Robert Waldmann (and others) on Dean Baker (and hence Paul Krugman) and the burden of the debt on future generations

Robert Waldmann here.

Bob Murphy here.

Richard Williamson here.

I've done my bit, and have failed. Robert Waldmann may succeed. If Robert Waldmann fails too, that would be very bad for the credibility of economics blogging.

Comments

[Frances Woolley]

Good to see that irony of PK writing about the value of debate on the econblogosphere, while studiously ignoring the intellectual firestorm burning all around him, has not gone unnoticed.

[Richard Williamson]

Nick: Honoured to be linked to.

Frances: Couldn't agree more.

[Kevin Donoghue]

The credibility of economics blogging isn't helped by statements like "the current generation sells the bonds to future generations." Huh? Like, F.Y. Edgeworth travels forward in time and sells me his portfolio of consols? Presumably he has an OLG model in mind. But how does that work? In an OLG model the young buy asssets from the old. Nobody says they have to pay any more than they want to.

Robert Waldmann's most convincing argument is that there's a paper by Peter Diamond which makes the case. Fine, I'll read it when I get the chance. In the meantime I'll just have to suspend judgement on whether Dean Baker understands that model better than Robert Waldmann.

[richard]

"intellectual firestorm"

Is it a firestorm, or just a lit match?

[Min]

richard: "Is it a firestorm, or just a lit match?"

Better to light a match (or candle) than to curse the darkness. Even better to do both. ;)

[Nick Rowe]

Kevin: It's in the collective interest of the next generation to refuse to buy the bonds; but it's in the individual interest of each member of the next generation to buy the bonds.

Diamond's paper is one of the classics in OLG theory. But there's no need for you to read it. You are familiar with OLG models from Benassy. Just set up your own very simple OLG model. Say, 2-period, U=ln(C1)+Bln(C2), (or even U=C1+BC2 will do fine)Zero population growth. E1=100, E2=100, say, so r=1/(1-B) in autarky. Then have the government do a bond-financed transfer to the first cohort, then lets the debt grow at rate r, then since this is unsustainable, the government eventually increases taxes to stop the debt growing. Watch what happens to the utility of the cohort that pays the higher taxes.

From my own experience, and others', it seems that economists only get this point after they have worked through their own example. I worked through an example in the first of my posts I linked to. Bob Murphy did too. But it's embarrassing that we have to work through an OLG model to understand something that's obvious to the average uneducated idiot on the street, who then turns out to be right after all.

[nemi]

Funny that no one gets upset when a economist say something like “free trade is good for everyone” – which, in addition to being trivially easy to show how it might fail to hold theoretically, does not even come close to being true in reality.

Nope – lets instead debate why something that is not true in reality (except, possibly, at a trivial level) could be the case theoretically.

I don´t even think it is about ideology. Economists are simply the worst social scientists ever.

[Robert Waldmann]

Thanks for the link. I would somewhat distinguish between Baker and Krugman. Baker is taking Krugman's side, but Krugman was careful not to make as strong a claim as Baker did. He didn't mention crowding out investment because of Ricardian non equivalence, but he also didn't assert that it was impossible.

[Robert Waldmann]

Kevin Donoghou

I am indeed talking about an OLG model. I was just visiting my parents along with my daughters hence generationS as there were 3 generations of adults around.

Yes the young choose to buy the bonds. But of course it is nicer to be given something than to buy it. Baker asserted that the current generation has no choice but to give the bonds to the next generation. This is false and critical to his argument.

Nick
I assumed that sooner or later I would have to explain that only if the younger generation(s) could act collectively could they get the bonds for free by all refusing to buy them and waiting for the old to die, but that it is in the interest of each young saver to buy bonds. Thanks for making the point for me and thanks again for the link.

[Richard Williamson]

Nick: I think one of the things that went wrong was that the original way the argument was specified involved assuming away 'distributional' issues - and this turned out to be an illegitimate assumption. I used to think something like "If you assume no change in output and even distribution of claims to output at all points in time, then how can the debt be a burden? (Duh?!)". The turning point, at least for me, was realizing that when you have OLG you can't just assume away uneven distribution of claims to output. With OLG this assumption requires older cohorts gift bonds to future cohorts, and (initially) I didn't realize that was implied by the assumption.

At least, that's how it looks to my non-economist brain.

[Robert Waldmann]

Nick

Oops I seem to have repressed my memory of what Krugman wrote. It isindeed the full Baker. I have read one of your old posts and I dispair as it is vastly clearer than my effort.

When was that seminar (you with red face). Diamond published in 1965. I thought the matter was settled then until Barro unsetled it with a clever but totally unreasonable paper. But really, Barro's paper gave about 10 reasons why there isn't Ricardian equivalence so it should have left the issue settled (they were in footnotes so people could write thm up and publish them as critiques and he could tell editors to publish the critiques (and get cites) and later note that he had answered the criticism citing the footnote.) this is the man who once said and I quote "sometimes a critical cite is worth more than a favorable one. I'm just speaking from casual empiricism heh heh heh. I am sure he knew exactly what he was doing -- he was Fukayaming bit.ly/wlbiNc

[JKH]

Krugman says:

“What I was actually saying, of course, is that debt is a liability that we pass to the next generation — but it’s also an asset that we pass to the next generation.”

He can wiggle out of this further (if he wants to) by saying that debt is a burden only to the degree that future taxes required to retire the debt are a burden. Otherwise, it doesn’t matter if future generations inherit or buy the bonds, because such a day of tax reckoning is never assumed, and taxation is the binding constraint that makes this a burden issue in the first place.

So if he ever feels fully pressed on the issue, he can come back and say:

“Taxes? Of course taxes could be a problem. But I was talking about debt, not taxes.”

The other way he can wiggle out of it is to acknowledge the threat of taxation, but include a “consolidated definition” of future generations to always include both counterparties to any bond trade or any inheritance prior to taxation.

[Bob Murphy]

@Kevin Donoghue: I implore you not to roll your eyes and think this is some anti-Obama plot that a few of us have dreamed up. There really *is* something very wrong with Baker and Krugman's analysis on this. They are making a simple error. You think you're being clever by talking about time machines, but the only way for that "insight" to work is if every parent dies at once, then their kids emerge out of pods and take over the factories. Then the kids all die, and the grandchildren emerge, see some Treasury bonds on the ground, and some of them say, "Mine! I got dibs on that tax revenue!" The real world is closer to our OLG models.

@Everybody: Chronologically, this started with a David Brooks op ed, then Dean Baker attacked it, then Krugman linked to Baker with approval, and started elaborating. So Krugman and Baker really "are one" on this, because Krugman linked to the most egregious exposition of Baker, and said it was fine.

[Nick Rowe]

Robert Waldmann may have a better chance of success than me. He was right to cite Diamond 65, which makes his claim harder to ignore. (I am kicking myself for not having done so.) Plus, nobody could say he is an austerian or monetarist and use that as an excuse to ignore him.

Richard Williamson: there are really two distributional issues: distribution within a cohort; and distribution between cohorts. We are making the claim that bond-financed deficits affects distribution between cohorts. That it may also affect distribution within a cohort is uncontroversial.

[Nick Rowe]

JKH: "He can wiggle out of this further (if he wants to) by saying that debt is a burden only to the degree that future taxes required to retire the debt [or pay interest on the debt NR] are a burden."

Correct, [with my edit, which is probably what you meant].

Bob: "@Kevin Donoghue: I implore you not to roll your eyes and think this is some anti-Obama plot that a few of us have dreamed up."

No chance of that now that Robert Waldmann has joined in. This cuts across politics.

