Don’t Fear the Debt
President Obama's latest stimulus plans will cost more money in the short-term, but taking on the extra debt could be a good deal for taxpayers.
The president has proposed three significant measures, each of which in the short term will cost money. First, businesses will be able to write off new investment in plants and equipment more quickly (which would reduce tax revenue in the short term). Second, the government would provide a research and experimentation tax credit (which would increase government cost). Third, the government would spend $50 billion on transportation infrastructure (which would increase government cost). How should a taxpayer react? Is the additional debt these proposals create a good thing or a bad thing? What is good debt and what is bad debt?
Understanding the concept of a balance sheet would be a good step in making a decision.
Consider two American families. One family rents a roach-infested apartment with carpet and drapes that reek of past cigarettes and mold. The head of the family dropped out of high school (a very bad one, at that), has no further education, and works an unstable minimum-wage job with no prospects for advancement. A 20-year old automobile sits parked at the curb, but does not operate dependably, if at all. It's 90 degrees outside and humid, but there's no air conditioning in either home or auto. Adding up all the family's assets (say, $2000 max, including the car and a new big-screen television) and subtracting debt ($500 for the television bought on a store credit card) the family has a financial net worth of $1500. Their balance sheet is a small one, with very little debt or... for that matter.... equity, and they are struggling to pay down the credit card.
Somewhere else in town lives another family. The head of the family graduated from high school, college, and medical school, and is a physician who developed a specialty and is now earning $400,000 per year. Medical school loans total $200,000. They live in a 3-bedroom, two bath house in a good school district. The house is nicely furnished and air-conditioned. The carpet and drapes are new and odor- and toxin-free. The house has a value of $500,000 and a mortgage of $400,000. Two cars sit in the garage, both late model, both well maintained, both $30,000 in value, one paid off, one with $15,000 remaining. There is a newly established retirement account of $40,000. No credit card debt. The head of the family makes enough to pay the mortgage, pay ahead on the student loan, make scheduled payments on the automobile's no-interest loan, put money into a retirement account, begin a college fund for children, and still has enough left over for a nice family vacation or two.
Adding up all the assets of the second family (home, autos, retirement account) you get $600,000, from which you subtract debt ($615,000) to arrive at a financial net worth of negative $15,000. Offsetting that negative $15,000 net worth is the value of the educated human resource... the income earner.... who has positioned the family for prosperity, the fruits of which the family even now has started to enjoy. This family has a large balance sheet, including both debt and equity, but in concrete terms is presently lower in net worth than the first family. Still, it was the debt... especially the student loan, the auto loan and the mortgage... which made it possible for this family to assemble a plan for a high quality of life today and into the future.
Which family would you rather be a member of? Which family would you rather lend to with some hope of getting your money back?
The point is that debt, whether national or household, is especially legitimate on one side of the balance sheet when it is used to create an asset of commensurate or greater value on the other side. Unemployment benefits, for example, or tax reductions designed to spur the purchase of consumer goods, both have some important benefit to the recipient no doubt, however no asset is created or encouraged which has a prospect of enhancing our future national prosperity. But just as after World War II, the GI Bill created a generation of well-educated veterans, and our expensive interstate highway system accelerated national commerce, so transportation infrastructure, research and development, and business investment all are more likely to generate return and enhance our long term national prosperity than other types of spending might. As such, the assets produced may substantially offset, and perhaps even substantially outweigh, the debt incurred. It is on this prospect that the proposal should be judged.