Sunday, March 24, 2013

Deficits and Debt

There have been so many Federal fiscal crises in the last months and years that it is getting difficult to get anyone to pay attention. The politicians are having a problem getting any American citizens to get concerned about budgets and debt, or to even get the news media to report on it anymore. Maybe the boy has cried wolf too many times. Recent news is that the Senate has just passed a budget and that’s the first time in four years. Ho-hum; who cares?

We are still hearing “raise taxes … on the rich” from the left and “cut the spending … except the military" on the right. We’ve added a new word, "sequester," to our vocabulary, but I still think the average person doesn’t know the difference between the Federal Deficit and the National Debt.

I am not really that interested in politics, to tell the truth. However, I do get interested in the subject of the economy, taxes, deficits, and debts; and talk about cutting social security or Medicare perk my ears right up. I always take the role of a teacher and I want to explain all this complicated Washington, D.C. stuff to anyone who will listen and especially those that vote. Heaven knows the people in Washington don’t seem to understand it. Otherwise how can you explain the asinine comments they spout.

Not that I watch any TV or talk shows, but I do read the paper every day and have a lot of news feeds on my iPhone … mostly technical and computer news, but I read the headlines and follow the farce in Washington.

I consider myself a moderate. That means that both sides hate me! The Republicans think I’m a socialist and the Democrats think I’m some kind of gun-loving nut. Actually, I don’t support guns nor gun laws, and I am worried there may be more people going for a ride in the wagon than there are to pull it. I’m for increased support of education while I am opposed to high tuition costs. I respect the environment while I think we’ve got to keep fuel costs reasonable. I’m opposed to both unions and corporate power. I support the military and I'm anti-war. I'm against abortion and the death penalty. I only believe in things I think will actually have an effect, and not an unintended consequence.

However, I do have stake in this economy game, and I keep watch for inflation and news about debts and debt ceilings and cutting benefits … especially benefits that I benefit from … isn’t that why they’re called “benefits;” or another loaded term, “entitlements.” Darn right I’m entitled to all I paid for. I want the government to keep their cotton pickin’ hands off my social security checks and keep those Medicare payments coming.

I am concerned about the debt, but I’m more concerned about the deficit. In the American political conversation, the national debt has become something almost mythical. It has become a metaphor for all that ails the United States, a scary monster under the bed. It isn’t. It’s an accounting concept.

The debate over deficits and debt is frequently clouded with sloppy language and sloppy thinking. Here, as something of a primer, are some basic concepts every American — and every member of Congress — should understand about the U.S. fiscal situation. These are the five things everyone should know about the deficit and the debt.

1. The deficit is the gap between revenue and spending — usually on an annual or fiscal year basis.

For FY 2013, the U.S. Federal budget deficit is projected to be $901 billion. That's because U.S. government spending is budgeted at $3.8 trillion, while U.S. government revenue will only be $2.9 trillion. Although this deficit is huge, it is less than the budget deficits in each of the past four years.

The U.S. government took in about $7,000 in revenue for every man, woman and child in the United States last year. It spent more than $11,000 per person. The gap between those numbers, about $4,000 per person, is the deficit, and it was covered by borrowing money adding to the national debt.

Some politicians speak as if high levels of government spending and a large budget deficit are the same thing. This isn’t so. You could have a government that spends $11,000 per person — but with taxes to match it — and no deficit. Or you could have a bare-bones government of a libertarian’s fantasy that spends only $7,000 per person but that runs a large deficit because it raises only $3,000 per person in taxes.

Inevitably, the debates over the proper size of government and the proper level of the deficit are intertwined. But they’re actually separate questions. Think of it this way: There are rich people who borrow a lot of money, and there are poor people who live within their means. The question of whether someone is rich or poor is separate from the question of how much money they borrow.

2. The national debt is from deficits accumulated over 200 years.

Looming over 6th Avenue in midtown Manhattan is a clock ticking ever upward, showing the accumulated national debt. It is currently $16,687,289,180,215 (as of the end of February).

The national debt works out to about $53,000 per American. If you are a family of three, then your share is about $160,000. (Assumes population of 313,914,040; a figure from July of 2012 Census Report.)

That level of debt has been accumulated over two centuries, rising rapidly in times of war and depression, rising slowly most of the time, and occasionally falling in times of prosperity and fiscal restraint.

But even if Congress and the Obama administration agreed to a budget for next year with zero deficit, the national debt would still be with us. It would take massive budget surpluses year after year to eliminate it. No one in public office has offered a plausible plan that would do that.

The good news is that there’s really no need to eliminate the debt entirely. Having no debt could be problematic. Government debt, in the form of U.S. Treasury bonds, plays a crucial role in the inner workings of the financial system, offering what is considered a safe place for investors to put their money.

3. Not all debt is bad. Some debt is good.

There’s no doubt that debt can be dangerous, but used correctly it can be beneficial. For example, a family might borrow to buy a house or for a child’s education. So long as the family is careful about the amount of debt it takes on, it could pay off handsomely — giving them a comfortable place to live for many years and ensuring their child has higher future earnings.

But if the same family used borrowed money to pay for lavish vacations, a new boat or even just routine day-to-day expenses, then it would probably lead to trouble.

The analogy is straightforward: If the government borrows money to pay for things that have a long-term payoff, such as a highway between two major cities or education for its citizens, deficit financing can make a lot of sense. When the government borrows money just to pay its year-in, year-out expenses, it’s really just a tax increase by another name. When a family puts its grocery bills on the credit card, they ultimately have to be paid. It’s just a question of when and for how much additional cost.

