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The debt dilemma

“At the moment, I am very pessimistic about the prospects for the United States solving its fiscal problems without a crisis. Given that we have divided government, a reasonable long-term budget will require a compromise. But the two sides seem to live in alternate universes. The Republicans’ alternate universe is based on the belief that government spending ought not to exceed its historical average of about 20 percent of GDP. You can’t get future spending down to that level, however, without really major cuts in future spending on Social Security and Medicare. Much as I would like to see those programs phased out completely, neither I or nor anybody else can claim to have won an election on that platform. The Democrats’ alternate universe is based on (a) the belief that the rich are not paying their share of taxes and (b) with Obamacare passed, the rise in health care spending as a share of GDP is as good as arrested. So they see no need to change the status quo on entitlements.”

Arnold Kling.

I think a crisis is coming. And maybe, in a spirit of schadenfreude, we can finally prove the truth of Naomi Klein’s “Shock Doctrine”, but not in a way she approves of.

18 comments to The debt dilemma

  • Laird

    Frankly, I think it’s a pointless article. (Its only virtue is brevity.) Kling thinks the Republicans’ goal of reducing federal spending to a relatively historically-normal 20% of GDP is politically unattainable, and the Democrats’ plan to run it at around 24% of GDP is suicidal, so he splits the difference at 21.6%. How Solomonic. So if the Democrats had instead proposed spending at, oh, 30% of GDP, the proper end point would be 25%? They just failed to start the bidding high enough? Sorry, I’m not buying this.

    Since WW2 the federal receipts have only once exceeded 20% of GDP, and that was an unsustainable aberration (20.4% in 2000). The median is about 18%. That’s through times of war and peace, economic expansion and contraction, high and low marginal tax rates, and all manner of irrational tax policies. This is historical fact, and it’s not going to change whatever the politicians in Washington do. It’s an iron-clad cap on federal revenues, imposed by the collective actions of the American people (an “invisible hand”, if you will). Spending in excess of that level is simply unsustainable. The Republicans’ plan, far from being “extreme”, is in fact insufficient; at best it’s a decent start. But only that.

    We are never going to pull out of our current death spiral into economic catastrophe unless Washington learns to live within its means. That will require a complete re-examination of the role of the federal government in our society, and massive spending cuts in all areas. Unfortunately, I don’t see anyone with any political stature making that argument.

    Sooner or later (I think sooner) economic reality will intrude, and rather than merely reducing some “entitlements” it will destroy them outright. The gods of the copybook headings will indeed return with fire and slaughter. Kling’s delicate attempt at compromise is just silly. There can be no “compromise” with reality: you deal with it on its own terms, or you perish ignominiously.

  • veryretired

    When the crash comes—and it will come as surely as the dawn follows the night—there will be no end of hysterical scape-goating amid the fiscal and economic lunacy.

    There is one obvious solution to the insolvency of the federal government, and it applies to a lesser extent to many of the states as well, and that is to sell off assets.

    As in many bankruptcies involving complex entities, the parts often have a significant value, and can be auctioned to relieve revenue shortcomings.

    Government at all levels owns enormous amounts of land, especially in the west. This is inappropriate to begin with, and divesting itself of these assets would not only correct a long-standing error, but raise significant funds to alleviate the financial chaos that is sure to follow the collapse of the entitlement ponzi scheme.

    Buyers should be restricted to citizens or their commercial entities, and include complete freedom of resource development, i.e., an exemption from any nuisance regulations or lawsuits from those opposed to anything and everything.

    Not expecting it to happen, but it’s worth mentioning as a viable option in the face of bankruptcy and default.

  • Laird

    I don’t disagree with that, VR, but it’s a partial (and only temporary) solution at best.

    First of all, if you’re selling off the family silver to pay current expenses, sooner or later you’ll run out of it. At some point you’re going to have to address the revenue/expenditure gap, and selling off capital assets doesn’t do that. In fact, I would prefer to see the proceeds of any sales of government assets be applied to reduce the federal debt rather than to cover the current revenue shortfall.

    At a deeper level, who would buy those assets or, more pointedly, where would the money come from? The amount we’re talking about (assuming that it would be sufficient to actually have any material impact) isn’t sitting around under mattresses, so unless we’re selling to the Chinese (which you explicitly forbade) it would come from the liquidation of other holdings (securities, probably). Not only would that drive down the market prices for other securities, it simply begs the question of where the money would come from for the purchases of those assets. Ultimately, the only source is the $1+ trillion of “excess reserves” which the banks are holding on deposit at the Federal Reserve. And once those excess reserves come flooding into the market it will trigger massive inflation. (See Midwesterner’s article from last June on this point.) So while I believe those reserves will eventually find their way into the market anyway, your approach would hasten the arrival of that evil day. Which is why I think prohibiting purchases by foreigners is unwise; that’s probably the best way to eliminate some of those massive foreign holdings of dollars.

    I agree with you that the federal government shouldn’t be holding all that land, and that releasing it into the market would be a good thing. But I don’t think large sales is the solution to our current fiscal problem, which is fundamentally a spending issue.

