One for the economists: national debt and deficit – what's the difference?

These figures are bandied around all the time as indication that we’re in a bad place, but I don’t actually know what they mean…
Is it:
National debt – the amount of money the government owes in total. Not sure if this includes the current account deficit or not
Current account deficit – the amount of money we’re short by at the end of each year – revenue being GDP for that year and expenditure being the amount of money the government spent that year…

So an equivalent in personal terms is: National debt – the total amount of money a person owes – mortgage, loans, car finance, credit card bill, overdraft
Current account deficit: overdraft at the end of each month

Debt – How far you are up shit creek.
Deficit – The speed you’re still travelling up it.

I’m not outing myself as an economist…
but I can tell you that
the tories deliberately misuse the pair,
they do this to confuse and scare.

Well put Ian.

Debt is debt.
Deficit is how much the debt is growing by.

Reducing the deficit sounds like reducing the debt. It’s not. It’s reducing the rate that the debt is growing!

There was a More or Less (Radio 4) programme about this – some Trade Union got the pair confused in a policy booklet / press release, highly amusing :-))

the tories deliberately misuse the pair,
they do this to confuse and scare.

A level that clearly no other party would stoop to. 🙄

I’d be surprised if Osbourne actually understand the difference between the two…

It is very straightforward but as others have commented people use them interchangeably in order to confuse (surely not!)

At its simplest:

Deficit – is the difference between the amount of money the government spends and the amount it receives
Debt – is the amount of money that the government borrows (T bills, bonds etc)

As 5thElephant notes it is important to distinguish between reducing the deficit (ie the gap between spending and revenues) and reducing the overall level of debt outstanding

The National Debt is just that, how much does the country owe.

The Budget Deficit is the direction of travel, how much in the red or black are you on an annual basis.

The Current Account is something different, thats the difference in the value of goods that a country imports or exports either as a whole or versus a specific trade partner. Has all kinds of consequences for the currency and inflation which we need not go into.

Running a Budget Deficit when the economy is slowing is not necessarily a bad thing, the flip side is that you must pay down your National Debt by running a surplus when times are good. Labour did the opposite and saddle us with The Structural Deficit, the gap between taxes in and government spending that will not go down even as your economy begins to grow…..which is where we are now, and why we are debating the size and speed of the cuts.

as your economy begins to grow

Would be great if we were there now!

classically you reduce the deficit and pay off debt when the economy is good, allowing you wiggle room when the economy goes T/U

Unfortunately during the good times Labour opened the deficit throttles to the max

Debt is around 900 billion. Deficit is around 160 billion so the difference is huge.

Debt is our mortgage sort of.
Deficit is the amount we have to refinance each year and essentially stick on the mortgage to pay off the UK overdraft.

Everyone is spot on, so in simple terms if you raise 5 in taxes and spend 10 every year for five years, then the deficit will be 5 for each year, and the debt, ignoring interest, at the end of five years will be 25. So reducing the deficit, reduces the growth in debt not the actual debt.

McBoo raises a third term which is a structural deficit, this is quite important as the government has said it will wipe out the structural deficit which is less than the deficit. On the other hand, Labour has said they will reduce the deficit by 50%. This sounds like there is a 50% difference in spending plans, in fact as the structural deficit is a fraction of the deficit, the difference is about 10%. Both parties are keen to exaggerate the difference, i.e. the Tories think they will benefit by being seen to be taking strong action and Labour like to suggest that they will be much weaker when the difference is actually quite small.

As long as you understand the difference between the two and crucially understand what the deficit is, then you can critically analyse what the politicians are saying and spot the deliberate attempts to mislead.

The tricky bit of course if to determine the extent to which you:

1. Reduce spending
2. Increase revenues

..especially in time of anaemic growth (that will persist for a long time). Some will argue that focusing on growth will lead to increased revenues and offset the need to reduce spending. Others will argue that a reduction in spending is required first – eg, cuts in the public sector. The problem with the latter as we saw yesterday is that the private sector is not hiring sufficiently to offset the reductions in public sector employment.

As ever, in economics and politics it is about balance and subtifuge

Ed Balls is the master of interchanging the two. He likes to claim Britain had one of the lowest levels of debt before the crisis which is true only because we had high GDP growth fuelled (you guessed it) by a debt boom…..people shopping on credit cards and new cars on the mortgage. What he doesnt like to talk about is the structural deficit he and Brown were running which just couldnt be sustained when the consumer stopped spending. Alastair Darling wanted to turn off the taps in 2005/6/7 but Brown was determined to take over from Blair with the support of the unions so wouldnt hear of it.

But the justification that the Tories keep trotting out for what they are doing is that if we don’t we will lose our credit rating and no one will want to invest in the UK, but what they want to do is to continue to let the markets run in a totally unregulated way and just hope that we can make ourselves an attractive victim to keep the markets interested in us.

