The politics of the deficit

Congress squawks about the horrible debt and then adds even more red ink.

There is of course an accounting identity that relates the government budget deficit (the excess of spending over receipts) to the government debt (the total amount that the government has borrowed). A deficit necessarily implies an increase in the debt by the same magnitude.

One of the peculiar embarrassments of the American political process is the fact that Congress votes separately on the deficit and debt, as if they were two different decisions. This bizarre arrangement allows Congress the luxury of instructing the Treasury to spend more than it takes in as revenue while at the same time voting to deny the authority to borrow the funds that would be necessary to implement the plan.

If the government is (a) required by the deficit legislation to spend, and (b) precluded by the debt legislation from borrowing, the Treasury would be forced into default. The greater the likelihood markets attach to such an event, the higher will be the interest rate the government has to pay on Treasury debt. A politician who votes for the spending and tax measures that produced the deficit but against a debt ceiling consistent with these is deliberately wasting taxpayer dollars for no purpose other than to grandstand before voters as a “fiscal conservative”. Anyone playing such a game has complete contempt for the intelligence of their constituents.



Data source: St. Louis Fed and Bureau of Economic Analysis
fed_debt.gif



Due to the Senate’s procrastination in raising the debt ceiling, the U.S. Treasury had been creatively juggling the accounts for the last month to prevent an outright default, but by last week had run out of such gimmicks. The U.S. Senate gave in at the last minute on Thursday and finally voted to raise the allowable debt limit to about $9 trillion. That’s a lot of debt, to be sure. But if you don’t want the government to be borrowing so much, the time to say so is when the spending or taxing bills are on the table.

Without exception, every single one of the Senate’s Democrats voted against the most recent increase in the debt ceiling last Thursday, joined by Jeffords (I-VT), Burns (R-MT), Coburn (R-OK), and Ensign (R-NV). Exactly 2 hours and 19 minutes after voting against raising the debt ceiling, every single Senate Democrat voted for an additional $3.3 billion for spending on the Low-Income Home Energy Assistance Program. Aided by yes votes from six Republicans, this measure passed.

And I’ll bet they’re planning their ad campaigns right now bragging about how they voted against raising the debt ceiling.

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40 thoughts on “The politics of the deficit

  1. T.R. Elliott

    JDH: As an independent, I think your representation of this is partisan because you fail to consider revenues in your discussion. How many of those democrats would vote for tax increases? I think quite a few. The key points that you should be discussing are revenues versus spending. And with that, the Republicans are almost entirely to blame. That is the real “contempt.”
    Don’t you agree?

  2. JDH

    T.R., the deficits unambiguously result from the interaction of spending and taxes, and the extra $3.3 billion on Low-Income Home Energy Assistance Program unambiguously increased the defict.
    In any case, once the spending and taxes have been enacted into law, I find it reprehensible, regardless of how you voted on the tax or spending bills, to refuse to authorize an increase in the debt ceiling. I say this without apology or qualification as to whether the “nays” come from Democrats or Republicans.
    It was not my intention to write a “partisan” piece on this. I was simply curious to look at the votes on these measures, and report what the record shows. What is partisan is the fact that Democrats voted as a bloc on both measures. Surely there must be among them some individuals with better sense than this.

  3. Stuart Staniford

    Good grief JDH. You know perfectly well what proportion of the federal budget $3.3 billion is. Which party has been running the executive and both legislative branches lately? And yet you are targeting democrats as responsible for the debt. I’m an independent and no fan of the current crop of democrats, but this is a very weak piece of propaganda masquerading as analysis.

  4. Rick

    I JDH has offered a great illustration of why Democrats seem to be having such a hard time gaining traction in public opinion polls. Despite a national distaste for the current administration, there seems to be almost equal distrust in the most accessible alternative.

  5. JDH

    Stuart, I did not say that “Democrats are responsible for the debt”.
    I do say that: (1) they are responsible for their votes on the debt ceiling, and (2) they are responsbile for their vote on the $3.3 billion. I further say that (1) cannot be defendend under any circumstances, but is particularly embarrassing given that (2) followed within two hours.
    As for what I actually did say (as opposed to what you seem to think I said), where is the propaganda?

