Does the Government's Debt Matter?

U.S. Capitol building

Are you concerned about the size of the U.S. government debt? While many people think we should reduce federal debt, which totals more than $18 trillion, few support the tax increases and spending cuts needed to do this.

The good news is that the U.S. government’s debt isn’t likely to be a problem for economic growth or the financial markets anytime soon. Unlike Greece, the U.S. is wealthy and can pay its debts. But the growing debt matters. How does it affect you? It’s a good idea to prepare for the likely shifts toward higher taxes and fewer benefits ahead by possibly investing more and spending less.

Crunching the numbers

As the chart shows, the federal deficit (borrowing) was $438 billion in 2015, or 2.5% of gross domestic product (GDP). It is likely to remain near that for a few years. However, it may rise faster in the future because mandatory federal spending, especially on Medicare, Medicaid and Social Security, is projected to increase faster than revenue as more baby boomers retire.

Although many worry about the impact of rising interest rates on the deficit and the debt, interest payments are smaller and increase much more slowly than spending on Social Security and major health care programs over the next 10 years, according to the Congressional Budget Office.

2015 U.S. Government Spending vs. Revenue and Borrowing chart

Source: Congressional Budget Office, March 2016. Past performance is not a guarantee of future results.

Debt doesn’t trouble markets today

The U.S. can address the debt and deficit – but if the past is a guide, it will do so only when it has to. Many people worry that we can’t afford our federal debt, but we believe we can. Here’s why:

  • It’s not as overwhelming as it seems. When it comes to the government, all the numbers are big. Our debt of more than $18 trillion is not so large when compared to our net wealth of about $85 trillion.
  • Keep a long-term perspective. Most of the time, the debt is compared to national income or GDP, and the percentage of GDP has varied over time. Just after World War II, the debt held by the public (which excludes debt the government owes itself) was more than 100% of GDP. More recently, debt held by the public was about $13 trillion, or 74% of GDP.
  • Faster economic growth helps. When the economy grows faster than the deficit, it’s easier to afford. That’s one reason among many that faster economic growth would be good.

Expect higher taxes and fewer benefits

In election years, candidates talk about spending more on popular programs such as education and infrastructure. But if they’re implemented, higher spending raises the deficit and debt. In contrast, reducing the deficit requires higher taxes and shrinking spending.

We expect Congress will eventually address corporate taxes as well as the rising deficits and debt, but we don’t know when that will happen or what the mix of tax increases and benefit cuts might be. That’s why we recommend owning tax-advantaged and tax-deferred investments such as:

  • Municipal bonds
  • Roth and traditional IRAs
  • 401(k) accounts
  • Education savings accounts

Talk to your financial advisor about the best way to incorporate these into your investment strategy, as appropriate.

In addition, consider investing a little more and spending less to address the possibility that your benefits such as Medicare may not be as much as you currently expect. That’s much more realistic than prognostications of financial disarray.

Deficit vs. debt: What’s the difference?

A deficit occurs when the federal government spends more than it takes in. The debt is essentially the sum of the government’s past deficits. The federal government has run a budget deficit for most of its history.

Find a Financial Advisor

Find a Financial Advisor

Select a State and then enter a last name