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The U.S. Debt and How It Got So Big

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The National Debt Clock illuminated at night.
Driendi Group/Photodisc/Getty Images

What Is the U.S. Debt?:

The U.S. national debt is the sum of all outstanding debt owed by the Federal Government. It surged past $17 trillion ($17,075,590,107,963.57 to be exact) on October 17, 2013. The U.S. debt is the largest in the world for a single country. (It runs neck and neck with that of the European Union, which is an economic union of 28 countries.)

Even before the 2008 financial crisis, the U.S. debt had risen 50% between 2000-2007, ballooning from $6-$9 trillion. The $700 billion bailout helped the debt grow to $10.5 trillion by December 2008. The debt is tracked by the national debt clock.

Nearly two-thirds is the public debt, which is owed to the people, businesses and foreign governments who bought Treasury bills, notes and bonds.

The rest is owed by the government to itself, and is held as Government Account securities. Most of this is owed to Social Security and other trust funds, which were running surpluses. These securities are a promise to repay these funds when Baby Boomers retire over the next 20 years. For more, see Who Owns the U.S. Debt? (Source: U.S. Treasury, Debt to the Penny; Debt FAQ)

Debt to GDP Ratio:

The debt-to-GDP ratio is the debt as a percent of the total country's production, or GDP, which was $16.6  trillion as of June 2013 (most recent figures available). That made the ratio greater than 100%, raising alarms for policy-makers. This was double the 51% debt-to-GDP ratio in 1988.

Interest on the debt was $454 billion in Fiscal Year 2011, the highest ever. That's despite the lowest interest rates in 200 years. The interest on the debt in the FY 2103 budget is $248 billion, the sixth largest budget item. (Source: U.S. Treasury, Interest)

How Did the Federal Debt Get So Large?:

Government debt is an accumulation of Federal budget deficits. Therefore, the best way to look at how the debt got so large is to compare the budget deficits by President. The largest contributor has been President Obama, thanks to the economic stimulus package, the Obama tax cuts and the roughly $800 billion a year military spending.

Next on the list is President Bush. His deficits were a result of the bank bailout, the EGTRRA and JGTRRA tax cuts and the War on Terror.

The third largest contributor is President Reagan, who also cut taxes, increased defense spending and expanded Medicare. All of these Presidents also suffered from lower tax receipts resulting from recessions. For more, see U.S. Debt by President.

However, the Federal government couldn't keep running up deficits if interest rates skyrocketed, like they did with Greece. Why have interest rates remained low? Purchasers of Treasury bills still reasonably expect that the U.S. will pay them back. For foreign investors like China and Japan, the U.S. is such a large customer it's allowed to run a huge tab so it will keep buying exports.

Second, countries like China and Japan maintain large holdings of Treasuries to keep their currencies low relative to the dollar. Even though China warns the U.S. to lower its debt, it keeps buying more Treasuries.

During the recession, foreign countries increased their holdings of Treasury Bonds as a safe haven, which kept U.S. interest rates low. These holdings went from 13% in 1988 to 31% in 2011. For more, see How China Affects the U.S. Economy.

The Debt Ceiling:

Congress put in place a debt ceiling that is supposed to limit the debt. This was raised to  currently at $16.394 trillion. Not all the debt is subject to the debt limit -- right now, only $15.977 is. However, Congress usually raises the ceiling to prevent the negative consequences of a debt default.

How The National Debt Affects the Economy:

In the short run, the economy and voters benefit from deficit spending. In the long run, however, a growing Federal debt is like driving with the emergency brake on, further slowing the U.S. economy. That's because debt holders want larger interest payments to compensate for what they perceive as an increasing risk that they won't be repaid. This added interest payment expense usually forces a government to keep debt within reasonable limits.

However, the U.S. hasn't yet faced higher interest rates. Nevertheless, Congress realizes it is facing a debt crisis.

Over the next 20 years, the Social Security Trust Fund won't have enough to cover the retirement benefits promised to Baby Boomers. That means higher taxes, since the high U.S. debt rules out further loans from other countries. Unfortunately, it's most likely that these benefits will be curtailed, either to retirees younger than 70, or to those who are high income and therefore aren't as dependent on Social Security payments to fund their retirement.

The U.S., however, has been the beneficiary of two unusual factors. First, the Social Security Trust Fund took in more revenue through payroll taxes leveraged on Baby Boomers than it needed. Ideally, this money should have been invested to be available when the Boomers retire. In reality, the Fund was "loaned" to the government to finance increased deficit spending. This interest-free loan helped keep Treasury Bond interest rates low, allowing more debt financing. However, it's not really a loan, since it can only be repaid by increased taxes when the Boomers do retire.

Foreign Ownership of U.S. Debt:

As of September 2012 (most recent data),foreigners held $5.455 trillion, or roughly one third of total U.S. debt. China holds $1.155 trillion and Japan owns $1.131 trillion. The oil exporting countries are the third largest holders, at $267 billion, with Brazil next at $251 billion. The Caribbean Banking Centers are fifth, holding $240 billion. The Bureau of International Settlements suspects that much of the holdings of the Caribbean centers, as well as Luxembourg (holding $148 billion) and Belgium ($134 billion) are fronts for the oil-exporting countries or hedge funds that do not wish to be identified. The next largest holders -- Taiwan, Switzerland, Russia, United Kingdom, and Hong Kong -- own between $135-$191 billion each. (Source: Foreign Holding of U.S. Treasury Securities, November 16, 2012; U.S. Treasury report ”Petrodollars and Global Imbalances”, February 2006)

Many of the foreign holders of U.S. debt are investing more in their own economies. Over time, diminished demand for U.S. Treasuries could increase interest rates, thus slowing the economy. Furthermore, anticipation of this lower demand puts downward pressure on the dollar. That's because dollars, and dollar-denominated Treasury Securities, may become less desirable, so their value declines. As the dollar declines, foreign holders get paid back in currency that is worth less, which further decreases demand. See What Is the U.S. Debt to China?. Article updated September 5, 2013)

 

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