  6. Barkley Rosser

    Whatever one’s views about who is responsible for what, voting against raising the debt ceiling is simply irresponsible, even if it is mostly the fault of the Republicans controlling the White House and both houses of Congress that the deficit has become so large. That we have people in the Congress at all, much less all the members of one party, willing to engage in such voting is one reason why the idea that US government securities are the least risky financial assets in the world is absolute horse manure, especially when compared to say Japanese government bonds, which Moody’s and others have downgraded. The idea that Japanese government securities are riskier than US ones is simply insane.

  7. T.R. Elliott

    JDH: I’m can’t entirely agree. If, as a representative or senator, I believe that (a) the tax cuts were wrong, particularly in a time of war (as innept, immoral, and illegal as I find this war) and that I voted accordingly (against the tax cuts) (b) the spending increase you mentioned is important to me, then to be consistent, I see nothing wrong with voting against the debt increase. And if it so happens that the debt celing isn’t raised (was there any question about it?), all the better to more broadly publicize the fiscal condition of the U.S.
    Now as far as the Democrats voting as a block, I currently find the Republicans largely responsible for the current predicament. And as a former Republican myself (never registered Democratic, never will), I think from a political perspective the Democrats as a block should use whatever means they have to throw this in the face of the Republicans.
    What the Democrats have done in this case, in my opinion, is showmanship with the possibililty of initiating a short-term crisis that would (a) be resolved and (b) would perhaps be useful–why not now, why wait?
    What the Republicans are doing in general is reckless.
    I see no reason to spin it otherwise. I find the Republican party, at this time in history, entirely repugnant and reckless, as do many Republican supporters, including Kevin Phillips (one of the so called fathers of the republican revolution) in his new book “American Theocracy: The peril and politics of radical religion, oil, and borrowed money in the 21st century” as well as another founder of the conservative revolution Bruce Bartlett in his book “Impostor: How George W. Bush Bankrupted America and Betrayed the Reagan Legacy.”
    I understand your point when viewed from a very narrow, overly logical perspective. But I think it misses the proverbial forest for the trees.

  8. Hal

    Do you really think that bond purchasers are sufficiently afraid that the U.S. government may default on its debt, that it is raising interest rates and causing the government to have to pay more for its borrowing? I would be surprised if sophisticated bond purchasers would take this kind of political grandstanding seriously enough to think that there is a genuine risk of default.

  9. pgl

    Hopefully these same Democrats would vote for tax increases – albeit many of them are too scared to say they would. On the other hand, check out the rightful criticisms of Andrew Sullivan (don’t tax me but spend more on defense) coming from Kevin Drum, Duncan Black, and even me (over at Angrybear).

  10. Chris

    If Democrats are unable or unwilling to raise taxes then the choice is either: deficit spend or balance the budget. You must do one or the other. Without raising taxes, it is physically impossible to spend without issuing new bonds.
    Perhaps a case can be made for the need to raise taxes. However, this is not a politically feasible option at this time. Thus, the choice becomes the one stated above. We can complain all we want that we don’t like that options but, guess what, a lot of times both options suck. Yet, the choice has to be made. That’s life!

  11. T.R. Elliott

    Chris: I agree. In the end, the debt limit must be raised. But I disagree that the raising of the limit should occur with nary a peep of complaint or negotiation. In 1995/1996, there were extensive debates and Govt shutdowns when Clinton and Gingrich faced off over the budget. That was also a time when the govt finances were put in better order, due I suppose to a set of compromises between democrats and republicans.
    In the current political environment, I think there is no compromise. And I think that is largely due to republicans, lead by arrogance in both Bush and Vice President Dick Go-F-Yourself Cheney (member of the economics sect with the mantra “deficits don’t matter”).
    In the political realm, I think the democrats have, in a general sense, a moral argument that they’ve been more willing to work together and to look for ways to put the public finances in order. And that argument can take the form of an attempt to scuttle the raising of the debt ceiling until there is a debate on how the finances of the govt will be put in order.
    The republicans are in charge, and I’ve yet to see a plan to resolve the fiscal problems. Taxes are going to go up. Right now, the republicans simply prefer to tax the future rather than the present. That, to me, is real contempt. Not for voters. But for those who aren’t old enough to vote.

