Off the top of your head, how much do you think the U.S. National Debt is?  

  • $6 trillion
  • $10 trillion
  • $15 trillion
  • $19 trillion
  • $26 trillion

Answer: As of May 2020, the National Debt reached a whopping $25.75 trillion!

Given that the national debt has mushroomed, let’s take a look at how it will affect our population in at least five ways.  

First, as the national debt per capita increases, the likelihood of the government defaulting on its debt service obligation increases, and therefore the Treasury Department will have to raise the yield on newly issued treasury securities to attract new investors. This reduces the amount of tax revenue available to spend on other governmental services because more tax revenue will have to be paid out as interest on the national debt. Over time, this shift in expenditures will cause people to experience a lower standard of living, as borrowing for economic enhancement projects becomes more difficult.

Second, as the rate offered on treasury securities increases, corporations operating in America will be viewed as riskier, necessitating an increase in the yield on newly issued bonds. This, in turn, will require corporations to raise the price of their products and services to meet the increased cost of their debt service obligation. Over time, this will cause people to pay more for goods and services, resulting in inflation.

Third, as the yield offered on treasury securities increases, the cost of borrowing money to purchase a home will increase because the cost of money in the mortgage lending market is directly tied to the short-term interest rates set by the Federal Reserve and the yield offered on treasury securities. Given this established interrelationship, an increase in interest rates will push home prices down, because prospective home buyers will no longer qualify for as large of a mortgage loan since they will have to pay more of their money to cover the interest expense on the loan they receive. The result will be more downward pressure on the value of homes, which in turn will reduce the net worth of all homeowners.

Fourth, since the yield on U.S. Treasury securities is currently considered a risk-free rate of return, and as the yield on these securities increases, risky investments such as corporate debt and equity investments will lose appeal. This phenomenon is a direct result of the fact it will be more difficult for corporations to generate enough pre-tax income to offer a high enough risk premium on their bonds and stock dividends to justify investing in their company. This dilemma is known as the crowding out effect and tends to encourage the growth in the size of the government and the simultaneous reduction in the size of the private sector.

Fifth, and perhaps most importantly, as the risk of a country defaulting on its debt service obligation increases, the country loses its social, economic and political power. This, in turn, makes the national debt level a national security issue.

The National Debt level is one of the most important public policy issues. When debt is used appropriately, it can be used to foster the long-term growth and prosperity of a country. However, the national debt must be evaluated in an appropriate manner, such as comparing the amount of interest expense paid to other governmental expenditures or by comparing debt levels on a per capita basis.

Your thoughts and comments (nseiverd@cmiweb.com) are most welcome!

Source:  Investopedia

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