And just to re-emphasis, just because the "we owe it to ourselves" argument is invalid, doesn't necessarily mean that deficits are a bad idea. E.g. if the deficit finances investments like schools that benefit future generations the benefits to future generations may exceed the costs; if you're a Keynesian who believes that (only) fiscal policy can kick-start the economy back to full-employment, you could very easily argue that future generations' getting jobs will be well worth them paying higher taxes; etc.

[J.V. Dubois]

I am utterly disapointed about where this discussion ended. Krugman - a selfportraied zombie slayer - seems to be raising a zombie right after it was shot directly in the head. And he is not a bit ashamed. I think that with all that effort so many blogers put into explaining it in so many different ways, there can be noone out there who could not get it. I admit that I had to come through some internal struggle myself, but it took me just a few hours (and comments), most of the time just following how this affects other things I assumed as granted (such as a free lunch stemming from growth higher than interest rate.) In order to preserve my current belief that Krugman is in principle interested in honest discussion, I will pretend that he maybe really just did not catch up with all this.

And now just completely off-topic. I was recently following the whole progressive tax debate. Is there any good source about the tax incidence for various types of taxes and income/wealth groups? Maybe just an idea for next blogpost for Frances?

[Mandos]

From nemi:

Funny that no one gets upset when a economist say something like “free trade is good for everyone” – which, in addition to being trivially easy to show how it might fail to hold theoretically, does not even come close to being true in reality.

Nope – lets instead debate why something that is not true in reality (except, possibly, at a trivial level) could be the case theoretically.

I don´t even think it is about ideology. Economists are simply the worst social scientists ever.

I know, isn't it fascinating?

[Kevin Donoghue]

Nick, Robert, Bob,

Thanks for the replies. Rest assured that when I say I suspend judgement on whether Baker and Krugman are wrong I mean just that and no more. I'm not assuming that you guys are wrong either.

I had a quick look at the Diamond paper. Obviously it's not fast food. As yet I don't see how it deals with my main objection to the notion that each generation can stitch up the next: the young are stronger and fitter than the old, so why don't they just tell them to use their bonds as toilet-paper? Putting the matter less graphically, why should they buy the debt at face-value? It must be obvious that as the debt grows the risk of default increases, whether this is done explicitly or through inflation, particularly if it is seen to be impeding real growth.

[Kevin Donoghue]

With regard to intellectual firestorms: Brad DeLong is still bitching about Edmund Burke, 222 years after the publication of the Reflections. THAT's what an intellectual firestorm does. Believe me, the world will little note, nor long remember, what we have to say about David Brooks and the OLG model he could have used to make his case.

[Nick Rowe]

Kevin: OK. You might want to just read my old post (my first link above) for the simple version.

"As yet I don't see how it deals with my main objection to the notion that each generation can stitch up the next: the young are stronger and fitter than the old, so why don't they just tell them to use their bonds as toilet-paper? Putting the matter less graphically, why should they buy the debt at face-value?"

If all of the next generation clubbed together and colluded to form a buyers' cartel, that is exactly what they would do. (Or they might elect a new government that defaults on the debt). But as an individual member of the next generation, I can gain by defecting from the cartel, and buy up some of the debt cheap. The standard assumption here is that there are large numbers of both buyers and sellers of bonds, so the price is determined in competitive equilibrium. (And since in reality time is continuous, and so there are no discrete cohorts living for two discrete periods, all buying bonds at the same time, it would be very difficult in practice for all members of several cohorts of youngish buyers to collude against all members of several cohorts of oldish sellers.)

Yep. Us lot won't have quite the intellectual longevity of someone like Burke. But this is a $64 trillion question, so we aren't arguing about peanuts here.

[Kevin Donoghue]

Nick, I read your first post. I thought the comments from Andy Harless made the most sense. Frances said "Your story is a perfect description of a Pay As You Go pension scheme." I thought so too, which means it's not a good description of a bond market. I'll look at the other posts later.

You don't need a cartel to push down the price of government debt. My Irish government bonds are worth quite a bit less than I paid for them but AFAIK there's no cartel trying to stitch me up; just a lot of people who see a significant risk of default, which was unthinkable just a few years ago. In the case of a default in an OLG model I presume it's the old generation whose consumption suffers, since I can't see it working any other way.

[JKH]

Nick,

“Correct, [with my edit, which is probably what you meant]”

Hmm ... a bit tricky

The burden on your final cohort C depends on the scenario where they bought the bonds from the prior cohort, and get taxed at the end to repay the bonds, which prevents them from reselling the bonds to recoup their initial outlay.

The interest they receive while owning the bonds is separate from what they paid for them.

If they get taxed for the interest, they pay the tax with the interest coupon. It’s a wash. They don’t lose relative to their original outlay for the bonds.

If taxing to pay interest alone is considered a burden, burden would have to be defined as including earning net zero cash interest (on a cohort basis), rather than the coupon rate of interest.

This seems like an opportunity cost more than an outright burden. The bond holder has not lost any of his original principal value of the debt, net.

By contrast, an outright burden is clear in the case where the principal amount that was originally paid for the bonds isn’t recouped by selling the bonds prior to being taxed.

Is the (separate) opportunity cost of not earning net cash interest the right definition of burden for this problem? If so, should that be made explicit?

I’m not sure which is right.

[Yancey Ward]

In the case of a default in an OLG model I presume it's the old generation whose consumption suffers, since I can't see it working any other way.

Irrelevant.

[anon]

I'm failing to understand this too.

Baker asks, "Where does the money go when the old sell their bonds?"

Rowe responds, "The old use the money to buy goods produced by the young."

In that case the young have both the bonds and the money from the old. AND any goods they fail to consume before they die.

I think the problem I have with Rowe's model is the interest rate is permanently above the rate of growth. Rowe calls have the interest rate below the growth rate a ponzi scheme, but what about having the interest rate and growth rate even? That seems more sensible to me.

Personally, I believe interest rates on governement debt should only keep up with price inflation. Governemnt bonds should be thought of as savings accounts, not sources of income. The return on investement should be what the state spends the funds on.

[Min]

Richard Williamson: "I think one of the things that went wrong was that the original way the argument was specified involved assuming away 'distributional' issues - and this turned out to be an illegitimate assumption."

Baker does not assume them away. He says that they are relatively small. The debt/deficit hawks are scaring people with a burden that they do not define. Baker assumes, I think correctly, that the ordinary meaning of the burden of debt is the perceived burden of the debtors, and that people are scared because that is what they imagine. They would be unhappy if they had additional personal debt equal to their proportional share of the national debt, and do not feel good about passing that burden, or an even larger burden, on to future citizens. But future citizens will include both debtors and creditors, so that way of thinking is too narrow.

Under certain conditions, the distributional issues can be truly problematic. However, the same argument about the burden of future debt was made during the Great Depression, and the distributional problems did not turn out to be so great.

There have been many gov't defaults. Surely there is at least one real life example of passing on the burden of debt to future citizens. Bueller? Bueller?

[Nick Rowe]

Min: "Surely there is at least one real life example of passing on the burden of debt to future citizens. Bueller? Bueller?"

Canada, where we ran budget surpluses for over a decade until about 3 years ago when the recent recession began, is one very clear example. And any other time where there was a primary budget surplus (adjusted) for inflation was also a time when tax rates were higher and/or government spending was lower than it would have needed to be if it weren't for the need to pay interest on the debt.

That's real people getting a worse deal from government because they had to pay the bills run up earlier.

[Nick Rowe]

anon: "In that case the young have both the bonds and the money from the old. AND any goods they fail to consume before they die."

Forget the money; it just circulates from one pocket to another then back. Look at the goods. The young produce goods, give them to the old, and the old eat the goods. In return the young get a bit of paper which says "IOU" on it. And when the young ask "who's signature is on this IOU I own?", the reply is "your signature; you owe it to yourself, as tax payer!". As a group, the young got ripped off. Unless they can do the same ripoff on the next generation...and kick the can down the road a bit.