  12. JDH

    Hal, yes I do think this grandstanding can affect the cost of financing the deficit. The U.S. Treasury enjoys a remarkable advantage in terms of the cost of borrowing over everybody else because U.S. Treasury debt is regarded as unusually liquid and safe. I find it hard to see how a vote by 48 senators not to service outstanding federal debt can fail to affect that perceived advantage.
    If the argument is that (1) foreign creditors are smart enough to know that the senators didn’t really mean it, while (2) domestic voters are stupid enough to think that the senators really did mean it, then this is hardly a strategy of which the Democrats (and 3 Republicans) should be proud.

  13. JDH

    T.R., how can you imagine that either Menzie or I would advocate letting deficits and debt pile up with “nary a peep of complaint”?
    Complaining loud and hard I’m all in favor of. Defaulting on government debt is what I’m vigorously opposed to, in part because even the threat of its happening can make our problems, far, far worse.
    And failure to raise the debt ceiling is a different kettle of fish from failure to agree on a budget, which is what you’re talking about in 1995. In the current case, the budget has already been approved, the money has already been spent, and the only question is whether the Treasury has the means to pay the government’s creditors. Denying that legal ability to pay creditors, given that the money has already been spent and approved, is what I am objecting to here.

  14. T.R. Elliott

    JDH: Clarification. By peep, I meant that the republicans have been playing the game of hush hush regarding the debt ceiling, while putting together plans to start grandstanding on issues like defense of marriage, save the flag, ten commandments, etc (that’s their program as far as I can tell).
    But I agree that not paying creditors is immoral and that there is a difference between the 1995 shutdown and defaulting on creditors.
    I give.
    But I still hate the republicans part right now. Even if I give on this particular issue.

  15. Anonymous

    Maybe the real question is why we have a debt ceiling in the first place. It seems pretty meaningless when Congress simply deficit spends and votes to increase the ceiling. Perhaps a better approach would simply be to eliminate the ceiling. Since the ceiling doesn’t seem to prevent the free-spending Congress to spend to its hearts’ desire, removing it would avoid the defaulting issue.

  16. T.R. Elliott

    Anon: I agree. The debt ceiling seems pretty meaningless these days. Once the spending and revenue decisions have been made, the debt levels have already been decided. Why have another vote.
    I suppose the founding fathers actually thought government officials would take debt seriously. They didn’t subscribe to the economic theory that “deficits don’t matter” as does Dick GFY Cheney.

  17. Anonymous

    For the record, Cheney denies making that statement. However, whether he did or did not is irrelevant. Even the meager fiscal restraints put forth by the Bush Administration were rejected by Congress. Until we get a Congress that is serious about fiscal restraint or a President that will actually veto a bill, the spending problem is just going to compound over time.

  18. T.R. Elliott

    Anon: I saw Cheney interviewed after it. He didn’t deny it. His office never denied it. His office said there was a “frank exchange of views.” He never denied the exact words that were reported.
    If you can provide pointers as such, I’ll investigate it. But the incident did not happen in a vacuum. A Vice President of the United States, according to available reports, told a senator on the floor of the senate to F himself.
    I don’t think there is any question about it.
    Also note that they have another choice: raise taxes.

  19. Joseph

    I think its silly to make a big deal about the vote on raising the debt limit. There was never any doubt that it was going to pass. There was never a question that the government was going to default on its debt. The Republicans have the majority and can pass anything anytime they want. For the Democrats it was a free and meaningless vote. It made no difference how they voted so they made a symbolic statement. And if they can use it in the next election to point out the recklessness of the Republicans, all the better. Afterall, it is completely a Republican problem. Every Democrat voted against the Bush tax cuts. Every Democrat voted against Medicare prescription plan.

  20. Dan

    Part of our government’s systems of checks and balances is that minorities can sometimes block actions by the majority.
    Our government isn’t efficient. It’s isn’t -supposed- to be efficient. It’s supposed to work hard fighting against itself. I smile every time I see one branch of government suing another to get something done. Sure, it costs more money. But an “efficient” government was the last thing our founding fathers wanted.
    As for voting “no” on increasing the budget: imagine that a block of Senators (regardless of party) ran for office on the basis of “we will never vote yes for increasing the debt ceiling.” When the time comes to vote on that, increasing the ceiling isn’t the only option — they can also increase taxes, or cut projects.
    I’m not denying that some of the people voting against increasing the debt ceiling were just making grandstanding gestures, designed to be reduced to sound bites in commercials come the next election. But this style of voting allows true budget hawks a way to stand against borrowing.