  • Steven Rockwell

    The thing that so many of the talking heads are forgetting is that it isn’t just one government that’s sucking money, it’s three or four (Federal, State, County, Local). Granted, at the state and below levels, much of the cost of government is covered by income and property taxes, but almost all of them are in the red and it is just as politically suicidal to try to get those budgets balanced. What happens when the states start bouncing checks?

    Of course, the answer is: the feds will write a check. But that just compunds the problem. As bad as it will be when Washington has no choice but to stop making it rain like a rap star in a strip club, it’s going to be just as bad when the states have to stop, especially those with massive entitlement populations.

    I’m curious what percentage of GDP gets swallowed up by the state, local, and county governments and by government at all levels as a whole.

  • Laird

    Steven, total state/local government revenues have averaged about 15% of GDP for the last 60 years. You can find all the raw data here. Yes, spending is a problem for most states (more for some than others), but that’s not what this article is about and it’s really a separate issue.

  • Brad

    The level of entitlements that are just supposed to disappear under a realignment are massive. People are not going to sit idly by while it happens.

    For heaven’s sake the attempt to adjust the State of Wisconsin employee’s share of the extra burdens of the modern fiscal reality were met with the break down of civility as elected officials beat feet across the border, the law is in legal limbo, a supreme court election is being drawn out in recount, and recall elections are happening in the hopes of recasting the legislature to overturn the new laws. And in the process demonstrations were plentiful and bullets were scattered about the Capitol building as a sign of some sort. All of this as part of the tippy-top of the iceberg of the FIRST layer of readjustments to our economic order for one small portion of this gargantuan mess.

    The nature of the sense of entitlement is massive. People have made financial plans that are based on these entitlements coming to fruition. All sorts of other unfunded entitlements are accrued onto the books at all governmental levels and the collectively bargained private sector. When all these promises either go up in smoke or the gouging of the taxpayer or consumer goes way up, the civil order will be difficult to maintain. If we had the level of civil breakdown and rancidly self serving abuse of our governmental organs as in WI for one small slice of the population of the very tip of the first level, one can only speculate what a deep slice at the third or fourth level of readjustment is going to spark.

    I have speculated all along that we needed a readjustment sooner rather than later, because the later the readjustment comes the more drastic it will be. The more drastic it is, the less likely civil order will be maintained during the transition.

  • veryretired

    Of course it’s only a partial solution, Laird. The overall problem is too much state, too much expenditure, and too much interference in the lives of the citizenry.

    As I have said many times in the past, reducing the monstrously overgrown state, at all levels, will require a concerted effort and a long-term committment from millions of ordinary people who are convinced that reform, i.e., reduction, is imperative.

    The Tea Party movement is only a small beginning to the effort that will have to be made.

    It took over a century of relentless progressive effort to construct the “frankenstein” state. It may very well require a similar unrelenting effort to carefully dismantle all the intrusive elements, and return the state to the size, scope, and cost that is sustainable for the future health of the nation.

    This will be a long, dirty, thankless task requiring the highest level of moral and philosphical consistency and integrity.

    There are no simple solutions. There is only the daily effort to make one more small advance, and resist any blandishments from the collectivist side that this compromise or that surrender is really OK.

    As Lincoln said of the Civil War, that a drop of blood drawn by the lash must be matched by a drop of blood drawn by the sword in order to satisfy cosmic justice, so too, in this case, it may very well be that every drop of sweat expended to construct the leviathan must be matched by a drop of sweat expended to dismantle it.

    I only hope and pray that my grandchildren, and theirs, will one day look around, as I remember doing when I was a young man, and marvel that such a free people could exist on this earth.

    Helping to accomplish such a future is certainly worthy of all our best efforts, while to shirk that responsibility would be a truly tragic failure, betraying our own humanity, and our posterity’s inheritence.

    To paraphrase that old book, truly the demands of reality are just and proper, altogether.

  • Manikmonkee

    Ms Klien Always cracks me up
    “Logo” is the Latin word for “Reason”

    No reason indeed

  • John B

    Wealth is being declared to exist where none does exist (printing money).
    They are all doing it, Republican or Democrat, or whoever. They are all stealing money. They are counterfeiting the medium of exchange.
    A certain amount of theft can be supported but there comes a tipping point.
    The thieves/counterfeiters have more or less totally ensconced them selves in power. They cannot be stopped.
    Thus there will be no let up and they will kill the goose.

  • Fraser Orr

    > Wealth is being declared to exist where none does exist (printing money).

    A few years ago I was doing a deal in Brazil, and I spent some time with the US Department of Commerce in the consulate in Rio. One of the concerns we discussed was the exchange rate risk, since the contract was denominated in Brazilian Reals. Our profit margins were based on an exchange rate of 2.4 Reals to the Dollar. The commerce department assured us not to worry since the exchange rate had been stable between 2.3 and 2.5 for a long time. Don’t worry, they told us, the Brazilian currency is pretty solid and stable.

