Monday, 29 October 2012

Azizonomics claims government debt is a burden on taxpayers – wrong I think.

Azizonomics claims that when government incurs debt, taxpayers who don’t hold much debt or any debt, pay taxes to fund interest payments to debt holders. (h/t Mike Norman). And that is allegedly a burden on taxpayers.

However that argument omits inflation, which is an important at the moment given that interest on government debt in several countries is more or less equal to inflation in those countries (e.g. U.S. Germany & U.K.).

So let’s run through the argument and let’s assume that interest is exactly equal to inflation (say 2%). If government funds something via borrowing rather than tax, taxpayers who are not in the habit of holding government debt pay less tax. Let’s say to keep things simple that the government debt is repaid (plus interest) after one year. That means that at the end of the year those taxpayers have to fund repayment of capital and interest.

But hang on. $X at the end of the year is worth 2% less than at the beginning. So on balance there is no net burden on taxpayers. In effect, taxpayers just get an interest free loan. Not bad, eh?


  1. Right. Which is why creditors demand a positive real interest rate and demand that the economy be operated chiefly on this basis.

  2. Everyone has their own real interest rate relative to their own economic behaviour. To say that inflation can in some cases (although certainly not all, both interbank real rates and real rates on government debt have generally been strongly positive in the last 50 years) cancel out the transfer payment inherent to the borrowing costs is an oversimplification. Had the government not been in the marketing for borrowing, the demand for money would have been lower, and lenders would have had to settle for an even lower rate. And if this was a bad deal for investors, they would not be flocking to put their money into it. Even if we have negative real rates, a positive nominal yield is preferable to holding cash, or lending to a defaulter, etc.


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