What they could do instead is to try and reintroduce some regulation that would put a brake on the mad financial system that led to the debt crisis in the first place.

Crap as Gordon Brown might have been domestically, one does have to admit that he seemed to have the confidence of other world leaders when it came to tackling the global debt crisis and he was able to sort out an international response to it.

Alas the same can’t be said about George Osborne.

So if and when we ‘reduce/eliminate’ the deficit we will no longer be increasing the debt (are spending no more than our earnings each year), but will still be horrendously in debt with trillions to pay off. And therefore most of our hard work for the next generation (essentially the rest of my life given I’m nearly 40) will go towards paying off that debt and on its associated interest, rather than investing it in schools, hospitals, infrastructure etc, all the things that make our lives and our kids’ lives better.

And all driven by the desire for glory of a clearly deluded leader…
I try to stay politically neutral usually but screwing over one of the world’s richest countries for the next few decades for the sake of personal glory makes me quite angry. As and when the masses understand what’s happened he’s likely to need personal protection…

If the electorate was better educated in macro-economics and the long term impact of personal debt, we’d have voted him out long before he had the chance to do this…

On the other hand, Labour has said they will reduce the deficit by 50%. This sounds like there is a 50% difference in spending plans, in fact as the structural deficit is a fraction of the deficit, the difference is about 10%.

This

For every £8 of Tory-Lib Dem cuts that are about to hi, Labour Party policy was and is to cut by £7. This is Miliband’s problem, he can’t or won’t say which cuts he would make. That argument has probably already been lost, the man and woman in the street understands only too well that they and the country have to tighten their belts and live within their means. The next election isnt going to be about spending cuts, it will be about tax cuts.

*sighs and walks away from the thread*

And therefore most of our hard work for the next generation (essentially the rest of my life given I’m nearly 40) will go towards paying off that debt and on its associated interest, rather than investing it in schools, hospitals, infrastructure etc, all the things that make our lives and our kids’ lives better.

Not quite.

The vast elephant in the room, that politicians and economists never bother to explain to the general public, is that our economic system can only work with a large amount of debt in it. One man’s debt is another man’s asset. Under our current system, building “all the things that make our lives better” will always require debt to be created in order to do it. The problems arise when the private sector is allowed to buy, sell and swap those debts, effectively adding to them every time they do it.

“We all knew that the situation was not as it was being presented however it was my job to ensure that the public didn’t know about it.”

A labour politician who was spokesperson during the Blair / Brown years this morning on LBC regarding debt and Blair.

When our elected officials admit that lying is their “job” no less and the presenter doesn’t even murmur WTF.

RPRT – nice ideas but too simplistic. The main message from the government re the deficit is to ensure that the plan is credible in order to ensure that borrowing costs do not escalate in the manner that they have elsewhere in Europe. UK currently borrows cheaper than Germany – so give the gov some credit for that, if nothing else.

What are you talking about re regulation? I will leave aside the simplistic argument that it is all the banks fault. But banks are now facing an avalanche of regulation that cannot be met while satisfying the demands to lend. More capital when capital is too expensive leads to balance sheet shrinkage not expansion, more liquidity when it isn’t there/too expensive means hard to lend LT,….

http://www.ft.com/cms/s/0/f2e62f82-f4f2-11e0-9023-00144feab49a.html#axzz1aIqssLQ3

This is why an over-reliance on QE is misguided. The banks are the transmission mechanism at the middle of this but they are not working for many reasons including a necessary but onerous amount of regulation. So QE is likely to be ineffective (apart from weakening the £)

Also important to distinguish on the basis of measurement – %GDP or absolute.

If we put it in a household example –

say two years ago I borrowed 10k off the bank, I was getting paid 20k at the time, so I had a debt amounting to 50% of my income.

well, I got a nice bonus last year, and am earned 30k, so I borrowed another 5k from the bank, total debt still 50% of annual income

Certain politicians would tell you, that I was borrowing the same amount of money as before, everything was OK, all under control, fine and dandy… other politicians would argue that I had increased my debt by 50%, that I couldn’t guarantee that I’d earn 30k this year as well, and that in fact I was much further in debt than I was the year before.

which would you choose to believe?

If the electorate was better educated in macro-economics and the long term impact of personal debt, we’d have voted him out long before he had the chance to do this…

It’s easy to blame politicians for all this, and I’m never shy of kicking Brown but no-one forced us to rack up all that personal debt. No-one complains when they get a new school or hospital in their town either but they have to be paid for. How many of us have friends or family members who bought cars on the mortgage or went on holidays three times a year on a credit card?

We ran up too much debt, so did the government and the banks got way in above their heads. I had a ringside seat during the bubble, there were plenty of people warning about what was about to happen when, specifically the US housing bubble burst and the consumer over there couldnt keep spending. All through 2006 we were hearing and telling people the same story…..

