Regional debt.

Walter Melnik a professor at Marquette University in Milwaukee

What are we talking about when we talk about state debt? 

State debt is money borrowed to fund capital expenditures in a state or municipality, usually related to infrastructure — for example, building roads or highways. There are a few ways states borrow money. There’s something termed “shadow debt,” where states borrow from state employee pensions. If a state needs slack in its budget without raising revenue relative to its expenses, then it might choose not to fully fund pension obligations.

States and local governments can also sell bonds to the general public to fund expenditures. The interest on municipal bonds is deductible from federal income tax, which appeals to people in higher tax brackets.

How does a state’s debt correlate with its ability to function well? 

Typically, a state borrows to invest in capital, which can benefit its growth and revenue over time. Often, states borrow up front and then earn more revenue in the future if their tax bases grow or they earn revenue from the asset — for example, a toll road or university. That’s a prudent way of borrowing. 

If a state consistently underfunds its pension liabilities, that could result in reduced ability to spend in the future. This can become problematic. It’s hard for people to leave the U.S. as a whole, but it’s relatively easy for people and businesses to leave states when the tax rate increases too much. Then, the tax burden falls on people who are less mobile — less wealthy ­— and can’t leave the state as easily. 

This could be concerning from an economic perspective. For example, a state could borrow to invest in capital that would attract businesses. If when it’s repaying the debt, the business leaves because of higher taxes, that could lower the state’s revenue. 

How “bad” is state debt? 

More debt is generally a drawback, but it can vary from state to state. Illinois has a severe problem with underfunding its pension obligations, which is a “bad” debt because it’s not earning money on an asset. But even though Texas has high debt from borrowing to fund infrastructure, it’ll likely make more than it has to repay from tax revenue because so many people are moving there. 

How is state debt different or similar than household debt and federal debt? 

The federal government can create money to buy back its own debt, which is the primary difference. Most states also have a limitation on the amount of debt they can authorize, and the purpose they can authorize it toward. States generally can’t go against their own constitutions like the federal government can, continuously taking on debt to fund operating expenses or balance the budget. 

State debt differs from household debt in a few ways. Many personal assets depreciate over time, but state investments tend to add value and revenue that covers the debt. Another distinction is that state debt is usually paid off over different generations of taxpayers. Usually, when individuals take on debt they earn the benefits from whatever they buy now but also have to repay it in a shorter term. There’s also an intergenerational element; people who benefited from government spending in their lifetime may not want taxes to get higher to fund future projects when they’re older and wealthier.

Since states can’t print currency to manage debt, what are the best ways to resolve it?

Raising taxes and reducing spending are the two primary ways. In some cases, the federal government may intervene to bail a state out. Some states and municipalities play a dangerous game where they know the federal government doesn’t want them to default, so they take on more debt than advisable, without the guarantee of a bailout. If severe fiscal distress occurs, a city might declare bankruptcy, but that’s unlikely at the state level. That’s one reason state constitutions are stricter on how much debt they can accumulate. 

National debt.

Antony Davies, associate professor of economics at Duquesne University

We hear a lot about national debt. What is that? 

National debt falls into three categories. The first is money the federal government has borrowed from individuals, corporations, foreigners, and the federal reserve. The second is money the government has borrowed from the social security trust fund and government worker pensions. Those two together comprise the $28 trillion we currently have — that’s the official debt. There’s a third piece called unfunded liabilities, which is money the government legally doesn’t owe, but from lenders’ perspectives, it looks exactly like the government owes the money. Unfunded liabilities include future social security, Medicare, and pension benefits that the government has promised. 

How is national debt different than or similar to personal debt?

It’s different in one way, and the difference isn’t huge. The government, because it will persist — or we believe it will — indefinitely, can keep on rolling its debt over. It doesn’t need to pay off the debt. It just has to make the minimum monthly payment, which is called servicing the debt. Household debt not only has to be serviced, it also has to be paid down, because at some point, people retire and can’t afford to keep paying on debt. 

The good news is the government doesn’t have to pay off the $28 trillion. The bad news is $28 trillion is so large that the annual interest costs more than the entire Department of Defense. As we borrow more and more, the annual interest payments will get greater, and those need to be paid every year. 

‘Experts’ seem to take differing and opposite views of the extent to which this is a problem. So, if this is a problem, why or why not?

The debt service is a colossal portion of the national budget; it’s circa $700 billion out of about $4.5 trillion, which is about 15 percent. Economically, 15 percent of the budget isn’t a huge deal. It would be nicer if we weren’t paying it; we could do many other things with that money. 

Here’s the problem, and it’s less economic than political. We’ve reached a point politically where voters are comfortable with this high level of debt, which is clear because we just went through a national election. Throughout the primaries and all the way through the debates, neither side talked about it. That tells me the politicians are comfortable that voters will let this slide. If that’s the case, it will just get worse. Politicians will continue to spend and rack up debt. We’ll have a $2 trillion deficit this year. 

Reportedly, the U.S. owns a high percentage of its own debt. Does that make it better somehow?

When people say that, they’re referring to the second type of debt: money borrowed from social security and government worker pensions. They believe that money doesn’t count because it’s borrowing from ourselves. The federal government has borrowed money from future retirees who are supposed to receive those payments. If they can’t pay that money back, the people who were supposed to receive that money won’t receive payments. It’s identical to this situation: If you live in a house with a few other people and person A borrows $100 from person B, you could say that’s not a problem because we owe that to ourselves. But it’s not ourselves. Person A borrowed from B. If you look at a house as a whole, the net debt is zero, but person B cares. ‍

Why not just print more money?

If we started printing more money to service federal debt, the government could legally fulfill its obligations. But everything will be more expensive, and U.S. dollars will buy less than before.

One smart thing politicians could do in the United States is scale down social security so it only applies to the poor. It was instituted as a barebones safety net; now, the middle class relies on it for retirement when they should be relying on 401ks and IRAs. If we scaled down by a factor of 10, that would go a long way to ameliorate the problem. 

This sounds dismal. Can anything positive come of the debt crisis?

All that we’ve discussed lives within the realm of finance. It doesn’t live within the realm of what we can call the real economy. By that I mean our currency could collapse tomorrow and we still have all the factories, machines, bridges, labor, intelligence, technology, and power plants. All that remains, which means we’re capable of producing tomorrow what we produced yesterday. 

The difference is with a currency crisis, what changes is people’s expectations. But all our productive capacity was the same as it was before. That means there’s a period where everyone will have to adjust their expectations. But once you pass that, you’ll be back to the world as it was.