The Debt Crisis is the Energy Crisis

Who's going to take a haircut on the national debt?

Why Japan's debt can never be repaid

If the 1,000 trillion yen national debt were a 50-year mortgage, the homeowner would have to pay down an average of 20 trillion yen in principal every year. Right now, the Japanese government has an income of 42 trillion, and 10.5 trillion of that goes to interest on the debt. To start paying off the debt, it would have to pay 20 trillion per year, leaving just 12 trillion to pay for defense, health care, education and so on. However, the current budget is 103 trillion, meaning that present spending obligations force the government to borrow an additional 61 trillion yen and forget about ever paying down the principal. The GDP and the tax base could never expand enough to generate the funds necessary. We could conceivably wish for high levels of inflation over the next few decades, which would make debt payments affordable, but the levels of inflation necessary could have some unpleasant downsides. Economists like to debate whether it is really a good idea to “inflate your way out of debt.” In the future, the government could be in the same position as a retiree who bought a bungalow for $20,000 in 1955 which is now worth $400,000.

But if inflating your way out of debt were so simple, why wouldn't the government consider going all in with this thought experiment, something which is no stranger than the trillion dollar coin:

The government could print a new set of currency bills, all with double the face value of old ones. All old bills could instantly be exchanged for the new bills. Every old 10,000 yen bill could be freely exchanged for a new 20,000 yen bill. The government would simultaneously run a computer program through the bank system and double the value of all deposits. Of course, all wages and prices would instantly double, including the price of foreign currencies, but - most importantly - all debts public and private would remain at their previous values. (It's no longer just Africa that needs a debt jubilee.) In this case, it would be glaringly obvious that creditors were being forced to take a haircut, and they would react by ceasing to lend or charging much higher interest rates, with a preference for short-term contracts with this newly unreliable debtor. If they were foreigners, they might want to retaliate with military force, as has happened in previous cases of national default. In any case, it would now be much easier for the government to start paying down its debt, and if it were not easy enough, this experiment could be run at different values. The currency could be tripled or quadrupled in its value. There would be no upper limit.

But hey, I’m no economist. What do I know? Yet is seems to me that the present policy of setting a mild 2% inflation target is just this very same scenario enacted in timid slow motion, and unlike the scenario above, there is no guarantee that it will inflate wages and liquid assets for working folk - which is probably the reason "serious people" would find it absurd. But the 2% target is so far short of what is necessary that there is no hope of it solving the problem. If a country is saying that it needs to inflate its way out of debt, it is tacitly announcing default.

In some sense, it doesn't really matter. Money and financial crises are just reflections of the physical world. This is why they so easily adopt physical phenomena like nuclear meltdowns as their metaphors. The debt crisis is the symbolic representation of the energy and environmental crisis. The national debt is like nuclear waste and greenhouse gases. Everyone knows the un-repayable burden is being passed on to future generations, but we choose not to apply elementary school math skills, do the above calculations and face the real problem. (Note that the largest number in the 50-year mortgage example was only four digits.) For more simple math exercises, see Global Warming’s Terrifying New Math.

Further reading, if you want to take it from a couple experts:

“It is not guaranteed that a state can inflate its way out of debt. The danger is all too real that more inflation hits the costs and the revenues of the state in a way which widens the gap or deficit. The only ways out of excessive debt are to remove the deficit and grow the economy.”

-John Redwood. Can You Inflate Your Way Out of Debt? December 12, 2012

http://johnredwoodsdiary.com/2012/12/23/can-you-inflate-your-way-out-of-debt/

“Turn next to whether it [inflating your way out of debt] will work. Inflation will do little for entities with floating rate liabilities (many households that borrowed near the peak of the boom) or relatively short term liabilities (banks). The US government, with debt duration of about 4 years, is unlikely to benefit much from a surprise inflation unless it is huge [bold emphasis added]; and the bulk of its promises are social security and healthcare that cannot be inflated away [because they are indexed to inflation]. Even distressed households that have borrowed long term could be worse off – with unemployment likely to subdue nominal wage growth, and higher food and fuel prices cutting disposable income.”

-Raghuram Rajan. “Why We Can’t Inflate Our Way Out of Debt.” The Financial Times. August 15, 2011. http://www.ft.com/cms/s/0/4f8b84d8-c72d-11e0-a9ef-00144feabdc0.html#axzz2HuYrwtib