Read my old post (first of my links in the post above) for a fuller exposition.

[Min]

Nick Rowe: "Canada, where we ran budget surpluses for over a decade until about 3 years ago when the recent recession began, is one very clear example [of passing on a debt burden to future citizens]."

Thanks, Nick. From your hypothetical, I would never have guessed that that was what you meant by the burden of national debt. :)

As I said, different people in this debate do not seem to mean the same thing by the "burden of debt". :)

[Kevin Donoghue]

Nick, I notice that in comments on his blog Dean Baker acknowledges that there are possible worlds in which what you and Robert Waldmann say is true. So as far as that goes you win the debate. How we should think about debt in the real world is a more difficult question. I never studied growth theory as a student and I certainly don't grok Diamond's model.

[Nick Rowe]

Kevin: Yep. I think we have now convinced Dean Baker that the "we owe it to ourselves" argument is invalid. Which is a major success for Robert.

The way I think of it is that the future tax liabilities are a burden. Whether or not there are offsetting benefits is an empirical question. It depends. On a lot of things. Most obviously, on what the money is spent on. Some highly-productive investment that directly benefits future generations? No contest. (Though, even then, the benefit might have been even greater if it had been tax-financed rather than bond-financed, but that's perhaps quibbling.). The main question is what sort of model we have. I can imagine a sort of Keynesian model (not a regular Keynesian model) where there are 2 equilibria, and the economy is stuck in the bad equilibrium, and a purely temporary tax cut can do a "kick start/pump-priming" job of pushing the economy into the good equilibrium, where it will stay, even if taxes are subsequently increased again. (Scott would legitimately ask "Why can't monetary policy do the same job with no future tax burden?", but set that aside.)

The thing that scares me the most: I see economies like the US and Japan stuck in recession with slowly mounting debt/GDP ratios. And the longer they stay in recession, running deficits, the bigger the debt/GDP ratio will be when they do eventually exit. Add the ageing boomers, with their medical bills and dissaving on top of the higher interest rates that normally come when you exit a recession, and things could be very nasty.

That's an (extra) urgency to getting out of recession. There's an extra urgency to having a serious sort of monetary policy. OK, the US is starting to look a bit better (so I hear, and hope). But Europe?!!

[anon]

Nick, I'm a math challenged non-economist so my ability to understand your first post (and your reply to me) is poor.

Why would the government set the interest rate permanently above the growth rate?

If you object to the interest rate being below the growth rate (ponzi scheme), you should object to it being above the growth rate (prisoner's dilemma).

People should lend to the government because they prefer to (safely) delay consumption, not because they are hoping to game the system.

[Nick Rowe]

And the "we owe it to ourselves" zombie reappears yet again:

http://www.project-syndicate.org/commentary/skidelsky49/English

[Scott Sumner]

It's very disturbing to find out that Paul Krugman doesn't pay attention when people correct his errors. Does that mean he won't pay attention to the fact that Noah Smith just pointed out that his criticism of me was bogus? I was expecting an apology any day now.

[Ramanan]

"The peace of mind of a conscientious American must be disturbed every time he is reminded that his government is 250 billion dollars in debt. He must be shocked by the frequent announcement that every newborn baby is burdened, not with a silver spoon, but with a debt of $1700."

http://www.jstor.org/pss/1336267

"...The book [Our National Debt] permits lay readers to retain misconceptions of the nature of public debt and exaggerated impressions of its present size. The amateur is bound to project to a national scale his own experience of private debt. To him “debt” is a frightening word, and counting debt in billions staggers his imagination. But a national debt is a burden on the nation analogous to the burden of a private debt on an individual only if the nation is in debt abroad."

Different times - 1950 - when the US was a creditor nation. But is James Tobin wrong?

Is a newborn born in the US born with a debt of $40,000?

[Nick Rowe]

Ramanan: "But is James Tobin wrong?"

Yes. Flat out wrong.

[Ralph Musgrave]

This entire argument started with Nick assuming (no reasons given) that oldies sell bonds to youngsters. That was in his original apples economy.

That assumption is guaranteed to produce the answer he wants, namely that oldies pass a burden on to youngsters. Angels and pinheads spring to mind.

As someone interested in REALITY rather than angels and pinheads, I’m interested in whether oldies REALLY DO sell bonds to youngsters, and to what extent this increases the burden passed to youngsters.

I suggest that burden passing only occurs to the extent that oldies want youngsters to fund the former’s retirement. Plus changes in the size of government debt will not influence the size of pension income that people aim for. Ergo expanding government debt will not increase the amount of burden passing. Ergo government debt is not a burden on future generations.

[Kevin Donoghue]

I'm sure James Tobin is quite right to reject the idea that "a national debt is a burden on the nation analogous to the burden of a private debt on an individual." It is an unhelpful analogy.

To the extent that I can make sense of the Diamond model, the problem seems to be that real debt is net wealth in a non-Ricardian world. It's a substitute for real capital in portfolios, so its presence affects the accumulation of capital and hence the future wealth of the nation.

If that's what's going on in the model then it's certainly worth asking whether something similar goes on in reality. But it's not something that analogies with household wealth will help us to understand.

[Nick Rowe]

Ralp: if you are arguing for Ricardian Equivalence then what you say makes (at least logical) sense to me. But if you believe in Ricardian Equivalence then you cannot argue that bond-financed lump-sum tax cuts/transfer payments stimulate consumption demand. Make you mind up. Which is it?

Kevin: Yes, the basic insight is that in an OLG non-Ricardian world with no bequests, bonds are net wealth to the current generation(s) that own them, and a liability on some future generation of taxpayers. Introducing capital into the model adds an additional complicating effect: people save in bonds rather than real capital, and the lower capital stock reduces the MPL and hence real wages of the young workers in the next generation. The analogy with household wealth works fine for the basic insight, but runs out of legs when it comes to helping us understand that additional complicating effect on MPL and W/P.

[Kevin Donoghue]

"...people save in bonds rather than real capital...."

Please be careful Nick. You could be the cause of an avalanche of blog-posts from Scott Sumner and David Glasner, writing things like that. S(t)=I(t)=K(t)-K(t-1) so the realized saving has to equal the growth in the capital stock. That's why I'm happier saying that bonds are a substitute for real capital in portfolios.

I have trouble seeing that there's a meaningful problem in a world without capital, but I'm working on it.

[Nick Rowe]

Kevin: "That's why I'm happier saying that bonds are a substitute for real capital in portfolios." ;-) OK! (But here we have one cohort's saving by buying bonds matched by another cohort's and/or the government's dissaving by selling bonds.)

"I have trouble seeing that there's a meaningful problem in a world without capital, but I'm working on it."

Yep. That's the hard bit to see at first. I could only see it when I tore up two pads of paper and made green sheets apples and white sheets bonds and shuffled them around on my desk! Us macroeconomists have been so trained into aggregating across agents in a given time period (Y=C+I+G+NX) that we just can't see it any other way. For this question, we need to aggregate across time periods to look at the lifetime utility (or, more simply, Present Value of consumption) of a given cohort. Once you get the intuition in a world without capital, you can add the capital back in and see how it modifies the results.

[nemi]

"But this is a $64 trillion question, so we aren't arguing about peanuts here."

The debt is not peanuts. The intergenerational redistributional effects, if any, that is due to government debt are.

[Ramanan]

Nick,

Assuming away the external sector (whose importance Tobin understood), was every newborn born in the United States born with a debt of $1700 in 1950?

Or else to make the numbers more intuitive shift forward to 2012. Is every newborn born with a debt of $40,000?

If he pays it off in the first year of working/earning, he is doing well!

[nemi]

PS: However, if this debate makes economists more sensitive to the notion that it is not only the size of the pie that matters, but also the distribution, that would be a great accomplishment.

