Debt, Government spending and other date conversation topics for married people...

A friend of mine recently forwarded me this piece from J. Kyle Bass of Hayman Advisors.

My response:

From what I understand, an economy can not expand during credit contraction (This stands to reason since whenever there is a credit contraction, the people who find it hardest to access credit are small- to mid-sized businesses who are the engines of growth; however, governments of developed economics rarely find it hard to access credit even at such time. I think this more a function of the markets than policy. As those of us in the asset management have seen, there is usually a 'flight to quality' -aka: US Treasuries- during periods of distress.). But saying so, assumes that all debt is equal. In modest recessions, I think government's incurring debt has a stimulative effect, especially if it is incurred to maintain money flows and some capacity building infrastructure projects.

But in times when public sector debt is already high and interest rates are low, new public debt must be incurred very carefully. Initially, it should only be done for stop-gap measures to prevent an all out financial meltdown; after that, towards measures that transfer funds to consumers and businesses with urgent spending needs for critical expenditures such as housing and ongoing salaries, but this can't be done for very long because it risks creating a long-term entitlement mentality. After this, the next thing that government should spend on are deferred maintenance projects rather than new ones. This is because maintenance and retrofit projects can usually get going with little ramp-up time and such projects can increase economic capacity while providing short-term stimulus.

But the fact remains that we must pay down our aggregate public debt, and we must restrict the incurring of new debt to only equal to spending on either capacity building expenditures or on acquisition of assets with long useful lives. Further, there must always be a policy for paying down and retiring old debt. We should not be borrowing to service current liabilities, especially entitlements and pensions. In fact, funds for deferred future liabilities, such as pension and benefits of government employees, should be set aside as they are incurred, not paid with future revenues.

I think most rational policy people would agree with the above conditions. And up to this point, I agree with true conservatives (not the opportunist GOP politicians currently in Congress or the wacko Tea Party-ers). Where true liberals and conservatives diverge is on the right level of taxation and types and levels of entitlements. So, what level of taxation is sufficient to pay for services that the people deem as being the mandate of the government (national security, judicial, police, fire, primary education, maintenance of public assets, safety and equity regulations,...). On top of this, we need to add to this the cost of paying down and servicing existing debt. Pretty quickly, even with a pared down government, we get somewhere near 20-30% of GDP in my estimation.

From what I understand, no society has ever been able to maintain law and order on anything less than the government commanding less than about 20% of GDP. If there are examples refuting this, I'd certainly would like to see them.