An Economic Trick: Inflating away the debt.

When was the last time USA made money? It was 2001.

Since then, the country has been piling up debt because of increasing deficits.

You must have heard about the extremely high debt-to-GDP ratio of USA, exceeding 100% of the GDP. Some even state that this debt can't be repaid.

But what if USA acts like a good boy and decides to repay the debt?

The first and most basic fundamental would be increasing income and reducing expenditure. Easier said than done, taxpayers would not like the taxes to be increased and citizens would not like social schemes and other public expenditure to go down.

Then there's an economic saga comes into play - INFLATING AWAY the debt!

Before that, I assume that you know what's Inflation, the inverse relationship between Interest Rates and Inflation, and how an increase in inflation decreases the value of currency.

Assume you bought a house worth 1,00,000 in 2000 on a home loan which was a huge amount back then for you, but in 2024, your monthly salary is 100,000. Also, the value of that land is worth, say 20 Lakh.

Now that 1,00,000 amount seems small, and very easy to be repaid.

This has happened because of inflation. The prices rise not only because of an increase in demand but also because of a reduction in the value/purchasing power of money. (For eg. Cost Inflation Index has risen by ~3.48 times in last 24 years)

The interest rates offered by banks are Nominal i.e. they include the expected rise in inflation. As an individual, you will have to follow the system and pay interest accordingly.

But in the case of the government, they control the system, they can raise inflation rates to decrease the value of their currency which they will use to pay back FIXED rate debt with the money that is worth less now. 

How do they increase inflation and decrease the value of money?

Quantitative Easing - The central bank decreases the interest rates and prints more money out of thin air and gives it to the govt. which pumps it into the economy - building infra., providing jobs, etc. Which "theoretically" increases productivity, real growth, increase in incomes, more tax revenue, which leads to more investments, causes the prices of commodities to rise i.e. eventually inflation will pick up. 

The increased GDP and increase in inflation make the debt look smaller similar to our example of house loan above.

In practically its not that easy.

As a citizen, will you like the pricing of commodities to rise?

Inflation if not controlled can get way too high causing protests and instability in the country. That's why after quantitative easing during COVID the Fed of US, increased the interest rates again to keep inflation in check.

That's the reason why central banks around the world have a target inflation rate to keep inflation in check, not too high, not too low. (For eg. the target inflation rate for RBI in India is 4-6%). This way economy bears the fruits sustainably, of inflating away the debt to lower the debt burden and also boost productivity in economy.

Inflating away the debt maybe an economic trick to reduce the debt burden, but the fundamental key lies in increasing productivity i.e. increasing the income and reducing the expenses.

What do you think? Should India take excess financial Leverage similar to USA for the Short term growth and let productivity in youth explode?