The standard assumption, that the pie can (and will) be redistributed according to each generations social welfare preferences (which supposedly are independent off the current distribution), is truly bizarre.

[Nick Rowe]

nemi: "The debt is not peanuts. The intergenerational redistributional effects, if any, that is due to government debt are."

Why? Because you believe the old "future generations will inherit the bonds as well as the tax liability" argument that I've shown to be invalid?

"PS: However, if this debate makes economists more sensitive to the notion that it is not only the size of the pie that matters, but also the distribution, that would be a great accomplishment."

The distribution across generations matters too, not just within generations. That's the distributional question that all the "we owe it to ourselves" people are denying.

"Functional Finance (MMT) ignores intergenerational distribution and says it doesn't matter!!" How's that for a slogan? ;-)

Ramanan: "Is every [US] newborn born with a debt of $40,000?"

Yep. (Assuming your arithmetic is correct). Probably much bigger than that, once you include unfunded liabilities on healthcare etc. given demographics (though I'm not sure on the US/Canada comparison there). Unless he can pass it on to the next generation after him.

Have you guys read my first post on this?

http://worthwhile.typepad.com/worthwhile_canadian_initi/2011/12/debt-is-too-a-burden-on-our-children-unless-you-believe-in-ricardian-equivalence.html

[Ramanan]

Nick,

Yes, I had read it but I got the impression that your tone was such that it's wrong to consider newborns being born with a debt but the debt is a burden in another sense etc.

That is the reason I clarified and the reason for my posting here.

(Yes my numbers were just rough - more like an indicative).

[Nick Rowe]

Ramanan: OK. I would say it is roughly right to say they are born with a debt. The twist is that they might be able to pass on that debt, plus interest, to the next set of newborns.

[anon]

Nick, I'm still hoping you'll respond to my question about why the governement would keep the interest rate PERMANENTLY above the growth rate?

Perhaps Krugman and/or Baker (and/or Delong) are assuming the interest rate will be at least kept (roughly) even with the growth rate.

I also think money and trade should be assumed instead of apples. Apples seem to function as a "better than gold" standard. With money and trade the young should always be able to pay their debt.

When you say "forget about money" it seems you would be talking about money illusion/inflation scenarios in the real world. Which could be a problem. But couldn't that be a problem without debt?

[Nick Rowe]

anon: in some models the interest rate will be permanently above the growth rate. In other models it will be permanently below the growth rate. It depends on a lot of things, like: time preference; if you earn income when you are young or old; return on capital; etc.

In earlier posts I made clear that if the interest rate is permanently below the growth rate (as in Samuelson 1958) you get a very different result, because the debt+interest can be rolled over forever, so there is (or needn't be) any future tax burden.

http://worthwhile.typepad.com/worthwhile_canadian_initi/2012/01/the-30-years-debt-burden-non-war.html

Now, maybe you are asking: "Why can't the central bank just set an interest rate permanently below the growth rate?"

Here's the answer: because maybe (depending on the things I have listed above) that interest rate would be too low to be sustainable without eventual hyperinflation. There might be excess demand for output at that low an interest rate. If so: the central bank would either have to raise the interest rate; or else the government would have to raise taxes to tighten fiscal policy to reduce the excess demand. And either way taxes have to increase, either immediately or later.

[Nick Rowe]

anon: "Perhaps Krugman and/or Baker (and/or Delong) are assuming the interest rate will be at least kept (roughly) even with the growth rate."

If that's what they were assuming they would have said so, and said that taxes never needed to be increased, and so there can't be a burden. Instead, they did acknowledge the possible disincentive effects and distortions created by higher taxes.

By the way, AFAIK Brad DeLong has stayed right out of this argument. If he thought I was wrong he would have come down on me like a ton of bricks to defend Paul Krugman. He knows his stuff.

The young could always inflate away the real burden of the debt with an unanticipated inflation. That pushes the burden back onto the previous generation of old bondholders.

[Min]

Ralph Musgrave: "As someone interested in REALITY rather than angels and pinheads, I’m interested in whether oldies REALLY DO sell bonds to youngsters, and to what extent this increases the burden passed to youngsters."

As I asked before, in real gov't defaults, who gets stiffed?

[Patrick]

I'm with Noah Smith on this. Sure, Nick is obviously right as far it goes, but it seems to me we miss something big by just thinking in terms of the oldsters borrowing to fund a giant kegger and sticking the kids with the bill. Along with getting the bill, the youngsters get a functional civilization (roads, bridges, health care system, parliament building, etc). There's value in that.

[Nick Rowe]

Patrick: I'm fine with that way of thinking about it. It all depends what the government spends it on, and how much that benefits the kids. Kegger or roads? Is the kids' value of the road bigger than the value of their bill? If so, no worries.

"Sure, Nick is obviously right as far it goes,..."

If I could just convince everyone of that, I'd be done. But so many are still saying I'm obviously wrong!

[anon]

Nick, http://delong.typepad.com/sdj/2012/01/is-there-any-reason-to-think-that-the-interest-rate-on-us-government-debt-in-the-future-will-be-greater-than-the-growth-rat.html

This is what I'm asking, why would the governement ever borrow at rates above the growth rate except to combat inflation?

Your assumption is that they ALWAYS do so. You call borrowing at BELOW the growth rate a ponzi scheme witch is always sustainable, but if you always borrow at ABOVE the growth rate isn't it always unsustainable?

Wouldn't borrowing at a level consistent over time with the growth rate still require taxes to pay back bondholders? There would just be no net (monetary) burden, what matters is how we spend the money.

(In your first post you write that the government borrows money from cohort 1, then *gives* the borrowed money right back to cohort 1? This seems obviously corrupt and a bad way to spend money. Wouldn't a non-corrupt governement buy something? Or have a multiplier-type rationale for making a transfer payment?)

[primedprimate]

Nick, I know from your earlier responses to my comments that you agree with me that owners of government bonds may very well bequeath their bonds to their children even in a non-RE world. For instance, I think that it is quite possible that the wealthy own a majority of the bonds and most of the wealthy bequeath a significant portion of their wealth (including bonds). I also think RE is not true, because many people (predominantly those less wealthy) are credit constrained. All the repeated assertions by you and others that RE needs to be literally true for the debt to not be a burden, create a false dichotomy, "either debt is a burden or bond financed lump-sum tax cuts/transfers have no effect." The conditions required for debt to not be a burden are much much weaker than the conditions for full RE.

I think only empirical work can show to what extent government bonds are bequeathed rather than sold to the younger generation.

Maybe the issue is that typical economic modeling assumes homogeneous agents and it is hard to informally analyze an economy where some people (bondholders) leave bequests, while others are credit constrained.

I share your sense of frustration - it bothers me too that Krugman has not responded to your posts and I understand it completely if you are choosing to invoke RE to strengthen your rhetoric in order to provoke a response.

[Ralph Musgrave]

Min, This whole argument is based on the assumption that government does NOT default. That's a reasonable assumption because small changes in the extent to which oldies sell rather than bequeath bonds to the next generation won't have any effect on the liklihood of government defaulting.

[Nick Rowe]

anon: why should the government borrow? because it doesn't want to cut spending or increase taxes. It wants to postpone doing that to the future, for good reasons or bad.

"(In your first post you write that the government borrows money from cohort 1, then *gives* the borrowed money right back to cohort 1? This seems obviously corrupt and a bad way to spend money. Wouldn't a non-corrupt governement buy something? Or have a multiplier-type rationale for making a transfer payment?)"

It's equivalent to a bond-financed tax cut. Any time the government buys things and borrows to do so, it's equivalent to: an increase in spending matched by an increase in taxes; plus a cut in taxes matched by borrowing.

primed: back a couple of weeks back I thought I had figured out some subtle way that all bonds could be bequeathed while RE could still be false. Now I've forgotten what I figured out. Meanwhile, I am desperately trying to explain the whole thing to a bunch of people who haven't even gotten to square one. They desperately want to believe that the debt is a 0% burden, and they desperately want to believe that RE is 100% false, and they can't figure out any relation between the two.

