Borrowing money to pay back borrowed money
Posted by aogTuesday, 01 October 2013 at 14:12 TrackBack Ping URL

I see this kind of statement made frequently with regard to the federal debt ceiling —

A failure to raise the debt ceiling to pay for bills that Congress has already contracted could lead to a worldwide recession or worse.

No! How can any one be that clueless? You don’t borrow money to pay off previously borrowed money. The term for doing that is “bankruptcy”. You pay off debts by using your revenue stream and the federal government revenues are not dependent in any way on the debt ceiling.

Of course, we have President Obama who is dumb enough to say in public “raising the debt ceiling does not increase our debt […] All it does is it says you got to pay the bills that you’ve already racked up, Congress”. That’s pathetic, even for a guy who regularly muffs his facts.

Meanwhile we are having an actual issue with passing a continuing resolution to keep the government funded (which could actually impact debt payments), which is primarily because the Democratic Party, particularly those in the Senate, have been massively derelict in their duties while the GOP in the House has at least made an effort. Yet I am confident Old Media will hold the former blameless, because Obama!

P.S. The story of legislation trying to express the Constitutional requirements in law but blocked, of course, by the Democratic Party, which has no interest in Constitutionality and fiscal responsibility.

Comments — Formatting by Textile
Bret Tuesday, 01 October 2013 at 17:52

aog wrote: ‘The term for doing that is “bankruptcy”.

Since it can always create more money, an entity that borrows in its own fiat currency can never be bankrupt. It can choose to default, but that’s a choice it makes and a choice that can never be forced upon it.

We’ll see what happens with the “shutdown” (more like a “pullback” if you ask me). If the Keynesians are right, perhaps the world will head into a recession.

Clovis Wednesday, 02 October 2013 at 03:17

AOG & Bret,

But to not raise the debt limit is effectively to make the choice for default. That’s the whole point.

And no, AOG, there is not only one way to pay off debts. In fact, to borrow more money in a lower interest rate to pay off for previous money borrowed in a higher interest rate is a smart way to diminish your debt, since a large part of it comes not from the principal, but from the interest over it. It is like exchanging a pile of debt at interest rate 10% for the same one at interest rate 5%.

Which takes us to the point you overlook about the debt ceiling. If you default, you are effectively raising your interest rate, in a unpredictable way. And the higher interest rates are what will cost you money.

BTW, Bret, Keynesians - as Krugman (I love to mention his name just to see AOG in pain :-) - do not think much impact will come from this pseudo-shutdown, but they bet whatever you want in a clear impact from default.

Annoying Old Guy Wednesday, 02 October 2013 at 07:54

But to not raise the debt limit is effectively to make the choice for default.

No! It is not. That is the point of my post. It is absolutely not the case that failing to raise the debt limit forces a default. I am utterly unable to understand how any one can make that claim seriously. Can you explain that to me?

borrow more money in a lower interest rate

That won’t, and can’t, happen for the federal government. Interest rates are already near zero, how much lower do you think they’ll go?

Moreover it’s clear that the debt ceiling will be raised only for more spending, not clearing any debt.

What is actually happening is the Federal Reserve is doing quantitative easing to try and create inflation to get rid of the debt, hoping it can inflate faster than interest rates increase (which, in turn, have been kept artificially low through the same process).

P.S. It doesn’t bug me to see people mention Krugman, it’s like hearing them talk about UFOs or ancient Atlantis. You mention it in case it helps, but if it doesn’t you just smile and nod…

Clovis Wednesday, 02 October 2013 at 08:17


Can you explain that to me?

Well, please first notice I used the term “effectively to make the choice for default”, where by “effective” I mean this is what may likely happen in practice, even though it was not mandatory to happen.

I don’t think I am telling anything you do not know, but let’s try anyway: The money of your revenue is already distributed among many directions, including a part of it separated to pay for previous debts who are expiring now. As it happens now, you even need more money than your revenues provide to complete everything government and congress previously determined.