  21. Baldy

    The Reps are responsible for the current spending mess. Does anyone believe the Dems would spend less? I don’t, and I’m a Dem (who voted for Bush in 2004). I have been dismayed that shortly after I become a conservative, they go missing. I still think the tax cuts were too small, and spending is too high. I’m all for tax increases for the wealthy. Tax seniors 🙂

  22. Baldy

    Oh- the charade about the debt ceiling was stupid and partisan. I agree with the main gist of this thread. The debt ceiling is just a formality, but without the increase, we would be in default. Dems can’t win elections, so they play silly (and dangerous) games. Sadly, the Reps have been spending like drunken Dems. Soon, we may have real Dems in charge again. I try not to be partisan, but the Reps are asking for a rout in Nov. Just wait, someday these days will be looked upon fondly 🙂

  23. Victor

    Random thoughts … The increase in Low-Income Home Energy Assistance Program is supposed “to be paid for by closing corporate tax loopholes.”
    But even if I were to give Dems a gold-star for increasing taxes to pay for increased spending, I can’t find the specifics for the “loopholes” they are closing to pay for it. I didn’t have much time to dig; anyone else with better luck?
    And even then, of course, the net effect of the spending is still an increased deficit, since the “loopholes” could otherwise be closed with subsequent revenue applied to the deficit.

  24. T.R. Elliott

    Baldy: If you thought you were purchasing conservatism by voting Bush in 2004, you weren’t looking at the product reviews that were easily found on the internet (e.g. preposterous medicare drug plan). The “conservatives,” whatever that means, went missing a long time ago. If in fact they ever existed. Maybe you can clarify what you mean.
    Here’s a graph of US debt (absolute, and percent of GDP):
    US Debt Levels
    As the proverbial saying goes, Republicans want to have their cake and eat it too. They want to spend, and they want to cut taxes. Therefore they defer the taxes to the future. One can argue that the intent is the Grover Norquist “drown the government” philosophy, in which the Govt will be so indebted that it will be forced to cut spending simply to keep up with increasing debt payments. But I’m not sure this approach will work, and I think it dishonest and immoral.
    I realize I’ve drug this post into the partisan realm, though as an independent who appreciates different aspects of progressive, conservative, and libertarian philosophies, I like to think I’m non-partisan. But my personal talking point is that the democrats are directionless, but the republicans are heading in the wrong direction–and they can’t govern. At this point, I’m not even sure what universe is inhabited by the Republican party. They are truly non-reality based. And corrupt (I live in Duke the Crook Cunningman’s district).
    Some say there are opportunities for a third party, more centrist, but if so, it will look more like the democrats than the republicans, if for no other reason than the fact that the republicans have drug the democrats far to the right. Perhaps this will be the only benefit of this time period.
    But when my election choices are people who seem to discuss issues with reason, and those who tell me the biggest problems in the country are (a) burning flags (b) ten commandments in school (c) gay marriage and similar matters, my choice is pretty darn easy. Reasonable people on the one hand. Psychos on the other.
    At least that’s the way I see it. As a scientist, engineer, and arm-chair philosopher, I agree the reality is always difficult to define, but I’m going to base my decisions on something called reality. When Bush and his folks tell me they’re going to “define reality” I know we are in big trouble. And we are.

  25. Barkley Rosser

    Hal,
    I do not expect the Congress to ever deadlock on raising the debt ceiling. However, they and a president could deadlock on passing a budget. They did so briefly back in 1995. That is the greater danger, one much less likely to happen in a parliamentary system where the executive derives from the legislative body. Given the irresponsibility of some of the people we have had recently on both ends of Pennsylvania Avenue, I do not see such things being ruled out.
    BTW, while it may not be obvious in interest rates, in fact sophisticated copula models of value using grid software, now being widely used by several major banks, are regularly plugging in a probability of default by the US government on its securities.

  26. Rick

    T.R. Elliott, I think your talking point is well proven. The article you provided, however, gives way too much credit and/or blame to the office of the president during the exact tenure of that president. There are soooo many more contributing factors that an angry sounding simplification is a bit misleading. I completely agree that the Democrats have an extraordinary opportunity to re-position the party but don’t seem to be exploiting it well. My fear is that the only acceptable proposed solution seems to be raising taxes because every expenditure can be rationalized so easily. At some point it would be nice to see a real dedicated effort to attack the expense side of the equation.