Miss the banks out and go straight for small corporate bonds. Create a low cost market for the issuance and trade of SME bonds, underwritten by a BoE sponsored/govt funded bank. No (or nearly no) M3 issues.

there were plenty of people warning about what was about to happen

The sad thing is that the economists in the B of England where aware of the risks but kept stumbiling at the last hurdle when it came to addressing them. Read this from 2006:

http://www.bankofengland.co.uk/publications/fsr/2006/fsroverview0606.pdf

I wonder what pressure was put on them not to spoil everyone’s party too much!?!

Or was the Governor merely complicit?

Stoner – this may well happen. There are plenty of non-banks that are flush with cash at the moment and not hindered by regulatory change. I am sure that this will lead to some sort of disintermediation of banks as they put this spare cash to work.

It’s easy to blame politicians for all this, and I’m never shy of kicking Brown but no-one forced us to rack up all that personal debt.

They (I refuse to say “we”) were rather encouraged to do that though, given it was what was fuelling Brown’s economic bubble.

brooess – Member
And therefore most of our hard work for the next generation (essentially the rest of my life given I’m nearly 40) will go towards paying off that debt and on its associated interest, rather than investing it in schools, hospitals, infrastructure etc, all the things that make our lives and our kids’ lives better.

You’ll also be paying for all the schools, hospitals, infrastructure etc. which the previous government built using PFI/PPP and which still doesn’t (IIRC) appear as part of our national debt.

Absolutley THM. There’s no shortage of cash out there. But throwing QE and other M3 supply problems in the mix is not going to make peoples’ lives any more comfortable any time soon.

It will inflate away our debt nice and quickly though 🙂
That cant be on purpose. Can it?

Miss the banks out and go straight for small corporate bonds. Create a low cost market for the issuance and trade of SME bonds, underwritten by a BoE sponsored/govt funded bank. No (or nearly no) M3 issues.

http://www.bbc.co.uk/news/business-15148638

mcboo – I dont like the idea of the govt buying the bonds. They’ll probably end up printing more money to do it, it wont price risk accurately, I cant believe it will be liquid or low cost, Id rather the government didnt invest in the private sector on my behalf – Id rather do it myself. Other than that, a great idea! 😉

What they can do is provide side-by-side underwriting to bring the cost of issuance down – risk would be priced by the market, but the cost of insurance would be lower.

It will inflate away our debt nice and quickly though. That cant be on purpose. Can it?

Yes, of course! We had this debate on another thread. Three things can/do happen to reduce debt levels (see history of the 20th Century)

1. Default (as UK did after WW1)
2. Inflation to erode the debt
3. Financial repression where interest rates are deliberately kept below nominal growth

In essence, we are doing 3 at the moment – why would you lend to the UK government at 2.5% for ten years when inflation is at 4%? This happened for large parts of the middle of last century. The danger is that 3 can easily escalate into 2.

Given 3, no wonder the pensioners and savers are up in arms!

Yes, of course!

I needed the winky smiley to make it rhetorical, didn’t I.

😉

What are you talking about re regulation?

Capital controls – taking the power to create money back from private banks to the state.

Preventing individual financial institutions from becoming “too big to fail”.

Limits on the creation of some of the more ridiculous derivatives. (clearly, left to their own devices, financial institutions are not capable of doing this by themselves – it was the US subprime crisis that kicked the current debt crisis off)

Limits on short selling (because it seems clear that the level of abuse of this is greater than any benefit).

Taxing financial transactions in order to swing the balance back towards investing rather than trading.

etc etc.

it was the US subprime crisis that kicked the current debt crisis off

It was securitisation that led to subprime lending being viable and ultimatley failing. Not derivatives.

Derivatives of sub prime securities exacerbated the fall out, not caused it.

Wouldn’t you say it was the creation of derivatives that allowed the institutions that created the securities to pass the bomb?

If the institutions that issued the mortgages had known that they would have to keep hold of them, or at the very least make it transparent what they were selling on, then we would never have had the huge bubble that eventually popped?

Surely it was the creation of the derivatives that allowed that market to grow?

Perhaps. Id concede that credit default swaps allowed the risk to be distributed. But the original securitisation structure was what enabled issuers to brand junk loans as AAA not the fact that their default could be insured against. That came later.

An examination of the public debt level in 1997 reveals that Labour substantially improved the position they inherited from the conservatives. On the other hand, we all know what happened after that.

If you think that there’s any great difference in either party’s management of the economy, you’re deluded.

…and shift them off balance sheet – which the regulators in Europe ignored!

…also don’t forget that IR were kept artificially low leading to hunt for yield/mis-pricing of risk.

…are we going to have another short selling is logically/morally worse than going long debate!!! 😉