[anon]

Nick, I'm totally confused.

1. I keep asking about borrowing on interest rates not LESS THAN or MORE THAN but EQUAL TO the growth rate. And you keep on responding with no explicit references to interest rates. Specifically, do you think EQUAL TO interest rates are still a burden? And what rationale does a government have for keeping interests rates PERMANENTLY above the growth rate? (Does your apple model require the permanently above interest rate to get its result?) (I posted a link to a Delong post where (I think) he shows the interest rate staying even with the growth rate over time. Which might be why Krugman and Baker might make that assumption.)

2. I was confused by the rationality/realism of your apple model. You had no taxes (plus no trade) to begin with and the government borrowed then gave what it borrowed right back to the people it borrowed from at no cost. (I still don't understand how this isn't corrupt, stupid, and/or unrealistic.) A bond-financed tax cut is presumably done to stimulate trade. Would a government borrow from some people and turn around and cut only the taxes of the people they borrowed from?

[Bob Murphy]

Nick Rowe is apparently the muse for my outbursts of fiction. I dedicate this one to the people who are now telling Nick, "Duh! Nobody is arguing with *that* Nick. But we're talking about debt in the real world we are actually facing."

[Nick Rowe]

Bob: I think I now have someone saying that no MMTer ever said anything like that too. Read the comment thread here, especially between me and Jos.

Does this mean you, me and Robert Waldmann have won? I expect it does. But God it's been an exhausting slog!

[Min]

Ralph Musgrave: "This whole argument is based on the assumption that government does NOT default."

Both Nick Rowe and Bob Murphy present scenarios where eventually the gov't is not able to roll over the debt and so must either raise taxes or default. They are not assuming no default. It is that crisis that makes the burden of debt real. And that burden falls on the younger generation, who have bought gov't bonds but do not get the expected payout.

It seems to me that we have a test of their scenarios in real world gov't defaults. Upon whom does the burden of default fall?

[Nick Rowe]

And from Stag Hunt.

[Richard Williamson]

Nick: I'll believe you've really "won" when everyone then goes on to accept Steven Landsburg's point that if the debt isn't a burden due to bequeathing (i.e. older cohorts not changing their total consumption in response to the debt), then it doesn't matter whether the debt is held domestically or internationally. The national/international distinction only makes sense when making the (invalid) identity argument. And I'll be satisfied if people accept that marginal increases in public debt must cause marginal increases in bequests in order for there not to be a burden (which somehow seems less plausible when you put it that way, at least to my mind) (excluding sustainable ponzi financing, of course).

I'd also really like Paul Krugman to admit that his argument was straightforwardly invalid, and requires an assumption he has criticized in the past as being a 'dubious doctrine, even when done right' in order to get to the same result. But I don't have high hopes for that.

[Kevin Donoghue]

Nick,
Yes, you've won but before you get too carried away please take a look at what you've won. As I said upthread, Dean Baker acknowledges that there are possible worlds in which what you and Robert Waldmann say is true.

This might be a bit less than you were hoping for. But Robert Waldmann will settle for it.

[Ramanan]

Nick,

"Ramanan: OK. I would say it is roughly right to say they are born with a debt. The twist is that they might be able to pass on that debt, plus interest, to the next set of newborns."

Reminds me of the book "A Brief History of Time" by Stephen Hawking which begins like this:

"A well-known scientist (some say it was Bertrand Russell) once gave a public lecture on astronomy. He described how the earth orbits around the sun and how the sun, in turn, orbits around the center of a vast collection of stars called our galaxy. At the end of the lecture, a little old lady at the back of the room got up and said: “What you have told us is rubbish. The world is really a flat plate supported on the back of a giant tortoise.” The scientist gave a superior smile before replying, “What is the tortoise standing on?” “You’re very clever, young man, very clever,” said the old lady. “But it’s turtles all the way down!” "

:-)

[Steve Roth]

Here's why I'm still unsure and/or confused:

The model used to demonstrate future burden assumes fixed or arbitarily increasing productivity and zero real growth.

But isn't that the whole crux? Doesn't a "burden" ultimately mean *less apples* eaten/*produced*, *supplied*/demanded per person in the future -- lower real GDP (growth)?

Isn't the question whether economic growth -- change in production/consumption per capita -- will be less in toto over x years if the government borrows today? Isn't that what determines whether future periods/generations will *have to* consume less -- be "burdened"?

It doesn't seem like accounting can answer that, absent behavioral assumptions.

(And yes I'm not counting the potential benefits of spending the borrowed money; call it net zero.)

Nick, if I'm totally not getting this don't spend a lot of time. Just tell me and I'll go do more mental pushups...

[Nick Rowe]

Steve: you are not getting it. But I would like you to get it.

Hold GDP=Consumption constant. Future generations can still consume less. Sounds totally impossible, right? Sounds like I am just doing the adding up wrong, right?

The government gives each young person in cohort A a bond worth 100 apples, paying 10% interest per generation, which he keeps till old. The A grow old. Each young person in cohort B gives 110 apples to each old person in cohort A (in exchange for the bond+interest), who eats them then dies. B grow old. Each young person in cohort C gives 121 apples to each old person in cohort B (in exchange for the bond), who eats them then dies. Then the government decides the debt is too big, taxes each C enough apples to buy back the bonds. So the young C eat 121 fewer apples when young. Then everything goes back to normal.

[Nick Rowe]

Richard: it is very rare for people (let alone economists!) to do what Bob Murphy did, and say "Hey look at what I wrote in my textbook! Man was I wrong!"

The best most of us mortals manage is to say "Hmmm, OK, maybe there's another angle on this" (usually the best I can manage), or "I didn't mean that!", or just stop saying what we used to say.

Let's see if Paul Krugman ever says again: "What I was actually saying, of course, is that debt is a liability that we pass to the next generation — but it’s also an asset that we pass to the next generation."

You have a good point on the debt to foreigners point. But I confess that I have difficulty keeping my head straight on that one too.

Everyone: Check Richard's ,latest by the way.

(I am so proud of myself: I have finally learned how to embed links! Applaud everyone! It's taken me 3 years! Bet I forget tomorrow).

[anon]

Nick, I now see you replied to me twice earlier. (For some reason I could only see one.)

Yet in that post you still have me saying, "why can't the interest rate permanently below the growth rate." When I'm saying, "why can't the interest rate be equal to the growth rate."

I'm saying to have the interest rate permanently above the growth rate is just as unfair an assumption as having it permanently below.

I'm saying Krugman and Baker might be assuming it's equal to the growth rate. And I posted a link to Delong showing that in reality it has been (over time) just that.

Also while money illusion could occur, inflation could also occur. But this does not mean inflation will shift the burden onto the old. There could be equal and offsetting inflation and money illusion.

[Nick Rowe]

anon: Exact equality between r and g is something that could happen with probability p=0.000000000000000001. I don't have the energy to describe what happens there accurately or correctly. It's a borderline case. But no, that's not what Paul Krugman is talking about. Because r relative to g only matters for whether or not taxes need to increase. He talks about taxes needing to increase. once he does that he's in my world, and my argument takes over.

[Bob Murphy]

@Richard Williamson: Yes you're totally right, the only way for people to really "get" all this if when they see that foreigners holding the debt isn't really the issue. So in one sense, we have Landsburg to thank for that aspect of it, but on the other hand, it's infuriating that Landsburg (to this day if I'm not mistaken) thinks Krugman never made the mistake Nick and I are attributing to him. I truly believe it's because Landsburg is a mathematician first, economist second, and so he correctly thought about this stuff in terms of intertemporal budget constraints or something, rather than in terms of faulty intuition. So that's why Landsburg doesn't see how obvious it is that the foreigner non sequitur (or Krugman's thought experiment involving the Woody Allen reference, where some dictator out of the blue creates new debt but hands the bonds out to everybody) show Krugman was committing the fallacy that Nick and I both suffered from in our past. (Nick's distant past, my past from November.)