  27. T.R. Elliott

    Rick: I agree. The economy and government revenues & spending are a complex system and simple attribution is appropriate.
    I also also hate to see taxes used as the only solution.
    On the other hand, there are several trillion dollars of debt that have been produced in the last 25 years. So even discounting putting the budget into balance, I see a moral argument that those who produced these large deficits (and the resulting interest to service them) have a responsibility to pay it down.
    I personally believe that energy constraints will put a damper on economic growth in the coming years. We will find it more difficult to grow out of our debt problems. And then the only question will be: (1) raise taxes or (2) inflate the debt away, which is also a tax.
    This site tells me we’re currently spending about $350 billion on interest.
    http://www.federalbudget.com/

  28. T.R. Elliott

    Correction: I should have said “simple attribution is not appropriate.” E.g. it’s not a republican versus democratic issue and a simple chart, as Rick points out, doesn’t tell us everything.
    That said, the culture of debt started in the 80s with what I call the “what me worry” crowd. In the 80s, the “what we worry” folks started to get worried and reset course. My big complaint right now is that the “what me worry”–meaning Bush and his cronies–are so detached from reality, so immersed in their talking points, so unable to admit the need for course corrrections, that we’re going to need a crisis to reset the public mind.
    Just as we will need multiple energy shocks and multiple high energy hurricanes and cyclones to get people to think more about the impact of industrial society on the environment. And the world they are leaving to their kids.

  29. RN

    If you wonder where JDH stands politically, always remember that his first reaction to Katrina was to argue for gasoline additive deregulation.
    Being an academic does not always mean you have a heart.

  30. GC

    Has everyone forgotten that by cutting taxes, the federal government took in more revenue than ever in 2004? Lower taxes leave more capital for investment thereby growing the economy and creating wealth. Thus the taxable base is expanded. Moreover, there is nothing immoral about letting people keep what they work hard to earn. The problem is not revenue; it’s epxenditures.

  31. T.R. Elliott

    GC: By cutting taxes, the government took in less revenue than it needed to avoid passing future tax increases to the future. The problem is the difference between revenue and expenditures. Passing debt to the future is immoral unless there are extenuating circumstances or it represents investments that will provide income in the future. We’re just using the debt to maintain a lifestyle.
    Also, the myth that tax cuts pay for themselves has long been put to rest. It’s a meaningless talking point:
    Myth Tax Cuts

    RN: As far as the gasoline additive deregulation, that may have been an appropriate response in order to ensure better balance in gas supplies across the country. I don’t think it had anything to do with heart of lack thereof. It seems to make a lot of practical sense. Especially for short-term purposes. When one part of the country is lacking in supplies, and regulations prevent load balancing of those supplies, then the regulations should possibly be relaxed.

  32. Houston's Clear Thinkers

    On federal deficits and debt ceilings

    Clear Thinkers favorite James Hamilton points out in this post the seemingly non-partisan point that it is hypocritical for politicians in Washington to vote, on one hand, for spending and tax measures that generate the federal deficit while voting, on…

  33. Rick

    T.R. I like your passion on this subject. Our debt is really our problem. Trade imbalances get attention, but that can change rapidly. Our debt and the need to repay it remain as a long term problem in need of a structured long term plan. It’s frustrating that no political leader seems to have the guts to tackle the issue. I think the American people have more of an appetite for correction(even with associated sacrifice) than is widely assumed. The power grab and short term issue discussion is so all-consuming that it seems to preclude any real strategic game-plan. It’s also frustrating that none of these guys(or at least most of these guys) wouldn’t dream of running their personal or business affairs this way.

  34. Don Mynack

    And yet, that article does not dispute the fact that the gov’t pulled in more revenue after a tax cut, only that it pulled in less revenue from income taxes, which is, duh, the whole point of tax cuts. Now, I can see the point that perhaps the tax cut is not responsble for all of the revenue increase, but it can’t be ruled out as the cause, either.
    Of course, tax cuts don’t make a difference to the gov’t if spending isn’t cut. Which is simply has to be. There is really no other option.

