Freeman

THE FUTURE BELONGS TO LIBERTY

Not Since 1946

Uncle Sam is bankrupt, but Washington says, "What, me worry?"

JANUARY 17, 2014 by DOUG BANDOW

 

During President Barack Obama’s first term, the federal government ran up $5 trillion in red ink. The President even admitted Washington had a spending problem. But in 2013 the deficit fell to “only” $680 billion. Now the President, and many of the nation’s other politicians, say the crisis is over.

It appears they haven’t read the latest Congressional Budget Office (CBO) report, “The 2013 Long-Term Budget Outlook.” The news ain’t pretty.

The CBO noted that “between 2009 and 2012, the federal government recorded the largest budget deficits relative to the size of the economy since 1946, causing federal debt to soar.” Today’s level—73 percent (which ignores Treasury borrowing from Social Security)—“is higher than at any point in U.S. history except a brief period around World War II, and it is twice the percentage at the end of 2007.”

With the deficit set to continue dropping through 2015, the national debt will “decline slightly” as a percentage of GDP. “After that, however, growing deficits would ultimately push debt back above its current high level. The CBO projects that federal debt held by the public would reach 100 percent of GDP in 2038, 25 years from now, even without accounting for the harmful effects that growing debt would have on the economy.”

Most politicians think only a couple years ahead. But as the agency noted ominously, “Debt would be on an upward path relative to the size of the economy, a trend that could not be sustained indefinitely.”

The next decade looks bad enough. Even assuming Congress and the President act reasonably responsibly—a long shot at best—Uncle Sam will accumulate another $6.3 trillion in debt. Under the agency’s “alternative” fiscal scenario, which assumes Congress acts more like Congress usually acts, the combined deficit will run to $8.8 trillion.

After that, things will get far worse. That’s when the entitlement tsunami hits. The CBO noted, “Federal spending for the major health care programs and Social Security would increase to a total of 14 percent of GDP by 2038, twice the 7 percent average of the past 40 years.”

And that projection likely understates the cost of Obamacare. By expanding third-party insurance coverage, paying for more procedures for more people, the legislation will increase total healthcare outlays. By mandating expensive benefits for everyone, the legislation is already increasing insurance costs. By hiking costs for younger, healthier Americans, the legislation will degrade the risk pool. All of these changes will hike premiums, creating greater pressure for increased subsidies.

Rising debt also likely will spur an increase in interest rates—currently less than half the recent average—especially as foreign buyers grow more wary of federal obligations. The CBO warned, “When interest rates return to higher (more typical) levels, federal spending on interest payments would increase substantially.” Indeed, projects the agency, “The federal government’s net interest payments would grow to 5 percent of GDP, compared with an average of 2 percent over the past 40 years, mainly because federal debt would be much larger.”

This mountain of new debt would be a result of overspending. Taxes would be higher than average. The agency figures that by 2038 federal revenues would run 19.5 percent of GDP, compared to 17.5 percent, the average over the last four decades.

In contrast, noted the CBO, “Federal spending would increase to 26 percent of GDP under the assumptions of the extended baseline, compared with 22 percent in 2012 and an average of 20.5 percent over the past 40 years.” That’s a GDP gap of 6.5 percent, all due to increased outlays.

However, the bad news doesn’t stop there. Piling up more debt itself has negative economic consequences, as increased government borrowing reduces private investment. “The result would be a smaller stock of capital and lower output and income in the long run,” said the CBO. After accounting for this reduction in economic output, “debt under the extended baseline would rise to 108 percent of GDP in 2038.”

This process would affect investor confidence in the economy. Today the dollar enjoys an extra advantage due to instability in the euro. At some point the dollar might look relatively less attractive. If federal borrowing keeps increasing, warned CBO, “investors would begin to doubt the government’s willingness or ability to pay U.S. debt obligations, making it more difficult or more expensive for the government to borrow money.”

The potential coup de grâce is economic collapse. The CBO noted, “The risk of a fiscal crisis—in which investors demanded very high interest rates to finance the government’s borrowing needs—would increase.” Such an event could occur suddenly and unexpectedly. Think 2008, but what happens if the federal government needs a bailout? There’s no one who could pull that off.

The deficit is falling. It has been for a couple of years. But it’s only temporary. Soon the red ink will begin another inexorable march upward.

Yet federal politicians say the spending crisis is over. CBO reports might not be a national best seller. But they should be required reading in Washington.

ABOUT

DOUG BANDOW

Doug Bandow is a senior fellow at the Cato Institute and the author of a number of books on economics and politics. He writes regularly on military non-interventionism.

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