Economy's latest miracle: easing US debt

Washington is paying off debt for the first since 1930, off-setting higher interest rates.

For the first time in 70 years, the United States Treasury is buying back some of the debt it owes the American public.

The last time that happened was 1930, when men wore spats and bread lines wound around street corners. Back then, a $3.6 trillion government debt would have seemed unthinkable.

Today, after decades of deficits, it's the idea of paying it down that amazes many.

Thanks to the roaring economy and stock market, fiscal responsibility is feasible - even in vogue.

And it's good news for virtually all American pocketbooks, not just Uncle Sam's.

"This has tremendous benefits for the economy and exerts downward pressure on interest rates," says Lee Sachs, the Treasury's assistant secretary for financial markets.

Debt reduction tempers borrowing costs for consumers, because they no longer have to compete so hard with the government for lenders' attention. That's offsetting the impact of Federal Reserve interest-rate hikes.

Meanwhile, Washington's finances will get a makeover. Interest payments will become a smaller share of government spending, perhaps eventually easing the tax burden.

And if the debt buybacks go on long enough, they may make it easier for the federal government to deal with high costs when the baby-boom generation retires.

"If someone had thought about doing a story like this even two or four years ago, it would [have been considered] science fiction," says Robert Bixby, executive director of the Concord Coalition, which advocates fiscal discipline in Washington.

Flush with money

Now, the US Treasury is flush with tax revenues - much from stock-market gains - and the national-debt clock is being retired from New York's Times Square.

With the federal budget surplus set to pass $200 billion this year, Washington is weighing the Republican course - large tax cuts - against that of some Democrats - major spending.

The middle course may be paying down debts the Treasury owes to its bondholders, including pension funds, mutual funds, individuals, foreign central banks, and other institutions.

Washington can accomplish that in two ways. It can let some debt - such as 30-year bonds - that has come to maturity expire without immediately borrowing more to replace it. It has done that in the last two years of budget surpluses and in other times (mostly decades ago) when the federal government wasn't running in the red.

In the fiscal year ending Sept. 30, the Treasury will not refinance at least $185 billion of maturing Treasury bonds, notes, and bills - government securities with maturities ranging from 30 years to three months.

A second way to reduce debt is buying it back from the financial community. This year the Treasury has done this for $30 billion worth of unexpired bonds. Last Thursday, it repurchased $11 billion - the sixth buyback this year.

By Sept. 30, after three years of budget surpluses, federal debt will have been reduced by at least $355 billion, the Treasury Department reckons.

These buybacks are aimed at easing various problems that occur when the Treasury just lets existing debt expire. For instance, buying back longer-maturity debt can keep the average maturity of the Treasury's debt low and therefore cut interest payments.

The moves resonate with many Americans.

"Earlier this year I paid off all my credit-card debts," says Ralph DeGennaro, president of the budget-watchdog group Taxpayers for Common Sense. "I was tired of paying all that interest.... I think Americans want their government to do the same."

What's all the fuss?

Still, the debt paydown isn't easy on everyone.

Every month, Dan Fuss, manager of a large bond mutual fund for Loomis Sayles in Boston, must replace some $400 million of his bond investments that have matured. Now, with fewer new issues of tried-and-true government bonds, he has to scramble.

A second concern is that Treasuries - at least 30-year bonds - are becoming so relatively few that they are losing their suitability as a "benchmark" - a reference point for setting other interest rates on private debts.

"I really thought we could rely on Congress not to let this happen," jokes Mr. Fuss. "I thought one thing members of Congress could agree on was to spend money."

Fed policy at odds

In a way, debt reduction and Federal Reserve policy are currently at odds. The Fed has been pushing up short-term interest rates to slow the economy and forestall inflation. But debt reduction has kept long-term rates relatively low - even lower than some short-term rates. "Interest rates would be higher if this were not happening," says James Glassman, an economist with Chase Securities in New York.

Still, Fed Chairman Alan Greenspan has often stated his preference that the budget surplus be used to reduce debt "to foster continued improvements in productivity" rather than to cut taxes or add to spending.

While the Clinton administration has talked about repaying all $3.6 trillion in debt by 2013, some economists don't see that as likely.

The budget surplus will start to disappear in the fourth quarter of 2001, predicts Michael Cosgrove of the Econoclast Advisory Service in Dallas. A slower economy, tax cuts, and extra spending will do the job.

*Staff writer James N. Thurman contributed to this report.

(c) Copyright 2000. The Christian Science Publishing Society

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