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Posts Tagged ‘national debt’

Sequestration: The Destruction of a Nation?

Budget CutUnless there is a last-minute deal in Washington, which no one expects to happen, the reductions in federal government spending known as sequestration will start tomorrow.   Some politicians, economists and leaders have shrugged off the cuts as having a negligible effect on the economy and government services, while others are predicting a near cataclysmic effect.

The following are just some of the claims made by President Obama and others opposed to the cuts.

  • Police, fire and other first responders will be laid off.
  • Classroom sizes will swell as teachers lose their jobs.
  • Air travel will become more dangerous when traffic controllers are let go.
  • Security lines at airports could be 4 hours long when the TSA is forced to trim its ranks.
  • Food will be dangerous to eat because the FDA will need to reduce the number of inspectors.
  • Criminals will go free because there aren’t enough federal prosecutors.
  • And my favorite…  Maryland Rep. Donna Edwards says battered women will be forced to remain with their abusers because hotlines for battered women will go unanswered.

We expect a certain amount of posturing and hyperbole in political discourse, but some of the recent statements sound like fear mongering.

In reality, no one knows for sure what the sequestration cuts will do to the economy or government services.  There is certain to be some effect, but if the impact is anything close to what has been predicted in the past weeks, then we are in serious trouble as a nation.

Consider these facts about the sequestration cuts.

  • Total federal spending will be reduced by $85 billion this fiscal year.
  • Half of the cuts are borne by the defense department and the remaining half over the other agencies.
  • Total federal spending in Fiscal 2013 will be approximately $3.8 trillion.
  • The Fiscal 2013 budget deficit is projected to be $894 billion.
  • The sequestration cuts amount to 2.2% of all spending and would reduce the deficit by less than 10%.
  • US GDP is estimated to be over $13 trillion.
  • The sequestration cuts would account for 0.65% of annual GDP.

If 2.2% of federal spending and 0.65% of GDP sends our nation and economy spiraling out of control, the future is much worse than the grim predictions of the sequestration cuts.  Federal spending would have to decrease by 25% to balance the budget.  If a 2.2% reduction caused this kind of havoc on our society, imagine what it would be like if we had to cut spending to balance the budget.

Without question, sequestration will be painful for people directly or indirectly affected, and the across-the-board nature of the cuts probably isn’t the most effective or efficient manner to reduce government spending.  However, if the current sequestration cuts can destroy our nation, we’re already destroyed; we just don’t know it yet.

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Social Security Groundhog Day

You may have seen the movie “Groundhog Day” which was released in 1993.  In the movie, Bill Murray plays weatherman Phil Connors who was sent to Punxsutawney , PA to cover Groundhog Day, only to find himself repeating the same day over and over again.  No matter what he does, he can’t seem to escape Groundhog Day.

The annual report from the Trustees of the Social Security Administration seems like its own version of Groundhog Day.  Every report seems to be a repeat of the prior one.  The reports warn of the coming insolvency of Social Security and Medicare, but it’s projected to be far enough into the future, that no one seems to worry too much.

The 2012 report estimates the Social Security system will become insolvent in 2033, three years earlier than what was predicted a year ago.  The fiscal status of Social Security has been known for years, yet Congress and President Obama reduced the employee’s contribution rate to the Social Security system from 6.2% to 4.2% for 2011 and 2012.  The rate reduction was intended to stimulate the economy, and they argued it would have no long-term impact on the solvency of Social Security.  Anyone with a rudimentary understanding of economics and finance could tell you paying less taxes into a system that is already paying out more than it receives, will have a negative effect.  Only Washington politicians are surprised by the updated figures, or at least act surprised.

The staunch defenders of this ridiculous argument also contend the system is solvent for more than the next two decades.  They point to the trillions of dollars in the Social Security Trust Fund as the saving grace to the system.  You can read this article to learn the fallacy of this belief.

There are a couple of other facts in the report which might cause concern.  In 2011, the government collected $691 billion of Social Security Taxes and paid out $736 billion in benefits.  It appears there was a $45 billion shortage in 2011, but there wasn’t.   The Social Security Administration collected $111 billion of interest on its IOU’s from the US government, so it reported a surplus of $66 billion, rather than a deficit.  So where did the $111 billion of interest come from?  It’s part of the $1 trillion of additional debt the U.S. Treasury issued over the past year.

It’s easy to get lost and confused by the Federal government’s accounting methods, which may be intentionally arcane.  So here is the bottom line… call it what you want, but the U.S. government borrowed an additional $45 billion to pay out Social Security benefits in 2011.  If you read the report and analyze the projections, you’ll see this number is only going to grow exponentially over the next two decades.

