anything different from what it's doing now.

In the real world, of course, there are lots of differences between the government of the United States and a private business. The federal government issues the currency that its debt is denominated in. It has effectively unlimited authority to increase taxes on the private sector. And its liabilities are the most important store of value and means of payment for the private sector. (When Alan Greenspan said that the financial system would have a real problem without holdings of federal debt, he may have been arguing in bad faith, but he wasn't wrong.) And of course, the US government is responsible for output and employment in the economy as a whole, and not just for its own balance sheet. All these differences mean that it makes sense for the US government to carry more debt than a private business. If GE or Transocean are safe bets for lenders with debt of two or three times revenue, then the federal government must be ultra ultra safe. Which, interestingly enough, is just what the bond market says.

So perhaps we can get away from the "oooh, that's a really big number!" school of analysis of federal borrowing. And instead ask what levels of federal deficit and outstanding debt are most compatible with economic growth and financial stability. For the foreseeable future, I'd suggest, the answer has a lot more to do with the role of government spending in aggregate demand, and with government debt as a risk-free asset for the private sector, than with the level of debt that's "sustainable". Because if you think there are more states of the world where TVA or GE make their payments to bondholders than where the US government does, you must be smoking something from S&P's private stash.

UPDATE: This excellent post from Mike Konczal makes the same point more systematically.

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