If you have a solid debt ceiling, what happens is that your govt. is obliged to not fullfill everything it was supposed to. As no one particular program would likely accept to be defunded, a possible casuality is the money you would pay the previous debt with. In fact, I do not really know how it works, since both the debts and a lot of other programs, by the extent I’ve heard, are mandatory spendings, so there may be a collision of laws here and I do not know how it goes. This uncertainity, I guess, is the main element to be priced by the market, causing higher interest rates.

That won’t, and can’t, happen for the federal government. Interest rates are already near zero, how much lower do you think they’ll go?

This is the point, they are zero for money borrowed now. The money of previous debts you need to pay now were borrowed many years ago, when the interest rate was higher. With the debt ceiling, you are not allowed to enjoy this financial possibility of reducing the interest in part of your overall debt.

As for Krugman, by all he writes, I am sure he sees many of your economic positions in the same light. With the difference is that he actually may know a thing or two about economy that we don’t.

Annoying Old Guy Wednesday, 02 October 2013 at 10:18


Yes, that’s all true, but the choice to default is made when the money is spent, not when the debt ceiling is hit. Congress and the Presidency could choose to pay off debt first and then spend what is left on programs, but that’s a choice separate from the debt ceiling.

In the sense you use it, “mandatory” means only “required by law” which Congress and the President can easily change. The SCOTUS has ruled more than once that an existing Congress is in no way bound by the promises of previous Congresses, so none of it is really mandatory. Except perhaps debt payment, which is specifically called out in the Constitution.

With the debt ceiling, you are not allowed to enjoy this financial possibility of reducing the interest in part of your overall debt.

Simply not true. The debt ceiling imposes a maximum debt. It in no way prevents swapping debt of type A for debt of type B. In fact this will go on with Treasury bonds, as some mature and others are issued. Otherwise the debt ceiling would require decreasing the debt, not simply a lack of increase.

Clovis Wednesday, 02 October 2013 at 10:50


There is always a political cost associated to killing, by lack of money, programs that may well be popular, for the sake of paying up debt.

You may say, “so what?”, but if you are a politician, you may feel obliged to think twice. The market, knowing the system is run by politicians, is also obliged to think twice too.

But that’s not all. Were the story only about applying bitter medicine against popular will, the solution would be too simple. But if you pay attention to Keynesians - oh yes, that would be Krugman too - you would see that a good deal of ink was dedicated to discuss in what conditions such “austerity” would be fruitful. They make a case that, under the combination of interest rates near zero and economic recession, such act by the government could well make it end up in more debt (due to lower revenue inflicted by worsening of recession), i.e. the contrary of what you intended by not raising the debt ceiling.

You can discard this all if you think it is giberish, but as far as I know, their positions have been validated by data in the last 5 years, while the “pro-austerity” camp got only one wrong projection after another.

The debt ceiling imposes a maximum debt. It in no way prevents swapping debt of type A for debt of type B.

I may be wrong here, but I am still under the impression it sometimes does just that. In some cases you would need first contract the new debit to pay for the old one, and sometimes you can not do that without hitting the ceiling.

Annoying Old Guy Wednesday, 02 October 2013 at 13:32


Were the story only about applying bitter medicine against popular will

I don’t think that’s the story. I think debt reduction through spending cuts would be popular or at least acceptable to the majority of the electorate. A politician could, for instance, put it as “it’s Greece, defaulting, or spending cuts”. You presume that can’t be explained to the American Street, and I disagree. There is lots of recent polling data to support my view on this.

As for “austerity”, whenever I have seen that discussed by the likes of Krugman, it seems to involve only raising taxes, not cutting spending. Of course that’s going to fail, but it’s hardly an argument against less spending. We can see here in various states how a lower tax, lower spending government does much better over the long run, that is real austerity works. All the data I have seen indicates the Keynesians are wrong and the austerity people are correct. See, for instance, Wisconsin, Indiana vs. California, Illinois. or the Bush tax cuts, derided Krugman, but which resulted in an economy much better than we have now.