@Nick's remaining critics: I understand why it seems weird to you that Nick makes some ridiculously strong assumptions, and keeps walking around thinking he has proved a general result. But the reason is that Dean Baker and Paul Krugman based their arguments on an "insight" that was totally wrong. They said things like "it's especially nonsensical" to worry about burdening our children with government debt, and their reasoning is wrong. The easiest way to show that it's wrong, is to isolate away all the extraneous things that could mask either the insight or the fallacy, depending on who's right. So we don't have foreign trade in Nick's model; nobody got mad at him for that. We don't have income taxes in Nick's model that might cause people to harvest fewer apples in period 3; nobody got mad at Nick for that.

But by the same token, we can't have the government building bridges in period 1 either, because that might mask the *gross* harm of the debt to future generations. On *net* there could be a benefit, and Nick wanted to clear that away.

Remember, Dean Baker and Krugman were saying that if we assume away foreigners, distortionary taxes, etc., then IN PRINCIPLE the debt can't burden people in the future. Go read Krugman's post with the Woody Allen reference. It's a very compelling perspective, IF our grandkids just wake up one day and find themselves holding bonds--as they would in Krugman's eccentric dictator scenario.

But if even one of our grandkids had to reduce his earlier consumption in order to be holding that Treasury bond when the tax man goes around to collect its interest payment, then the people alive at that point on net suffer a burden from the debt. It's true, maybe the burden is offset by whatever the gov't originally spent the borrowed money on. But the burden is there. Hence, Dean Baker and Krugman were using a bogus argument to tell people worrying about the debt burden was nonsense.

[anon]

Nick, I'm not saying *exactly* equal, but *roughly* equal *over time.*

If growth goes up (roughly, over time) taxes would need to (roughly, over time) increase to pay off bond holders.

[Steve Roth]

Nick: 'kay: so in some future period(s), the older people eat some of the younger people's apples -- while the younger people are standing there watching them do it! (Fools.) That's the OLG.

Consumption in that period (and the next) is unchanged, but since it's shifted from young to old in that period, consumption per generation is changed. The young fools eat less apples in their lifetime.

So we're not necessarily being selfish at our children's expense (damn, that's a relief!), but if growth is less than interest rates so increased taxes are eventually necessary, we're forcing some future cohort(s) to be selfish at their children's expense. (Greedy bastards.)

I think I got it. That right?

[Nick Rowe]

Steve: you are nearly there. But not quite.

The government gives us a bond-financed transfer payment. We eat more when we sell the bonds to our children. The government then rolls over the debt, borrowing to pay the interest. Our children eat less when young but more when old, but are not worse off over their whole lifetimes (the interest is enough to compensate them for having to postpone part of their consumption until they are old. Then, after several generations, the government decides to increase taxes on our great-great-great grandkids. Who get screwed. They eat less over their lifetimes.

[Nick Rowe]

We are being selfish at our great great great grandkids expense.

[Bob Murphy]

The reason I am continuing to post here, is that (in contrast to many of the naysayers at my blog) the people here seem genuinely interested in figuring out what Nick is saying. So let me try offering more clarification:

Strictly speaking, Nick and I are being sloppy when we say "government debt can burden our great-grandchildren." Krugman and Baker are correct that debt per se doesn't hurt society; every person's debt corresponds to some other person's asset (or even the same person simultaneously, if it's a taxpayer who has Treasury bonds in his portfolio).

Really what the Rowean (?) position is, is that future taxation necessary to service/retire the debt we create today imposes a gross burden on our grandkids. When the government spends money today, it can finance it by taxing the people alive today. In that case, clearly our grandkids aren't paying for it. However, another mechanism is for the government to borrow the money today. If that debt gets rolled over continuously--with no taxation to service it--and then there is a one-time big tax in the year 2100 to pay the whole thing off at that time, then the taxpayers who are alive at that moment bear the full brunt of our spending. The bond market simply allows the government today, to bring that discounted future tax revenue forward in time.

@Nick Rowe, this is where Landsburg's point about the foreigners comes into play: Once we realize that it's not the debt per se that is the issue, but the *taxation* necessary to finance it, then we should see that the identity of the people who hold the Treasury bonds at that time (and hence get paid the interest/principal) is irrelevant. Look, Nick, you have been hammering home the point that even if the debt is held domestically, then our grandkids are still worse off collectively, because the ones holding the bonds earlier in their lives reduced some of their consumption to be in the position of holding those bonds. So, you know that the mere fact that the interest/principal payments go into their pockets in the year 2100 (or whatever), doesn't mean that the people alive in 2100 have a wash.

But Landsburg can be taken to say: By the same token, the Americans alive in 2100 aren't any worse off, if you now inform me that their interest/principal payments get funneled into the pockets of Chinese investors. Why? In this scenario, it means the Americans alive in 2100 never had to earlier reduce their consumption. No, the Chinese investors did.

So Landsburg is *really* saying, "Given that Americans living in the year 2100 will be taxed to service government debt, those people are not affected by whether the debt has been rolled over via American or Chinese investors."

However, where Landsburg went terribly awry (in my opinion) is when he concluded, "Therefore, Krugman was basically right on all this stuff, it's just that 'we owe it to ourselves' even if we owe it to the Chinese." *That* characteristically Landsburgian conclusion was wrong (I claim) both in letter and in spirit.

Nick, please tell me you wholeheartedly agree with the above, otherwise we are in trouble.

[Steve Roth]

"our great-great-great grandkids...eat less over their lifetimes."

Do all the apples that they don't eat lie on the ground and rot? Or are they eaten by their parents, while the kids stand there watching (making consumption in the period unchanged)?

[Bob Murphy]

Oops one little footnote to my discussion of the foreigners vs. domestic financing thing: To make that argument work perfectly, you have to assume that the investors don't benefit from the possibility of investing in government debt. I think that's what Landsburg implicitly assumed. I.e. the government doesn't do investors favors by providing a debt market.

If investors *do* benefit from that possibility, then it gets a little trickier. But if you make the weaker assumption that the Treasury auctions don't discriminate, and that Chinese investors have just as much freedom to bid on Treasury debt as American investors, then I think we're back at Landsburg's result.

[Nick Rowe]

Bob: I read it twice. I wholeheartedly agree. You explain the foreign-held debt issue clearly.

Yes, we have very good commenters here. Like Steve (a good blogger in his own right).

Steve: "Do all the apples that they don't eat lie on the ground and rot? Or are they eaten by their parents, while the kids stand there watching (making consumption in the period unchanged)?"

No apples ever rot. Consumption in each period is always unchanged. The kids' apples are eaten by their parents. But the parents are just being compensated for their apples that were eaten by the grandparents, when the parents were young.

[Nick Rowe]

Landsburg's "mistake" is that he automatically assumed Ricardian Equivalence, and assumed Paul Krugman did too.

[anon]

Nick, did you go to the Delong link I posted? Doesn't that show an interest rate roughly equal to the growth rate for a fourty year period?

Wouldn't taxes have to rise with the growth rate equal to the interest rate? Because as the economy grows so do interest payments.

So Krugman could be assuming they're (roughly) equal (over time) and talk about raising taxes? Because the growth and interest cancel out.

[Bob Murphy]

Anon, for me that Brad DeLong post means (a) DeLong knew that Krugman/Baker had stepped in it, so (b) he was trying to give them an out, by showing that in practice their conclusion was OK.