  35. ams alzidgali

    The big mistake we all commit is to give the government free hands in allowing her to exceed the real nation’s expenditure; this will add the yearly burden on the nation. is there any law to check on the deficit, and make it impossible for any government to pass it with strict and stringent rules?
    DOES ANY ONE KNOWS WHAT DEFICIT MEANS: IT IS INDIRECT TAXATION PAID DIRECTLY BY THE NEXT GENERATION, VERY SIMPLE. THE QUESTION IS TO BE ASKED WHO HAS THE AUTHORITY TO SPEND THE SWEAT OF NEXT GENERATION?
    IF ANY GOVRENMENT DARE TO RASE THE TAX AS THEY DO NOW ON DEFICIT, DO U THINK THEY WILL BE REELLECTED BY PEOPLE? WHAT WILL BE YR REACTION IF U HAVE ADDED TAX EACH YEAR TO THE VALUE OF THE DEFICIT? MIND U 5% DEFICIT EQUAL MORE THAN 5% TAX IF U WANTS TO COVER THE DEFICIT BY TAXATION?
    When our government says our growth rate is 3% but they never tie that with the DEFICIT OF 5% WHY?
    Our Main stream media also part of this crime never publicly comes and says honestly that we r in fact in the red and our growth rate is ?Minus 2%, Do u hear this from the media?
    Do u know what is yr debt?
    Please see National debt clock, I will advice those who has heart problems to avoid it:
    http://www.toptips.com/debtclock.html
    It was nearly $5 billions for only one Min, and total gorenment debt is reached above $8.3Trillions, this $8.3 trillion is the total amount of dollars owed to all the holders of US government debt instruments. Excluded from this total debt are all of the federal government?s other liabilities, which total another $38 trillion, please read economic suicide:
    http://news.goldseek.com/JamesTurk/1142438460.php
    Do you hear from Media that yr deficit is adding to yr debt daily and it reached over $ 8.3 trillions, and the nation could not raise enough $$$$$$$$$$ to full fill the deficit thirst last month from abroad, the total of 119.7 Billion were needed last month USA could not raise this
    can any one help what a hell is going on ?
    can we have a law to stop this crime before the ship sinks?

  36. RDESman

    Lost in all this is the fact that the Senate was voting on a TOTAL debt ceiling, and a good chunk of that TOTAL debt comes from intragovernmental securities. In other words, some of the debt that’s being raised are those very bonds that Democrats pledged to protect in the lock box. In this case the Democrats were effectively voting to keep those bonds out of the lock box. Had the Senate not approved of the increase in the debt ceiling, then the Treasury would not have been able to establish IOUs for the lock box.

  37. Movie Guy

    Jim — “One of the peculiar embarrassments of the American political process is the fact that Congress votes separately on the deficit and debt, as if they were two different decisions. This bizarre arrangement allows Congress the luxury of instructing the Treasury to spend more than it takes in as revenue while at the same time voting to deny the authority to borrow the funds that would be necessary to implement the plan.”
    Jim, I fully agree with your candid observation. Thank you for putting the issue on the table.
    I wouldn’t care if every Member of the Congress was an independent or pokadotted, there would still be such inconsistent voting behaviors. It is a general failure to relate one issue to the other. An element of simple or gross neglience as defined in statute, if you will.
    In undertaking a review of the President’s FY 2007 budget proposal, CBO – An Analysis of the President’s Budgetary Proposals for Fiscal Year 2007, I decided to take the time to again brush up on the subject of Unauthorized Appropriations and Expiring Authorizations.
    I spent over an hour reviewing the lists of unauthorized Appropriations and expiring program Authorizations for the last few years. While I recognize that the changes in U.S. tax code have resulted in known and projected shortfalls of Federal revenues, it is obvious that sufficient mechanisms are at the disposal of the Congress to rein in some spending efforts and initiatives.
    I recommend that Members of the Congress, capitol news media, and serious web logs spend a bit more time focusing attention on all unauthorized Appropriations and expiring program Authorizations. CBO has rolled up the analysis, so one doesn’t have to reinvent the ball or complain that such an undertaking would take too much effort.

