Can Government Debt Threaten Economic Growth?

At this week’s American Economic Association meetings in Atlanta, two economists, Kenneth Rogoff and Carmen Reinhart, explore how high levels of government debt can hurt economic growth. Their research found that when debt levels reach above 90 percent as a share of a nation’s economy, median economic growth rates fall by at least one percent and average growth falls even more.

Another panel on government deficits worried about its fears about the financial future of the United States if spending and borrowing patterns continue at today’s rate.  

We’ve known for some time that high levels of government debt can hurt our economy and that protecting economic growth is an important reason to support fiscal responsibility. Naysayers will rightly point out that the debt of the United States is nowhere near 90 percent in 2010 (even with the almost record high deficit of nearly 10 percent of GDP in 2009). They’ll also say that the United States has nothing to worry about and fiscal hawks shouldn’t worry so much about the debt and deficits.
And they might be right, for now. But under reasonable assumptions about what the Administration and Congress are likely to do over the next two years, U.S. debt will reach 85 percent of GDP by 2018, exceed 100 percent in 2022, and break the 200 percent mark in 2038. And while that might seem years away, it really isn’t. Making changes in spending and revenue policies sooner rather than later can lessen the burden of those changes on taxpayers and beneficiaries.  
But as Rogoff and Reinhart hint in their paper, 90 percent is not a magic number. And they suggest that “debt intolerance” is an expectations game. Ultimately, the number matters less than what markets require in interest rates for a government’s borrowing as markets worry about the risk of buying more government debt. The United States should not wait to find out what its “magic number” might be and avoid paying those higher interest rates. While beginning too soon to curb our borrowing habits could stifle the economic recovery, making a plan to reduce our rising debt levels in the next couple of years should happen now.