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Debt fatigue, not coronavirus, is destroying America

Debt fatigue, not coronavirus, is destroying America
© The Hill Illustration

The United States is experiencing its worst crisis since World War II. No, it is not the coronavirus pandemic. New York and other states are demonstrating how to bend the coronavirus infection rate down, and other states will soon follow. The crisis that is destroying America is debt fatigue.

During World War II, the debt incurred by the federal government exceeded the national income. Politicians knew that this huge accumulation of debt was unsustainable. Therefore, in the years after World War II, they reduced debt to less than half the national income. In that era, state and local governments were also successful in maintaining sustainable levels of debt.

Over the past half century, however, governments at all levels have experienced debt fatigue. The federal government has again increased debt to levels exceeding our national income. Much of this debt was incurred in response to the 2008 financial crisis and the coronavirus pandemic. But the fundamental cause of this debt crisis is not these economic shocks, but rather debt fatigue. For decades, debt has been increasing as a share of national income.

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Although the federal debt crisis is widely acknowledged, less well understood is the state and local government debt crisis. Over the past five decades, most state governments have allowed debt to increase to more than 10 percent of personal income, a debt level that exposes them to risk of default. Most of this increase in debt at the state and local level in recent years is in unfunded liabilities in pension and other post-employment benefit plans.

The states have not defaulted on their debt because of massive federal bailouts. In response to the 2008 financial crisis, and now the coronavirus pandemic, the federal government has extended trillions of dollars in state aid. The Federal Reserve has now allowed the states to designate municipal governments and public enterprises to access emergency lending programs directly. This massive bailout of our state and local governments is not only bankrupting the federal government, it is undermining the future of the nation.

If we can’t rely on elected officials to pursue responsible fiscal policies, how can we solve this debt crisis? Countries that have been successful in solving their debt debacles, like Switzerland, have done so by imposing “debt brake” rules. When debt levels exceed a debt tolerance level, the debt brake rules mandate a reduction in the rate of growth in government spending until debt is reduced below that debt tolerance level. In the United States, a debt brake would mandate that the federal government reduce the rate of growth in spending until debt is reduced to less than half of national income. State governments would have to reduce the rate of growth in spending until debt is reduced below a debt tolerance level of 10 percent of personal income.

If our country is to retain even a modicum of a federalist system, we must restore fiscal autonomy and responsibility at each level of government. A “no bail out” rule has been crucial to the success of European governments in implementing their debt brakes. A no bailout rule would mandate that state and local governments balance their budgets and reduce debt to sustainable levels over the next decade. Such a rider could be attached as a necessary condition for the next round of bailouts from the federal government to the states. 

The experience in Europe suggests that to be effective in the long run, debt brakes should be incorporated as constitutional rules. In states that incorporate voter initiatives and referendums, these fiscal rules could be enacted at the ballot box. In other states, citizens must enact the fiscal rules by relying on their elected representatives. At the federal level, a debt brake could be incorporated in a balanced budget amendment to the U.S. Constitution. If Congress fails to propose such an amendment, citizens could enact the amendment through an Article V Amendment Convention. The U.S. Constitution has never been amended through an Article V Amendment Convention. But the debt crisis that has resulted from debt fatigue by our elected representatives over the past half century is precisely why the Founding Fathers incorporated this form of federalism into the Constitution.   

John Merrifield and Barry Poulson are policy advisers at the Heartland Institute, a free-market think tank located in Arlington Heights, Illinois.