Can You Solve A Debt Problem With More Debt?

It is often said — particularly in Austerian circles, and most recently by British Prime Minister David Cameron — that “you can’t solve a debt problem with more debt”. 

This is, I think, an entirely tautological definition. It is definitional that you can’t solve a drowning problem with more water. You can’t solve a burning problem with more fire. But what exactly is a debt problem? What does that even mean? Austerians seem to think that it means rising levels of debt, and those that charge that we have a debt problem often use scary-looking non-inflation adjusted charts that show soaring levels of nominal debt as an illustration that debt levels are out of control:

But that is not the same as a debt problem. As Frances Coppola notes, unless the level of debt is shown as a proportion of total economic activity, a nominal debt figure is totally meaningless. And as a proportion of GDP, British government debt levels are very low relative to the historical norm:

That tiny blip upward toward the end is what David Cameron calls a “debt problem”? Seriously? Yes, debt levels have reached new nominal highs, but those nominal highs are supported by a proportionately larger level of nominal economic activity. Using the current British situation as an example of a “debt problem” is intellectually dishonest — and using this totally arbitrary definition of a “debt problem” as a justification for austerity doubly so.

Yet even debt as a percentage of economic activity is not flexible enough to really define a “debt problem”. Reinhart & Rogoff's 90% threshold for lowered growth is dead; every country and situation is different. The truest kind of "debt problem" is a solvency crisis, where a debtor can no longer service its debts and thus forced deleveraging. Of course, before hitting a solvency crisis there are warning signs. The best measure of a growing “debt problem” is interest rates. Rising interest rates — like we see in Greece, and to a lesser extent Italy, Spain and Portugal would indicate falling confidence in the government’s ability to repay its debts in a timely and non-inflationary fashion. Yet that is not what we see today in Britain. 

Quite the opposite:

Interest rates on government debt are still close to all-time lows. So, the notion that the British government has a debt problem is not just wrong, but absurd. Cameron is just repeating unrealistic assumptions in the face of massive evidence to the contrary. The relevant aphorism here is not “you can’t solve a debt problem with more debt”, but “you can’t solve a derp problem with more derp”.

In the private sector, we see something much more like the aftermath of a debt problem —  mass deleveraging. In 2008 private sector debt in many Western nations including the USA and the UK hit all-time highs as a percentage of GDP, and since then both nations’ private sectors have been deleveraging. This has depressed private investment and consumption. In this context, the UK does have an unemployment problem, with over 8% unemployment for most of the last five years and currently over 2.51 million individuals looking for work. This is a serious market failure, and evidence shows that the long-term effects of mass unemployment are deleterious and lingering.That problem could easily be solved with more borrowing and job creation, using debt-financed fiscal policy to bring down unemployment until the private sector begins expanding again. This would kill multiple birds with one stone, as evidence shows both the US and the UK are chronically under-invested in infrastructure.