    Currently, the Real is trading at 1.5 to the dollar. Maybe I don’t have a degree in economics, but, to me, that means the dollar is down over 30% against the Brazilian Real. How that translates into 3% inflation, I’m not sure.

    Something not discussed much concerning the skyrocketing gas (I mean petrol) prices is that much of it comes from just plain loss of value of the dollar, which comes from the over worked printing presses at the Fed.

    The really troubling thing though is that there is a very low lending rate in the US, due to the various abuses the banks and financial sector has been subjected to. (When you threaten to put CEOs in jail for poor business choices is it any wonder they start becoming hyper conservative?) What that means is the the massive growth in M1 is offset by a relative decrease of commercial money. Because each dollar of savings is lent out less times in the fractional reserve system, the total M3 money in the system is considerably less than you would imagine from the vast increases in M1.

    It is ironic that the reason the wheels haven’t really come off the bus is the very flat credit market bemoaned by the administration that is having its ass saved by that same flat credit market.

  • Richard Thomas

    Fraser Orr, if you search back through the archives of samizdata, there is a very interesting article by Midwesterner about why the newly-created money has not led to rampant lending and inflation. Basically, having printed the money, the government is paying the banks to not lend it out. Crazy stuff.

  • Laird

    I put a link to that article in my post of May 6, 2011 at 05:17 PM.

  • Fraser Orr

    Great article. Thanks for the link.

  • Richard Thomas

    Laird, so you did :) I hope you don’t think I ignore your posts, I don’t know how I missed it.

  • Paul Marks

    Optimists point to the Canadian experience.

    “Canada had a terrible deficit and national debt problem – but it managed to deal with it, so will the United States”.

    Does not work.

    For example, the Canadian government had not backed virtually every home loan in the country (what is a TRILLION Dollars here and there?), but also……

    Canada had (at that time) a relativelly unideological Liberal party.

    Most ideolgical leftists joined the N.D.P. – not the Liberals. Thus allowing a pragamtic person (Prime Minister Turner – if my memory serves) to control the Liberal party and cut government spending.

    The Canadian Conservatives (of course) did not really oppose his efforts (as they did not want Canada to collapse either).

    This is just not true in the United States.

    Leftists join the Democrats in the United States (because it is the only game in town – at least on the left side of the street), even Marxists like Barack Obama join the Democrats – and (as we have seen) can rise to the very top of the Democrats.

    These people (not just Obama – but even the nonMarxist left such as Nancy Pelosi) do not want to save the United States by dramatic cuts in government spending.

    Barack “Cloward and Piven” Obama certainly does not want to save “capitalism” (what he would, in private, call civil society) he wants to destroy it utterly.

    True people like George Soros think they can manipulate him (ditto the high ups in J.P. Morgan Chase), but I think these people are too “clever” for their (or anyone else’s) own good.

    By the way the Canadian Liberal party went nuts recently – electing a big spending supporting television (British television) pundit as its leader – in a move that even shocked the establishment left.

    It was basically political suicide “I know, let us elect as leader someone who was born in Canada, but who appears on late night British culture shows watched by about three people”. “What does he know about Canada? The same as he knows about politics or anything else – NOTHING”. Really (to steal a line from Richard Littlejohn) “one could not make it up”.

    This worked out as one would expect…..

    Now (for the first time in history) the Canadian Liberal party is the number three in Canadian politics.

    What may happen now is even worse – the Liberals may join up with the NDP.

    If that happens then Canada will end up in the American position – should the left ever retake power.

    Remember the “great Canadian escape” happened because the part on the left side of the street (the Liberals) was not under the control of the real left.

    The American Democratic party IS – because there is only one major left party in the United States (so all the leftists who wish to take part in the real game of politics, winning elections, join it).

    I have said this twice (in this post) and have written hundreds of times (over the last few years), but I still can not convince some people.

    “But I met some Democrats at a social event – and they were so reasonable, they will not let America collapse…..”

    Watch and learn, watch and learn.

    Even if the Republicans really try and stop the collapse (and that will take a lot more than the Ryan plan) the Democrats (and the media) will rip them to bits.

    “But that means America will go bankrupt” – if the Dems win in 2012 (or perhaps even if they do not) YES IT WILL.

    Not only are the top Dems not really going to do anything to stop that happening, THEY WANT IT TO HAPPEN.

    That is the whole point of “Cloward and Piven”.

  • Paul Marks

    Before anyone points out …. “but the ex Liberal party leader was also an academic…”

    Remember, I do not consider his having been an academic to be a good thing. And it appears that most voters agree with me.

    I do not consider lies to be “noble” (in fact I am not an admirer of the father of academia, Plato, in general), and when most people find out they are being lied to they do not conisder it “noble” either.

    One of the few signs of hope there is in the modern world is that most people appear to be losing their respect for what the universities teach.

  • Paul Marks

    Oh by the way…..

    Even on budget government spending in the United States (and American government books are cooked more than those of most Western governments) is 39% of GDP – local, State and Federal (mostly FEDERAL).

    I just thought I would put some reality in. The American government is bigger (much bigger) than establishment people like to claim it is.