[Bob Murphy]

Anon: Another thing, more directly answering your question (and I think Nick would agree): No, Krugman was NOT assuming that the debt wouldn't be a burden, because the economy would grow faster than the principal. (I.e. g higher than r.) It's true, Krugman was aware of that possibility, and perhaps in his mind that made him comfortable saying the debt was no problem.

But clearly his main point--echoing Baker--his "ace in the hole" if you will, was the fact that Americans largely will owe the debt to themselves in the year 2100 (or whatever). Krugman even talked about the taxes necessary to service the debt, and how those tax payments would just go right into the pockets of other Americans.

Once the government starts taxing to service (not even to repay) the debt, then the people alive at that time have a gross burden imposed on them. (It could be counteracted by the benefits of the space program, interstate highway system, freedom from Nazi rule, or whatever the deficits had paid for, back when their grandparents' government spent the money. But the taxation is a burden on them.)

So no, it is crystal clear that Krugman's case was NOT resting on the assumption that g > r. In that scenario, the government *never* has to impose a tax to deal with the growing debt. *That's* why the debt isn't a burden in such a scenario, because nobody is ever taxed to service it.

[anon]

Bob, I'm not saying Krugman was assuming growth higher than interest. I'm saying Krugman and/or Baker (maybe) were assuming growth (roughly) equal to interest.

Taxes would still rise, but only as growth and interest rates rise.

If Delong showed that in practice this assumption is true, why wouldn't Krugman assume it?

[JKH]

“The government gives each young person in cohort A a bond worth 100 apples, paying 10% interest per generation, which he keeps till old. The A grow old. Each young person in cohort B gives 110 apples to each old person in cohort A (in exchange for the bond+interest), who eats them then dies. B grow old. Each young person in cohort C gives 121 apples to each old person in cohort B (in exchange for the bond), who eats them then dies. Then the government decides the debt is too big, taxes each C enough apples to buy back the bonds. So the young C eat 121 fewer apples when young. Then everything goes back to normal.”

As you may recall, I've agreed with your particular model from the start.

But the following occurred to me (rather suddenly):

I’m assuming cohort C is taxed 133 apples in your model.

(I’ve assumed a final additional year of compounding, but the actual number doesn’t matter for my illustration here. I suppose they could be taxed 121 at the beginning, or 133 at the end. They’re down 121 in actual start of period apples, because they bought the bonds. They’re down 133 in opportunity cost end of period apples, because they didn’t end up selling their bonds to the next cohort. Either way of looking at it, they’re down. I’ll use 133, because I want to compare the actual case in which they are taxed, with a counterfactual case that continues the previous pattern of selling bonds at the end of the period.)

So, under that assumption, as per your model, C pays the tax with the bonds, both valued at 133 at the end of the period. And C is now down 133 apples in end of period opportunity cost (121 apples in actual start of period cost), because it didn’t get to sell the bonds to a subsequent generation D.

That’s the argument in a nutshell for the future generation burden, I believe.

But at the same time, cohort D, the one that follows C, no longer pays C the 133 apples it would have paid had C not been taxed and sold the bonds to D.

That means cohorts D and beyond in total are up 133 apples in the scenario where C is taxed, compared to the scenario where C is not taxed.

When C is taxed, C is worse off by 133 apples, but cohorts D+ in total are better off by 133 apples.

The net result for cohorts C, D, and beyond is that in total they are no better or worse off, whether or not C is taxed.

So there’s no apparent burden for future generations, net.

(But there is a distribution issue among future generations.)

What’s the response to that?

Is your response still bullet-proof against Krugman et al?

Would they accept a “proof” that it’s sufficient to demonstrate that a single generation C loses due to the tax, even though all subsequent generations in total gain because of it, to the degree that they perfectly offset C’s loss with their gain?

Do you agree that all generations beyond C, in total, gain because of the tax to C?

And that all generations beyond B, in total, are unaffected in total because of the tax?

If not, why not?

And if you agree with that, and that therefore it’s only a distribution issue, isn’t that the kind of distribution issue that’s covered by Krugman’s general caveat regarding distribution (whether or not he thought of this aspect in particular)?

[Bob Murphy]

Anon:

You agree that both Dean Baker and Krugman talked about there being distributional issues *within* a given (future) generation, right? It's what they called "a different kettle of fish" or something. So they are clearly intending their argument to cover a scenario where the government is engaged in taxing, in order to at least partially service (perhaps not pay down) the debt. Their argument was wrong, for the reasons Nick gave.

Now you seem to be asking a related question: If g roughly equaled r over a long period, would there ever be any need for the government to tax people *ever* to service the debt? No, there wouldn't. E.g. let's say the gov't has a debt-to-GDP of 50% in the year 2012. For a few decades g < r, so that debt-to-GDP rises to (say) 110%. But the government doesn't tax anybody to service the debt, it just keeps letting it roll over and grow exponentially. This eventually is OK, because during the next few decades, g > r, and the ratio falls back to 50%. Yeah, that could happen cyclically, and so long as g = r in the long run, there would be no reason for the system to blow up.

However, part of the problem (and this is what I think Waldmann was getting at in the first comment at DeLong's post) with this sort of thinking, is that r isn't independent of the debt size. If the debt gets to be 110% of GDP, investors might start getting nervous and insist on higher interest rates to keep rolling it over.

[Richard Williamson]

@Nick

If Krugman ever says something like that again, tag me in...

@Everyone

This is the simplest way I've come up with to make the key point: bonds are an asset that derive their value from the ability to tax. Therefore, you are going to start getting distribution effects when you start changing the tax base (people being born) without changing the bondholder base. Work from there.

[Bob Murphy]

JKH wrote (to Nick):

And if you agree with that, and that therefore it’s only a distribution issue, isn’t that the kind of distribution issue that’s covered by Krugman’s general caveat regarding distribution (whether or not he thought of this aspect in particular)?

No, absolutely not! No quarter for Krugman!

I don't know why this is so hard for people to accept. Dean Baker and Krugman screwed up, period. I am 99.99% confident of what led them to write the false things they wrote, because I wrote the exact same falsehoods in my textbook treatment of this issue.

They weren't thinking of "future generations" in terms of people living for several periods down the road. Instead, they were thinking in terms of single snapshots of a given future period. They were looking at, say, the year 2105, and thinking that whatever the level of the federal debt in that year, it wouldn't make the people living in 2105 richer or poorer collectively. Sure, some people might get money taken from them in taxes to service the debt, but other people (who would also be Americans, to the extent that the debt were held domestically) would get those payments put right back into their pockets. So yes, Baker and Krugman concede there is a "distributional" issue, but they are talking about the moment-to-moment redistribution occurring when Peter is taxed to make an interest payment to Paul. They weren't at all thinking that, say, the people who live from 2100 - 2160 could all be be made poorer, while the people from 2161 onward could be richer.

Anyway, we can modify Nick's example to show that even on your terms, Krugman is wrong. Have an infinite number of generations. The debt is continually passed down, with every young person being taxed enough to cover the interest payment. I.e. the principal doesn't grow.

So in this revised scenario, the first generation gains, everybody else for the rest of time loses. Since this is theoretically possible in a world satisfying Krugman's assumptions (no distortionary taxes, no foreigners holding the debt, etc.), he is wrong when he concludes that "it's especially nonsensical to talk about burdening our children."

[Oliver]

seems the spam filter ate my first attempt at this comment:

So in this revised scenario, the first generation gains, everybody else for the rest of time loses.

In my opinion, this clearly violates your own condition that there are always 100 apples consumed per period (assuming people don't live forever).

But to quickly recap:

Krugman reads Bob Murphy's table horizontally and concludes 'there is no burden, period'.

Rowe & Murphy read it vertically across overlapping generations and say 'there can be, bahhhh'.