And speaking of credit card bills, soon there will be another debate in Congress on raising the debt ceiling. The sequestering cuts that the US is now undertaking are the results of the bargain reached last time the ceiling had to be raised. Some will oppose raising it again as a method to force balancing of the budget. I want to see the budget balanced too, but not raising the debt ceiling is like spending the money and then refusing to pay the credit card bill when it is due. That is a direct road to the poor house. We need to get the debt and deficits under control, but not by wrecking our entire financial house and going into bankruptcy … that’s what you call it when people or countries don’t pay their debts.

Liberals and conservatives tend to have different views of what sorts of government functions have a long-term payoff high enough to warrant deficit spending. For example, when the steep recession came, the government enacted $800 billion in spending and tax cuts paid for with borrowed money. Back to the household metaphor, it would be the equivalent of a family, with one of its earners unemployed, using the credit card to stay afloat during a difficult period, hoping to pay off the balance when conditions improve.

Is that a good use of debt or a bad one? The answer depends on your ideology.

4. The stronger the economy, the less debt we’ll have and the more we can handle.

The diligent economists at the Congressional Budget Office dutifully prepare 10-year forecasts for the federal deficit and debt, under a wide range of policies that Congress might or might not enact. But to make those forecasts, they have to guess how the economy will do. The reality is that economic growth has a massive impact on both the scale of deficits and how sustainable a given debt level might be.

When the economy is stronger — when there is more economic activity, fewer unemployed and higher incomes — income taxes are higher. Simultaneously, there is less need for unemployment insurance, Medicaid and other social welfare programs.

As Republicans argue, lowering taxes increases economic activity, which can actually lead to higher revenues for the Federal Government. And the opposite, high taxes may slow the economy to the point that less total revenue is collected in tax than when rates were lower.

Democrats point out that government spending — at least the right kind of spending — will lead to an improved economy and actually pay back the extra spending with a surplus. Yes, it can work that way too. In an economy where Federal spending is a large percentage of the total gross national product, Uncle Sam becomes one of the largest employers, and when Uncle lays off (or cuts spending to companies supplying stuff to him), the economy suffers. It kind of reminds me of the state of Wyoming. My theory is that everyone in Wyoming works for the state. You gotta think about that from an economic and tax view to see what is wrong with that. (Not picking on you Wyoming folks, but you gotta agree with me that plenty of Wyoming jobs are with the state government.)

Figuring exactly which side is correct is pretty tricky. That’s why economists are right up there with weather predictions. Expect rain tomorrow, unless it doesn’t rain. As a moderate, I’m always cheering for some middle ground. Let’s cut unnecessary and wasteful government spending and lets be more efficient with our tax system, closing loop holes and making sure everyone, person or corporation, pays their fair share. Seems so logical and simple, yet it never is. But I wish the debate would focus more on priorities rather than simple partisan rhetoric.

Not only would a stronger economy make the deficit lower — it would broaden the nation’s capacity to handle a large debt. Just as a $1 million mortgage would be ruinous for a poor family but easily manageable for a wealthy one, the United States can handle a larger amount of debt the greater our national income.

5. Interest rates matter … a lot.

Here’s a phrase that most Americans have never heard but that will be really, really important over the coming decade: “debt dynamics.” That’s the concept that deficits and debt have a built-in feedback loop. So when debt levels rise too high, interest rates can rise, making the debt problem all the more onerous. Debt dynamics are the reason that, even though interest rates are very low now, it is worth worrying about current U.S. debt levels.

A debt level that is completely manageable when interest rates are 3 percent can become burdensome when rates are 6 percent. Every rise in interest rates by a single percentage point increases the annual cost to service that debt by about $140 billion, or $450 for every American.

What that means is that with debt levels high relative to the size of the economy, a country loses control of its own destiny in terms of public finances. If global lenders lose faith that the U.S. government is the safest entity on Earth to lend money to, the fiscal situation would go from being a long-term challenge to a near-term crisis.

You may have noticed that the Fed (a quasi-government agency that determines interest rates for banks) has been setting almost zero percent rate for the last five years. That was partially to stimulate the economy, but it also helps keep the Federal Government debt service (interest) low. You’ve got to ask yourself how much longer will they be able to keep interest rates so low without causing inflation.

An increase in inflation, which has its own danger to our economy, would force the Fed to raise interest rates. That would slow down the economy, lowering government revenues, and increasing the cost of the debt. It’s a real danger to everyone in the US and in the whole world because we are a leading economy. When we sneeze, the world catches cold.

There are countries that maintain larger levels of debt than the United States, relative to the size of their economies, such as Japan and Italy. But it creates a certain national vulnerability — to the hard-to-predict whims of financial markets.

There are big increases in government expense on the horizon, especially from Social Security and Medicare, and an ongoing issue of national security and the size and spending of the military, as well as other concerns of the environment, education, health care for the rest of our citizens not on Medicare, and helping those most in need of assistance.  We are undertaking a giant change in our medical insurance system which no one can really predict if it will cost money or save money, and everyone in Washington seems to want to change it before we find out if it will work or not. We need to be concerned about our infrastructure from roads and bridges to our power grid to computer servers being hacked by everyone from Anonymous to our greatest enemies abroad. And now people are worried about meteors striking the earth. How much will that cost?

It is a complicated issue that requires clear thinking and understanding, not the emotional appeals that have become part of the government finance process where every few months we have a crisis which is fixed at the last moment by kicking the can a little farther down the road. The can will soon be too big to kick.

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