Don’t Repay the National Debt

It’s time to revive a British financial innovation from the 18th century: perpetual bonds.

Portrait of Prime Minister Sir Henry Pelham, oil on canvas, 1751.
Prime Minister Sir Henry Pelham

Painting by William Hoare/National Portrait Gallery, London/Wikimedia Commons.

Britain and France were the superpowers of the 18th century, clashing repeatedly over the succession to the Spanish and Austrian thrones, overseas colonies, and eventually American independence. Britain’s most famous advantage in these struggles was its naval strength, but another important edge was its more sophisticated financial system. Advanced finance allowed the country to maximize the quantity of resources it was able to bring to bear during the acute crisis of war without crushing the underlying sources of economic growth through excessive taxation. Modern-day finance, of course, is generally much more sophisticated than even the cutting edge of the 18th century. But our former colonial masters did have one good idea that’s since been abandoned and deserves revival: perpetual bonds.

In 1752, Prime Minister Henry Pelham converted the entire outstanding stock of British debt into consolidated annuities that would become known as consols. The consols paid interest on an annual basis just like regular bonds, but with no requirement that the government ever redeem them by repaying the face value. Pelham created the bonds in order to reduce the government’s annual debt service costs. That isn’t our problem today. Instead, a modern-day consol would target another problem: political reluctance to take advantage of record-low interest rates.

As of Friday, the inflation-adjusted yield on 10-year Treasury bonds was negative 0.56 percent. Savers, in other words, want to pay the American government for the privilege of safeguarding their money. For the longest-dated bonds we sell, the 30-year Treasury bond, rates were 0.51 percent. That’s higher than zero, but far below the long-term average economic growth level. A sensible country would be taking advantage of that fact to finance some valuable public undertakings. Alternatively, if we think there’s nothing worth spending money on we could enact a big temporary tax cut aimed at reducing the unemployment rate and boosting the population’s skill level. Prolonged long-term unemployment, after all, has lasting effects that reduce the efficiency of the labor market and make it much harder to grow in the long term.

Another way of looking at it is that global financial markets are sending a clear signal to the United States. At a time when demand for goods and services is depressed, demand for American government debt is sky-high. The responsible choice is to let the supply meet the demand and borrow more.

But excessive worry about deficits is hard to purge from the system. One common objection, raised recently by Damon Linker is that “the principal on a loan (even one taken at zero or negative interest) eventually has to be repaid.” 

Except it doesn’t. Right now, the Treasury Department floats loans of a variety of durations, ranging from 28 days to 30 years. Lenders generally demand higher interest rates for longer-duration loans. But right now the rates on even the 30-year loans are extremely low. We could—and should—imitate Pelham and see what the market would demand for a loan that never has to be repaid. How high an interest rate would people demand for a loan like that? Well there’s no way to know without offering one on the marketplace. But right now 30-year bond rates are at never-before-seen lows, so paying a higher rate wouldn’t involve any unprecedented borrowing costs.

In exchange we’d gain some valuable information and confidence. Questions about how many perpetual bonds it’s prudent to issue would no longer be dominated by nonsense about the “cleanest dirty shirt” and vague worries about hypothetical possible future refinancing crises. Instead we’d have a straightforward value question: Are the social and economic merits of additional borrowing worth the market interest rate or not? Well-targeted tax cuts and reasonably designed infrastructure stimulus should easily meet the test, while pork wouldn’t. But the outcome will depend on the actual state of market demand for government debt versus other investment vehicles. As demand for debt declines and growth prospects improve, interest rates will rise, meaning less borrowing will pass cost-benefit scrutiny.

Meanwhile, higher-but-low-by-historical-standards interest rates will in some ways be helpful to savers. Right now if you want to save money you face a fierce tradeoff between accepting low yields and taking on big risks. Consols offer a third way, a safe high-yield investment for those willing to lock their money up forever.

Most of all, perpetual bonds would help us move beyond the destructive politics of the grand bargain. The government could borrow money without adding to the national debt. Instead of obsessing over the debt-to-GDP ratio, we could tackle the present-day problem of unemployment and the medium-term barriers to growth. The current structure of American debt served us well for a long time, but times change. Successful countries manage their debt not just by borrowing prudent amounts, but by being smart about how they borrow. Today we face unusual fiscal circumstances—large projected future borrowing needs plus very low interest rates—and that calls for a little innovative thinking. Governments have rarely issued perpetual bonds, but our ability to offer them credibly is a strength of our very stable system of government. It’s time to take advantage of that to lock in today’s low borrowing costs. Forever.