Some thoughts:

Both cohorts (pardon the pun) assume Ricardian Equivalence is bunk. With RE, there can be no burden, nor any benefit, ever, by definition. I.e. there are no options to choose from. Without RE, on the other hand, the options and variations become infinite. That includes an infinite number of possibilities that makes one or the other cohort worse off over their lives. Finding one such example out of an infinite pool does not seem particularly ingenious.

Do you deny that for every such particular case, there exists a fiscal operation that could nullify the incurred 'injustice'? E.g. the overendowed age group could be taxed to subsidise the underendowed one?

And in what meaningful sense is the inequality in consumption that results from your initial act of borrowing different, say, from inequality arising through any other course of capitalist exchanges without government? I don not hear you screaming for a 100% inheritance tax, free schooling from crib to grave or any other egalitarian scheme that would guarantee that every generation consumes 50+50 apples, no matter what. Why the outrage? Why the 'Eureka' moment?

Krugman is right in the sense that there is nothing that the initial borrowing sets in motion that cannot be rectified - assuming time doesn't end suddenly.

You are right in the sense that an act of borrowing sets in motion a chain of events, which, if left unattended, may have adverse effects for some and positive effects for others over time. Considering that logic applies to absolutely everything we do or don't do in life, the attention these posts have garnered seems somewhat exaggerated.

[Oliver]

Nick, seems the spam filter ate my comment multiple times. either that or I'm on your black list.

[Nick Rowe]

Oliver: sorry. Our spam filter disagrees with you. I retrieved all 3 versions, then unpublished the first 2 versions. Let me know if it's still not right.

[Nick Rowe]

Oliver: "Krugman is right in the sense that there is nothing that the initial borrowing sets in motion that cannot be rectified - assuming time doesn't end suddenly."

I disagree. Once the first cohort has eaten extra apples and died, it's too late to turn back the clock and revert to the status quo. All you can do now is decide which of the current and future cohorts will pay for those apples with higher taxes.

"So in this revised scenario, the first generation gains, everybody else for the rest of time loses.

In my opinion, this clearly violates your own condition that there are always 100 apples consumed per period (assuming people don't live forever)."

I disagree. It's still C(young)+C(old)=100 for all time. There are two ways in which future cohorts could be worse off:

1. Same lifetime consumption, but lower lifetime utility, because they are consuming (say) 40 when young and 60 when old when they would prefer a {50,50} package.

2. Lower lifetime consumption, but lifetime consumption asymptotically rising towards 100 as we go further and further forward in time. E.g. cohort C consumes {20,70}, cohort D consumes {30,65}, cohort E consumes {35,63) etc. (Something like that.)

[Nick Rowe]

Bob: "However, part of the problem (and this is what I think Waldmann was getting at in the first comment at DeLong's post) with this sort of thinking, is that r isn't independent of the debt size. If the debt gets to be 110% of GDP, investors might start getting nervous and insist on higher interest rates to keep rolling it over."

It's not just the increased risk of default and nervous investors. Assume zero default risk. People won't want to consume 10 apples when young and 90 when old (which is what is implied by a high debt/GDP ratio) unless you offer them a very high interest rate to persuade them to defer consumption.

[JKH]

Bob Murphy wrote:

“I don't know why this is so hard for people to accept”

The record of entries on this blog will show that I agreed with Nick’s model before you did. And I’m just suggesting some testing of it around the edges that I haven’t seen yet. It would be nice to tighten up the argument where possible, given the amount of time you guys are still spending defending it.

“Anyway, we can modify Nick's example to show that even on your terms, Krugman is wrong.”

I don’t think your suggestion does that. Running cash interest payments would have to be inter-cohort for your revision to work. There’s every reason to observe they’re intra-cohort. So they’re a wash in terms of the specific cohort burden model. Besides, Nick effectively capitalized the interest payments in his model by including them in the debt accumulation that’s sold cyclically from old cohorts to young cohorts. And that’s consistent with bond pricing mid-coupon in the real world. Any way you cut it, it’s the capital value of the bond that threatens in terms of a potential generational burden, not the cash interest payments on it.

I’m just trying to help here to tighten up your arguments. Cut me some slack. You have to be quite specific about your definitions and assumptions in these models and exactly what it is you think you have proven.

[Kevin Donoghue]

Oliver: "the attention these posts have garnered seems somewhat exaggerated."

To be fair, a very small number of people have got rather excited. That's all really. Certainly I agree with Dean Baker that, if we're worried about the burdens we are passing on to future generations, there are lots of things which should have higher priority. The youth of 2112 will presumably be able to vote for default on the national debt. They probably won't find a way to put the oil back under the ground or re-freeze the Arctic Sea.

Having said that, I still think it would be nice to get the theory right.

[JKH]

Here’s another test around the edges.

You all should be a bit more careful before you bash MMT full bore on this issue.

The MMT literature is rampant with the idea that budget surpluses are almost always evil.

That means that paying down debt is almost always evil.

And that’s inherently sympathetic to the view that taxes to pay down debt are a burden.

If you pay close attention to MMT, I think you’ll find that the assumption of no future burden is consistent with an assumption of not taxing to pay down debt. Again, much of the MMT story leans heavily along such a theme.

And I doubt you’ll find Mosler contradicting this.

This is from memory; I’m not about to look for the “proof” of it; but I’ll stand to be corrected on it, even immediately if the counter punch is available.

[Nick Rowe]

Kevin: "The youth of 2112 will presumably be able to vote for default on the national debt."

Too late. We'll all be dead by then. They won't be able to get back the apples we've eaten. But yes, it's not the only intergenerational issue.

Gotta go teach the next generation.

[K]

Nick: "Too late. We'll all be dead by then. They won't be able to get back the apples we've eaten."

No. But they can choose to consume their own production. It's their aging parents (or the creditors) who'll be left holding the bag having given their own production to *their* parents in the hope of doing the same thing to their kids. In both cases it's their own fault: the parents should have defaulted themselves, rather than attempting to perpetuate the fraud onto the next generation; the creditors bought the bonds knowing full well the next generation had no moral obligation to make good on them given that they never consented to nor benefited from the initial issue.

[Oliver]

I disagree. Once the first cohort has eaten extra apples and died, it's too late to turn back the clock and revert to the status quo. All you can do now is decide which of the current and future cohorts will pay for those apples with higher taxes.

You mean which current or future generation will consume less apples? That's the same in your model, and yet it's a condition that consumption is alway 100.

Armed with my background as an architect (which includes some knowledge of simple engineering principles and blissful igonrance of any higher math), I conclude that your model is over determined. Only in a world where apples are not money, paying taxes and consuming less apples is not necessarily the same thing. I say this distinction is necessary to make your model work. Under your 100 apple/period condition, as soon as one generation is taxed to pay for the apples some past generation has consumed, without those taxes flowing back into current consumption, one of four things must happen: 1. The price of apples declines = deflation. 2. The overall money supply increases exogenously. 3. Someone dies early to repay for Nr.1's sins (Christ, that sounds familiar) 4. Less apples are consumed, which violates your initial condition and is the same as 3 in effect.

You need more moving parts or more martyrs.

And the utility argument, which is quite clearly right, is a separate issue, and perfectly compatible with the 'distributional' argument by Krugman, I'd say.

[Oliver]

Oliver: sorry. Our spam filter disagrees with you.

Oh dear. :-)

[anon]

Bob, there would be taxes in any borrowing scenario regardless of the interest rate. (Even if the interest rate were permanently below the growth rate.) Because the principle still has to be repaid.

I think Baker talks about Bill Gate's kids owning most of the debt. I assume this would be a distributional issue. But there would still be no necessary *burden* as long as the interest rate equals the growth rate over time.

The last part of your post seems to be invoking the invisible bond vigilantes. I believe Japan has debt to gdp of over 200%.