Sweet relief: How we can pay our national debt upstream.
What would you do if you had a trillion dollars? Would you rebuild every aging public school in the country? Finance wars of principle in three Iraq-sized nations at once? Underwrite an array of hydrogen stations to replace gas-burning cars? Reinvest it in high-end stocks like airlines and biotechs? The multiplicity of options, like the size of the number, boggles the mind.
Thankfully, you don’t have to make that tough decision. You’ve ceded that right to the Chinese, who as of this writing possess some $1.1 trillion in US Treasury bonds, a big part of the $6 trillion we owe to foreigners. Our orgy of spending in the last quarter century has been underwritten by the Chinese and Japanese banking systems. They took our traditional role as the world’s lender of last resort, and we’ve resorted to them on a daily basis for decades.
This might be tolerable if the Chinese banks weren’t on the verge of total collapse. Because of shadow banking and unchecked debtmongering, China’s outstanding credit is now three times its gross domestic product. This raises the ugly specter of the Chinese calling in their loans. That could lead to something not seen in this nation for five generations: a run.
You remember the run. You saw it in It’s a Wonderful Life, as the residents of Bedford Falls rushed to the Building and Loan to get any payout they could on their home accounts. Except that was a movie. This time, there’s no kindly George Bailey telling you that your money’s in Mrs. Macklin’s house. This time, it’s General Secretary of the Communist Party of China Xi Jinping, who thinks he’s the most powerful man in the world. And he wants your money.
The federal government spends more than 6 percent of its earnings — your taxes — as interest on the deficit. That’s about $266 billion a year. Those are payments we pay first, assuming we make them. Those last four words are what stops the Chinese from calling in our loans. We’ve shown a propensity not to pay before; this is what led to Ted Turner stepping in to pay off our United Nations dues. We could do that again, but of course, we take our position in the world seriously. Unless some moron defaults on our debt, China won’t call in the principal. The system holds together for the time being. But if China gets deeper in hot water, that time might come to an end.
So what can we do? We can’t crank our economy into gear any faster, can we? We’re not at full employment by any standards, but the US economy is still pumping along at its innovative best. We could do some trimmings around the edges — end self-employment taxes to encourage small-business innovation, say — but we won’t double our production no matter what we do.
But what if we had our debt back? We’d stop paying interest. We could do a lot with $266 billion a year. To get our debt back, we’d have to have something we don’t want, but that the Chinese would want. If we gave them something we need, we wouldn’t be helping our situation. And we don’t have a trillion bucks in spare cash, or anything else. Except one thing.
We have other people’s debt. From the end of World War I to the mid-1980s, the US was the world’s biggest creditor. Sure, we’re now the world’s biggest debtor, but there are a whole lot of loans lying around that haven’t been paid—roughly two and a half trillion dollars that nations owe us in longterm debt. For example, the least developed countries owe us a couple hundred billion. In his last days in power, President Clinton tried to forgive their debt. The plan didn’t even make it to Congress. These countries are being destroyed by the interest on these debts. Could their interest be in our own self-interest?
Let’s say we traded these nations’ debts to us to the Chinese. We’d be giving up our interest on their debt, in exchange for forgiveness for some of our debt. Poker players call this “upstreaming.” In the poker game known as 3–5–7, all players pay every player that beats them. So three players might go into a hand knowing that if they don’t have the best hand, they will pay an amount equal to the chips in the pot to each player that beats them. In practice, though, the lowest of the three hands pays the winning hand twice the pot (paying “upstream”). That’s a lot simpler than the lowest hand paying the middle hand and the highest hand, the middle hand paying the highest hand and being paid by the lowest hand, and the high hand being paid by both.
Paying upstream in the financial world means that if Country A owes Country B $3 billion, and if Country B owes Country C $3 billion, then Country A could just pay Country C $3 billion, zeroing out Country B’s debt to Country C. Country B need not participate in the payment stream.
This runs aground, of course, on whether Country C wants Country A’s debt. In the poker game, if the lowest hand needed to reach into his pocket to pay for a hand, and then said he didn’t have any money, then the highest hand would be justified in demanding that no upstreaming occurred. He’d want whatever he was owed from the middle hand, and then both solvent players would take the deadbeat out back for some re-education.
Country C, in this case China, might take the $17 billion that Israel owes the US at a one-for-one basis. Israel pays its bills regularly, so that’s a safe trade. China would be less inclined to take Brazil’s $42 billion in longterm debt to us. China figures that (a) it already has some of Brazil’s debt, and (b) Brazil is in the middle of a meltdown. Brazil’s debt is a worse risk than American debt, so taking it is a more dangerous investment than just holding America’s debt.
That is, unless China understands the concept of pot odds. Calculating pot odds is how good poker players know when to make a bet. In the course of a game, nearly every hand has a calculable chance of improving to be good enough to win. In Five-Card Draw, if you have four consecutive middling cards (say, 6–7–8–9) before the draw, you have eight cards (four 5s and four 10s) that you could draw to make your straight, among the 47 cards you haven’t seen. This 8-out-of-47 ratio is a 17 percent chance (8 out of 47), or roughly 5:1 odds of failing to make your straight.
You figure your pot odds by comparing these odds of failure with the amount you would make if you succeeded. You make a new ratio based on the amount of money in the pot with the amount you must pay to call the bet. So if there’s $12 in the pot and the amount you must bet is $2, the bet odds are 6:1. If the bet odds exceeds the failure odds, you bet; otherwise, you fold. So in this case, the 6:1 bet odds is greater than the 5:1 failure odds, so you’d bet on your outside straight draw. Over time, you will make money making this play.
Certainly exchanging the American debt straight-up for less reliable Brazilian debt is a bad idea for China. But there must be some rate at which the Brazilians will pay their loans, and pot odds tell us that there’s an exchange rate that makes sense. Its neighbor Argentina did this very thing in 2005, restructuring its post-default debt to pay at 30% of face value. It worked.
So let’s say Brazil is only 1/3 as likely to pay as we are. Then if America offers China $4 US in Brazilian loans for each US dollar that China forgives, China should take that deal. China gets the $42 billion in debt certificates that Brazil has with us, and we get $10 billion in relief of our own debts to China. Nobody defaults, Brazil gets one less creditor, and the US and China are better off.
When we trade away our debt, we can spend like a nation that has some level of self-control. It’s not guaranteed, of course, but it’s possible. Right now, no one has capital to do anything, so everyone suffers under the onus of debt. Open this up, and we can start making sensible decisions with our money.
Assuming, of course, we stop racking up our debt. Which we could do as long as nobody tries to give a $1.5 trillion tax cut to the rich and… oh, okay.
This is the seventh of a series of posts on politics and game theory. Earlier posts covered impeachment, Russian collusion, white supremacy, abortion, guns, and nuclear war. These essays are in my book Game Theory in the Age of Chaos, which you can order by clicking the link.
