Here’s how the U.S. got to $20 trillion in debt
The U.S. is approaching $20 trillion in national debt — the nation is a cool $19.8 trillion in the red as of Thursday — and when it crosses that mark, get ready for some finger pointing over who’s to blame.
If history shows anything, it’s that both parties share responsibility for boosting the debt. Fighting wars, big tax cuts and economic stimulus packages have all added to the burden over the years.
Here, we’ll take a look at some key moments in the debt’s trajectory until now, and also where it is going.
In August 1981, with the U.S. at the beginning of a recession, President Ronald Reagan signed major tax cuts into law. While Reagan’s supporters credit the cuts in tax rates with juicing the stock market and the U.S. economy, the downside was obvious: less money flowing into the government’s coffers. A U.S. Treasury paper shows the 1981 act reduced federal revenue by an average of $118 billion a year (in today’s dollars) during the first four years.
President George W. Bush also signed tax-cut packages into law in 2001 and 2003. Individual-income tax rates were cut, as were taxes on capital gains and dividends. This table shows where the Bush tax cuts fall in size compared to other major bills. President Barack Obama extended the cuts for two years in 2010, and made most of them permanent in 2012. Kathy Ruffing, a consultant to the Center on Budget and Policy Priorities, estimates that the cuts originally enacted during the Bush years will account for $5 trillion of debt outstanding through fiscal 2017. That includes interest.
The U.S. spent heavily on the wars in Afghanistan — which the U.S. invaded after the Sept. 11, 2001 terrorist attacks — and Iraq. According to consultant Kathy Ruffing, the two wars account for about $2 trillion of the debt, including interest.
The year-and-a-half long Great Recession began in December 2007, brought on by the collapse of the U.S. housing market. The downturn spanned the Bush and Obama presidencies, and heralded the ballooning of budget deficits as the government responded with huge bank bailout and stimulus programs. In fiscal years 2009-2012, deficits exceeded $1 trillion.
With the U.S. still reeling from the Great Recession, President Barack Obama signed the American Recovery and Reinvestment Act in February 2009. In addition to tax cuts, Obama’s stimulus bill spent billions of dollars on unemployment benefits and infrastructure projects. Obama said the plan would be “a major milestone on our road to recovery,” but Republicans trashed the measure as a waste of government money. Originally scored at $787 billion, the Congressional Budget Office in 2015 put its price tag higher, at $836 billion. Including interest payments, it added $1 trillion to the debt through fiscal 2016, according to the Committee for a Responsible Federal Budget.
The debt is projected to keep growing as the U.S. spends more on programs for its aging population. The Congressional Budget Office estimates that if current laws remain the same — that is, if President Donald Trump and the Republican Congress were to do nothing — debt held by the public would rise to 150% of the total economy in 2047 from the 77% it’s at now. Trump has vowed a few polices that could have a big impact on the debt, including major tax cuts and a military buildup. What’s more, he pledged to leave programs including Medicare and Social Security unchanged. A tax plan Trump proposed during the campaign would add about $7.2 trillion to the debt over a decade, the Tax Policy Center estimated.
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How Is the Fed Monetizing the U.S. Debt?
Why the Nation's Central Bank Is Making the Government Debt Worse
The Federal Reserve monetizes debt any time it buys U.S. Treasuries. When the Federal Reserve purchases these Treasuries, it doesn't have to print money to do so. It issues credit and puts the Treasuries on its balance sheet. Everyone treats the credit just like money, even though the Fed doesn't print cold hard cash.
The Fed doesn't buy Treasuries directly at auction. Instead, it purchases them from its member banks.
It does this through an office at the Federal Reserve Bank of New York.
How does this monetize the debt? The U.S. government borrows when it auctions Treasuries. It's taking a loan from all buyers, including individuals, corporations, and foreign governments. The Fed turns this debt into money by removing those Treasuries from circulation. That decreases the supply of Treasuries, making the remaining Treasuries more valuable.
Treasuries that are more valuable don't have to pay as much in interest to get buyers. This lower yield drives down interest rates on the U.S. debt. Lower interest rates mean the government doesn't have to spend as much to pay off its loans. That's money it can use for other programs.
The net effect is that it is as if the Treasuries bought by the Fed didn't exist. But they do exist on the Fed's balance sheet. Technically, the Treasury must pay the Fed back one day. Until then, the Fed has given the Federal government more money to spend.
That increases the money supply. That's called monetizing the debt.
Exactly How the Fed Monetizes Debt
The Fed monetizes the debt whenever it engages in its open market operations.The Fed has always used this tool to raise and lower interest rates. It lowers interest rates when it buys Treasuries from its member banks.
The Fed issues credit to the banks. They now have more reserves than they need to meet the Fed's reserve requirement.
Banks will lend these excess reserves, known as Fed funds, to other banks to meet the requirement. The interest rate they charge each other is the Fed funds rate. Banks will lower this rate to unload these excess reserves.
Most people didn't worry about the Fed monetizing the debt until the recession. That's because prior open market operations weren't large purchases. The Fed bought $600 billion of longer-term Treasuries between November 2010 and June 2011. That was the first phase of Quantitative Easing, known as QE1.
Why Does the Fed Buy Bonds?
The Fed's primary purpose in all phases of QE was to keep the Fed funds rate, and all interest rates, low. That helps companies create jobs as they expand. Low interest rates also help people afford expensive homes. Therefore, the Fed was trying to revive the housing market. Low-interest rates also reduce returns on bonds. In time, investors look for stocks and other higher-yielding investments. For all these reasons, low-interest rates help boost economic growth.
However, part of the Fed's intention probably was to monetize the debt.
That helped the Treasury increase government spending and boost growth. It didn't have to raise interest rates, which would depress the economy. Eventually, it will reverse the transaction and get the Treasuries off of its balance sheet. At that time, it will remove the credit from the Federal government's operating budget.
The St. Louis Fed Disagrees
In February 2013, the Federal Reserve Bank of St. Louis issued a report that denies the Fed is monetizing debt. The central bank can only monetize debt if its intention is to keep the Treasuries on its balance sheet indefinitely. In other words, it would be using its power to create money out of thin air to permanently subsidize Federal government spending.
Instead, former Fed Chairman Ben Bernanke explicitly said that the Fed would sell Treasuries when Quantitative Easing ended. Although the Fed ended QE in October 2014, it hasn't begun selling its Treasuries. When it does, interest rates will rise. The Federal government will find financing its spending will become more expensive. (Source: Federal Reserve Bank of St. Louis, Is the Fed Monetizing Government Debt?, February 1, 2013.)