I don’t think it’s gibberish, I think it’s delusional backed by highly selective and misleading data cherry picking.

Annoying Old Guy Wednesday, 02 October 2013 at 14:23

Just to add some context, let’s remember what then Senator Barak Obama said in 2006 about raising the debt limit.

Clovis Wednesday, 02 October 2013 at 15:16


I beg to differ: when Krugman is talking about austerity in the last years, he is definitely talking about spending cuts. If you search the term in his blog, you’ll hit hundreds of examples.

And mind you he is not talking about the “long run”, but about the necessary prescription he believes in to present problems. He also made it clear he thinks differently once you’ve been out of low-interest-with-recession trap. I think he also wrote a book on how those supposed benefits of Bush tax cuts never happened. Another claim he thoroughly debunked is that the US situation would mirror anything at all to the Greek one.

Anyway, enough of economic talk. We wait to see if America defaults, and if it does, we come back to the topic to see if Keynesians got it right or not. Harry already sold off his stock betting he can make some money in this episode - this is the kind of clean bet I like to see. Please buy a lot of stock right now, AOG, and you’ll convince me you really believe what you say :-)

Annoying Old Guy Wednesday, 02 October 2013 at 15:50


I shifted a lot of cash to stocks just last month.

As for spending cuts, when I use the term, I mean cuts in spending. That is, spending less money. Not failing to spend as much as projected, which is how the term is commonly used. In all seriousness, every time I have dug down in to claims of “austerity” it turns out spending increased.

P.S. You realize that Krugman is recommending what Japan did in the 1990s. How did that work out for them? Short term and long term?

Clovis Wednesday, 02 October 2013 at 16:09


Oh, great! So now we have you and Harry with betting positions, I am really looking forward to see who wins. (I mean it, I have no idea what will be the outcome, whatever anyone said up to now)

I am truly wishing for a huge default just to see things getting interesting! (Yes, I am self-prohibited from playing any betting game, I get too carried away on this :-)

Now, back on Krugman, AFAIK the point is that Japan mostly did not do what he thinks they should have done. BTW, it is starting to do it now, with apparently good results (but we’ll need to wait for that verdict).

Annoying Old Guy Wednesday, 02 October 2013 at 18:15

I’m sure Krugman has some techno-babble to explain why his preferred policies failed, but fundamentally Japan went all Keynesian (borrowing, spending, infrastructure, low interest rates) and lost two decades. About the same as the USA during the FDR era. And can we talk about the success of the Peronists in Argentina? Chile, as a counter example, did the opposite and prospered. Even the Clinton years featured reigning in spending (thanks to Newt Gingrich and the GOP Congress) and prospered. Now, explain France’s economic misery to me. Everywhere I look, I see austerity winning and profligacy failing. You claim other examples, but never name any of them.

Clovis Wednesday, 02 October 2013 at 19:28


You mischaracterize my point (as if it was about defending cheap profligacy), preempt any argument I may give as “some techno-babble”, and change constantly the subject of the discussion: I’ve delimited it very specifically to the last 5 years, not the decades of history of many different countries. And you claim things most economists would frown upon, like to blame the 30’s crisis on Keynes, without a hint of further clarification.

IOW, I do not think that, at this level, this is a worthwhile discussion, in my experience it only evolves to each side showing his faith more loudly than the other.

So you win, by W.O.

Annoying Old Guy Thursday, 03 October 2013 at 06:31


No, I preempt Krugman’s excuses. It’s not an argument to say “Krugman says you’re wrong”, especially if you provide no details beyond that. I have read lots of Krugman and that is my experience. I fail to see why I should disregard years of that on your simple assertion with no support. I would even say the “last 5 years only” is classic example of restricting the data to hide the problems. In contrast, I have provided numerous specific examples.

P.S. Even in the last 5 years, Krugman clearly got it wrong about the stimulus. He can say “it wasn’t big enough” but according to government data it made things worse, not better. If there was any validity to his view at all, we would have seen some positive effect, just not enough of it.

