Debt and deficit. Two words. Both begin with a “d” and end with a “t” and are associated with the federal government and its budget. But that’s about where it ends when it comes to their similarities; although you wouldn’t know it by the frequency with which politicians and the media conflate the two terms. Now they do relate to one another, but they are not interchangeable terms.
Put simply, debt is the cumulative effect of running deficits. More comprehensively, the deficit—specifically the “federal budget deficit”—is a measure of a single year’s shortfall, or the difference between what the government takes in via tax revenues and what it spends.
Now in order to fund the difference, the government borrows the money, which contributes to the debt. Debt is the total amount owed, which is cumulative over time. So every year the government borrows more money, the debt grows larger.
So let’s put it in personal terms. If you have a household income of $100k per year, and you spend $110k in a year, you have a deficit of $10k. You would likely borrow that $10k, perhaps via a credit card or a home equity loan. Now if you reduce your spending the following year to $105k, you have cut your deficit in half, but you’re still spending $5k more than you’re earning, which means your debt is still going up. In fact after two years, your debt has grown to $15k.
So, when you hear politicians or the media talk about the deficit coming down, all that really means is that our debt is not growing as fast. When you hear someone talking about debt coming down, it’s likely they are confusing the terms or just not telling the truth.
Without naming names, I recently heard a comment on a major cable network that went something like, “the national debt has been reduced every year for the last five years.” I couldn’t help but thinking that his pants were figuratively on fire.
Indeed, the deficit has improved markedly—from about 10% of US gross domestic product (GDP) at the height of the last recession, to less than 3% today. In fact, 2013 was a record-setting year for improvement to the deficit. But even with that good news in 2013, we still have a deficit, which means debt is still growing. Today, federal government debt stands at around 100% of GDP. And if you think that’s bad, total credit market debt—which includes public sector, private sector, financial and non-financial debt—is about 350% of GDP.
History shows that when debt is in this high a zone, economic growth suffers…always has, probably always will. Controlling the deficit is one thing; but getting debt to begin moving in the right direction is quite another.