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Boskin on the Problems of a High Debt to GDP Ratio

Anthony Randazzo
February 12, 2010, 12:44pm

From yesterday's WSJ:

The deficits are so large relative to GDP that the debt/GDP ratio keeps growing and then explodes as entitlement costs accelerate in subsequent decades. So worrisome is this debt outlook that Moody's warns of a downgrade on U.S. Treasury bonds, and major global finance powers talk of ending the dollar's reign as the global reserve currency.

Ken Rogoff of Harvard and Carmen Reinhart of Maryland have studied the impact of high levels of national debt on economic growth in the U.S. and around the world in the last two centuries. In a study presented last month at the annual meeting of the American Economic Association in Atlanta, they conclude that, so long as the gross debt-GDP ratio is relatively modest, 30%-90% of GDP, the negative growth impact of higher debt is likely to be modest as well.

But as it gets to 90% of GDP, there is a dramatic slowing of economic growth by at least one percentage point a year. The likely causes are expectations of much higher taxes, uncertainty over resolution of the unsustainable deficits, and higher interest rates curtailing capital investment.

The Obama budget takes the publicly held debt to 73% and the gross debt to 103% of GDP by 2015, over this precipice. The president's economists peg long-run growth potential at 2.5% per year, implying per capita growth of 1.7%. A decline of one percentage point would cut this annual growth rate by over half. That's eventually the difference between a strong economy that can project global power and a stagnant, ossified society.

Read the whole piece here.


Anthony Randazzo is Director of Economic Research


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