Annoying Old Guy Monday, 07 October 2013 at 08:43

CEO of Moody’s agrees with my take on this.

Clovis Monday, 07 October 2013 at 19:09

Actually, he declared something not so different from my take too: “… then we think that the U.S. Treasury is still going to pay on those Treasury securities”.

Special attention to “we think”. IOW, he does not really know, he is guessing, the market is already pricing the uncertainity. So far, it is pricing it really cheap.

If no default to previous debts happen, we’ll still have chance to see how good Keynesians predictions play here, since the “austerity” induced should have measurable impact on GDP.

Annoying Old Guy Monday, 07 October 2013 at 19:38

I would say it is clear, therefore, that my original point is correct — failing to raise the debt limit does not at all require defaulting on the debt.

As for austerity, you make exactly my point. The federal government is about to engage in an utterly massive spending binge for the ACA and you call that “austerity”. Cut the budget by 15% and then you might be able to use that term correctly. I’ll believe in your “austerity” when you give me a rigorous and reasonable definition that doesn’t, at a minimum, involve increased spending.

Clovis Tuesday, 08 October 2013 at 08:11


Your reasoning would be true if you were operating in the blue up to now and ACA were the only reason you went to the red side.

AFAIK, you are operating on the red for a long time, hence the debt ceiling will indeed require decreasing spending.

Annoying Old Guy Tuesday, 08 October 2013 at 09:28

You are still failing to provide an actual definition of “austerity”.

Let me also point out, as I have for years, the regulatory side is just as important as spending. The true essence is government control of the economy, which is the real drag on productivity and economic success. Whether that’s via spending or regulation is a secondary issue.

Clovis Tuesday, 08 October 2013 at 09:40


I will not try a technical definition of austerity, because I recognize my limitations as a lay person in Economics. So I am discussing it in layman level, in accord with my possibilities. You have this tendency, in our economic chats, of trying to level it up to a point where, IMO, we both lack technical training to go meaningfully. (I surely believe we both could learn enough of that if we wanted, but I have already too many things in my learning list closer to my own work).

Your second phrase above only shows that you take your layman opinions too far. There are big areas in economics devoted to dissecate that possibility, presenting multiple and complex phenomena to account for, but you just throw it all away and simplify to some motto you like.

Annoying Old Guy Tuesday, 08 October 2013 at 10:27

If you’re not going to define “austerity”, then don’t bring it up. What’s the point of using a term you can’t define? How can you or I know if a specific policy counts or not?

Your second phrase above only shows that you take your layman opinions too far

Like using the term “austerity”, which is too complex for we mere mortals to understand?

Bret Tuesday, 08 October 2013 at 10:33


The definition of austerity for Keynesians is simple: if the economy isn’t recovering robustly, it is, by definition, austerity.

Clovis Tuesday, 08 October 2013 at 14:55

> What’s the point of using a term you can’t define?

I can tell you the sky is beautiful and blue. You can ask me for my definition of “beautiful” and “blue”. I could try and provide one about “blue”, I would not try one about “beautiful”. Nonetheless, I think we can have meaningful conversation without entering in such level of specificity.

> How can you or I know if a specific policy counts or not? (1) By either understanding all technical details related to the matter, or (2) trusting people you believe are doing that in their specific area of expertise, while you maintain just a general idea of what is going on.

> Like using the term “austerity”, which is too complex for we mere mortals to understand?

The term is as complex as saying the sky is blue. Except that, apart from its obvious meaning, a more technical and detailed one is able to deal with more complex doubts.

So, I understand austerity as cutting expenses and spending less than before - as you too. But I also agree with you the term is used in economic models even when total spending did not decrease. I believe economists still can defend why some of these cases fall under “austerity cases” in their eyes. I believe I also have some general ideia of why - but as it is beyond my soild ground, I prefer to not risk it.

The point here is, I do not feel as comfortable as you giving careless opinions on every topic, even though I already do that more than I should.

Annoying Old Guy Tuesday, 08 October 2013 at 20:52


You were right, as usual.

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