  38. Steve O'Keefe

    Bill Bonner and Addison Wiggin, the team behind the popular
    contrarian financial newsletter, The Daily Reckoning, have a new book
    out called “Empire of Debt” that predicts a collapse of the U.S.
    economy due to a combination of our trade deficit, national debt,
    consumer debt, and the bottomline fact that we can’t continue to
    spend more than we earn — as individuals or as a nation — without
    someday having to settle up. There’s a harsh excerpt from the book at
    http://tinyurl.com/nbd8d

  39. Dirk van Dijk

    Here is some commentary of mine on this subject,(from my Strategy report for Zacks Investment Research) I’m afraid the graphs I refered to didn’t copy over.
    Let me start with something very basic, not to bore you but bear with me for a bit. Money is like water. The difference between income and wealth is like the difference between a river and a lake. Income is a flow of money like a river is a flow of water, wealth is a pool of money like a lake. Now these two tend to interact, water flows into a lake and makes it bigger, provided it is not consumed along them way. The economic equivalent of this is savings and investment. Water also flows out of lakes. The economic equivalent of this is capital gains and dividends. As I discussed last month, the government is getting very thirsty, in the form of huge and structural budget deficits. However, in its wisdom, the current administration has followed a policy that says that only rivers can be tapped to provide needed water, and if the river is flowing out of a lake, only a very little of it can be tapped. Thus unearned income, such as dividend payments, is taxed at a top rate of 15%, while earned income, such as your salary is taxed at a top rate of 35%. Even that little bit coming out of the lakes is more than the Administration wanted, but it settled on the 15% figure since it was the best they could get from Congress at the time. To get the lower rates on unearned income, it had to pretend that it only wanted them for a little while to spur the economy and lift it out of recession. Otherwise, the projected deficits would have been too much for Congress to swallow.
    Its the Revenues
    Now, the centerpiece of the Presidents economic policy is to make these tax cuts permanent. The claim is that the reason the government is thirsty is not that it hasnt been drinking enough water, but that it has been sweating too much. In other words the way to cut the deficit is to reduce spending. In particular, non-defense discretionary domestic spending and also cut back on some entitlements. As the chart below shows, the current budget deficits are not being caused by overspending, at least not relative to historical norms, but by low revenues, at least relative to historical norms. Both spending and tax receipts are below there averages over the last 35 years. As for entitlements, the social security system is currently running a very large surplus. The old age trust fund has a surplus of $1.52 Trillion, and increased by $154 billion in 2005. If not for the money the trust fund was lending to the government the treasury would have to go out and borrow those dollars from other sources. The trust fund will continue to grow, and help offset other deficits, until 2017. Medicare on the other hand will start to run deficits in 2014 and they will escalate rapidly until the fund is totally exhausted in 2020.
    While revenues have started to rebound, they actually fell in nominal terms for three straight years from 2000 through 2003, and in 2004 were the lowest share of GDP since 1959. A big part of the increase in revenues in 2005 ($51 billion worth, or about 0.4% of GDP) was due to the expiration of an accelerated depreciation tax cut in 2004.
    Balance by Cutting Spending?
    So what about those non-defense, non homeland security discretionary expenditures (NDNHSDE)? What are they and how much do they amount to? Well, they are everything the government does outside of the military, social security and medicare payments (but including the administration of the programs) and the department of homeland security. In other words everything from the salary of the Supreme Court judges, to the EPA, to the FBI, to collecting basic data on the economy, to NASA to the National Park system. All told, the 2007 planned expenditures for these activities total $398.3 billion. In other words, using the presidents own budget numbers, these expenditures would have to be slashed by 88.9% if we wanted to balance the budget in 2007 by cutting these expenditures. It is claimed by the administration that raising taxes (or more correctly allowing temporary tax cuts to expire) would hurt the economy. Would that damage be bigger than the damage done by not collecting basic economic statistics? By eliminating the SEC, or the mine safety administration? No more food safety inspections? How about eliminating all student aid and college loans? Who needs a department of state anyways? Why do we want an Army Corps of Engineers to keep dams and levies in shape? Nothing bad could happen if we let that slide. Any commentator who claims that it is possible to balance the budget through cutting this NDNHSDE is quite frankly either a liar or an idiot. Yes there are probably some cuts that could be made, say in farm subsidies. However, the constitution virtually prohibits that. Why, well half of the Senate is elected by 16% of the U.S. population.

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