(Bloomberg Opinion) -- Policy makers and voters often express concern about the level of the federal deficit, which topped $1 trillion last year, and the national debt, now more than $23 trillion. But, unlike a household that owes money to a bank, the U.S. government has the ability to tax its creditors. This power means that the federal government can afford any level of debt that is owed to American taxpayers.
Here’s an example of what I mean.
Suppose that the government’s debt is $100 million per person -- a huge amount that is many times larger than the current debt -- and the interest rate is 5%. How can the government begin to pay this, a figure that amounts to $5 million per person per year? It’s actually simple.
Suppose first that all U.S. taxpayers are exactly the same financially and so they each own the same amount of U.S. government debt. Then, the government can tell each person: your tax bill for this year and every year thereafter is equal to $5 million. People can pay this seemingly huge tax by handing over the $5 million in interest that they receive from the government. The entire process of taxation and debt finance ends up being a complete wash.
Of course, not all U.S. taxpayers are the same and so they don’t own the same amount of U.S. government debt. But the government could simply announce that it is levying an annual 5% tax on all of the Treasury instruments now owned by U.S. taxpayers. That tax would generate enough money to allow the government to pay the interest that it owes.(1)
Neither of these tax plans is inflationary. Their effectiveness doesn’t depend on the federal debt being denominated in U.S. dollars....