[ELI5] How countries could technically erase any debt they have?

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On Twitter I saw some post about universal income, some mentions that would add even more debts to countries (but that’s not the point of this) and some answers that countries, well their central banks actually, can just say “nope” to any kind of debts applied to them.

Is it technically true? And if so, what are the reasons it’s not applied, diplomatic, economic, capitalist unwritten rule?

In: Economics

If a country was to say, “We don’t have debt now. We just magic waved it away,” then 5 minutes later when they go, “Oh, we still need to borrow money,” the rest of the world would tell them to get lost.

There’s also the possibility that they might even get invaded by their neighbouring countries who want the money they’re owed.

The problem with this thinking is that it is one sided. The premise is that “government debt is BAD and EVIL and must be eradicated”. This is generally naive. Transactions involve at least 2 parties – the borrower and the lender. Do you assume that “ALL lenders are EVIL and should simply be stiffed.”?

The lenders can be investors, financial institution, pension firms, insurance companies, normal companies etc. So here are some easily understood reasons why simply “cancelling” debt is a very bad idea:

1) Insurance companies collect premiums and hold a sum of money to pay off claims. These holdings are usually invested and a significant part will be government debt (ie they lend to the government). So now these insurance companies cannot pay claims (since their assets just “evaporated”). The person who is in hospital cannot pay the hospital. Now the hospital denies treatment or is out of their payment. Now what? Hospital and insurance company goes bankrupt?

2) Depositors hold their savings in banks. Banks reinvest some of this in debt because they need to hold these deposits in “safe” assets like government debt. Now this debt is cancelled. Depositors lose their funds. Now the government has to print money to reimburse the deposits or the entire financial system and economy goes into chaos. Why do this? The government can just as simply print money and pay off the debt rather than cancel the debt. This has far fewer economic consequences in the short term.

Economies are complex things that don’t lend itself to slogans and naive actions. The most important thing for government is to maintain confidence and stability. The debt isn’t as important as maintaining productivity and social order. The idea of unilaterally cancelling debt is like burning down your house to destroy a termite infestation.

Countries technically could choose to default, or simply say they weren’t going to pay back. Or they could print more money with which to pay back debt.

The problem is that defaulting makes it impossible, or at least much harder/more expensive, to borrow again. Government bonds are invested in because of the security of known returns and safety of one’s principal. If those benefits go away, investors won’t invest, especially not at the low interest rates governments typically can offer. A government like the U.S. can afford to borrow so much because investors are willing to buy bonds from them at 1 and 2% interest. If rates were 5% or 10% or 20%, then they couldn’t afford to do so.

And if the government printed more money to pay back debts, they’d fuel inflation, which would reduce everybody’s buying power, deplete everybody’s savings, and generally make a country less well off.

So both are very short sighted, though technically feasible, responses to debt but ones that would cause whole heaps of bigger problems for the country’s economy.

Countries can default on their debts.

It usually happens only in times of extreme crisis or after a major change in who is running the country like revolutions or takeovers.

The new government comes in and says that they won’t honor any of the debt that the previous administration created and that debtors can get lost.

This works out well for the suddenly debt free nation until they try to take out any new loans.

People are generally reluctant to loan money to someone who has a track record of not repaying their debts.

The only way to get anyone to risk loaning you money is to offer very high interest rates, to make it worth the risk for them.

Having to take out loans with high interest is a very good way to get deeper and deeper into debt very quickly and then having to default again.

It is a bad idea for everyone involved.

Of course the very idea that universal basic income would require countries to increase their debts is silly, since if done the way many people want it to be done it would actually save the government money.

OK, if country A owed country B 150m and country B owed country A 175m can they not just both agree that A owes B 50m and B owes A 75m? Can they not just both decide to waive away the 10pm?

debt is a “gentlemens agreement” for payment in the future.

You can always break that agreement on your side. the problem them is, once you do it, no one will like to make such agreement on the other side (i.e. lend you money).