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This week, the United States set another debt milestone, crossing the $12 trillion dollar mark. There’s a lot of ways to say $12 Trillion - try twelve thousand billion dollars or how about twelve million million dollars. It’s a number so big, so hard to fathom, that you think a child is making it up. Written out, the number is 12,000,000,000,0000 - stunning - especially when you consider that thirty years ago it was only one trillion. But what is this debt, where does it come from, who do we owe it to, what is your share, and why does it mean that you and everybody else should start living cheaply right now?
Where Does Debt Come From?
Our ever increasing debt is caused by continual annual government deficits. The government simply spends more than it takes in and it does so consistently year in and year out. The federal government gets its income from personal, business, estate taxes, and various fees. The money it collects is used to finance its operations - from national security to education to health care. When the money it collects isn’t enough to cover its expenditures, it goes out and borrows money to finance the deficit. And in the process it becomes obligated to pay interest to the folks - many of them foreigners - who lend them money. And that interest becomes another expense the government has to deal with.
Even with record low interest rates, the annual interest on our national debt continues to grow and not just in terms of absolute dollars. In Fiscal 2009, the interest was about 12% of federal receipts.
On average, the interest rate the government pays is 3.3% which is actually fairly low relative to the amount owed. We ‘only’ have to pay $250 billion a year in interest on our $12 trillion dollar loan. That’s the most troubling aspect of this story because when rates go up, as they must, we’re going to get a rude wake up call.
Go back to the early eighties when 10 year treasuries obliged the government to pay 14%. As recently as 2000, the rates were twice as high as they are now - around 6%. If the rate creeps up to the historical average - 8.0 % - we will have to deal with a potentially catastrophic crisis - like an additional $600 billion in annual interest expense. That would put interest on par with military spending. If investors, especially the foreign variety - start asking for an 8.0% return, we would need to pay as much as a trillion each year just in interest - which is approximately 45% of current federal receipts right now.