What is it going to take to change the situation?  I really don’t know if we’ll ever realize what’s happening as long as the government keeps sending out checks.  But what happens if they stop?  It’s unlikely to occur, at least for a long time, but what would have happened if the U.S. Treasury wasn’t able to borrow the additional $45 billion? Since there are no real assets in the Social Security Trust Fund, $45 billion in checks would not have been sent.

So in essence, it’s like we’re stuck in our own Social Security Groundhog Day, but there is a difference between us and the character Phil Connors; Phil Connors recognized he was stuck and tried to change it.  Sadly, most of us don’t believe we’re living our very own Groundhog Day.

Details of the Debt Deal

After weeks of political wrangling, Congress and President Obama enacted the Budget Control Act of 2011.  The legislation provides for an immediate increase the debt ceiling of $400 billion, averting a potential default by the U.S. government.  Avoiding default is probably the one thing most Americans are pleased with in this bill.

The debt deal is long on political rhetoric and short on details.  While many of our political leaders are touting the success of this legislation as a significant step towards dealing with the fiscal challenges of our country, there is little discussion of what is actually going to happen.  Beyond deferring the most significant spending cuts to a Joint Select Committee (JSC) composed of 12 Congressional leaders, evenly divided by house and party, there are few details of how the actual spending cuts are going to be achieved.

The Congressional Budget Office scored the spending cuts to be $2.1 trillion between 2012 through 2021. Of this amount $917 billion is supposed to be guaranteed in exchange for allowing the Treasury to sell another $900 billion in bonds.  The remaining $1.2 trillion is supposed to be determined by the JSC.  At this point, no one knows what is going to be cut to achieve any savings.

From what has been released, the bill calls for $21 billion of spending cuts in Fiscal 2012 and $42 in 2013.  Not surprisingly, the substantial cuts happen far in the future, which means there is always the chance the cuts won’t happen.  For those of us who believe government spending is on an unsustainable path, this is not very encouraging.  Here are a couple of things to consider.

President Obama’s 2012 Budget  proposal calls for $2.6 trillion in revenue and $3.7 trillion of spending; resulting in a $1.1 trillion deficit.  The House passed a budget with $2.5 trillion in revenue and $3.5 trillion of spending; racking up a $1 trillion deficit.  According to the debt deal, spending will be trimmed by a measly $22 billion.  This is about 0.6% of all federal  spending for the coming year.

Talking in trillions and billions can seem rather esoteric, so think in these terms.  Assume you make $50,000 this year.  If you managed your finances like the federal government, you would spend over $70,000, borrowing the difference.  If you cut your spending like Congress and the President have proposed, you would only trim your spending by $420 for the next year.  That’s right… just a mere $8 per week, even though you’re overspending by $20,000.  Given those parameters, would you say you were serious about changing your spending habits by cutting $8 per week?

Many politicians and commentators are calling this a historic piece of legislation.  They refer to it as a down payment on our debt and an important first step.  This may be true, but it’s an indication of how difficult it is for Congress to cut federal spending.   If they can barely manage to trim $22 billion, how are they going to come anywhere near close to $1 trillion?  It would take over $1 trillion of additional cuts and/or revenues to balance the budget, before we can even begin to pay down the debt.

The debt deal further illustrates the Congressional propensity to defer hard decisions.  Effectively, it will be a future Congress and potentially a different President, who will have to make the hard decisions to cut spending and balance the budget.  Given the history and culture of Congress, it’s no wonder the debt deal is long on politics and promises and short on specifics and spending cuts.

Debt Ceiling Extension – Short or Long-Term

One of the issues in the debt ceiling debate is the size of the increase in borrowing capacity, which effectively determines how long before the government runs out of money again.  President Obama and some Congressional leaders have demanded any debt ceiling increase cover the projected federal deficit for at least 18 months, thereby deferring the next debt ceiling vote until after the November 2012 election.

Congress has passed and the President has signed three debt ceiling measures over the past 2 ½ years. Here is the  history of the debt ceiling votes since President Obama took office in January 2009.

  • February 2009 – debt ceiling increased to $12.1 trillion, lasting 10 months
  • December 2009 – debt ceiling increased to $12.4 trillion, lasting 2 months
  • February 2010 – debt ceiling increased to $14.3 trillion, lasting 15 months

President Obama’s current insistence for a limit to last 18 months is longer than any of the three extension bills he previously signed.  Given the acrimonious nature of the current debate and political wrangling, it’s understandable why he prefers to push any future debate beyond the 2012 election.   However, a political preference to avoid a contentious issue does not justify vetoing legislation with a shorter time frame.

Many Republicans are willing to pass a shorter-term measure because they believe the political sentiment on this issue is in their favor.  In all fairness, if they believed a short-term measure was detrimental to their political future, they would be pushing for a longer term solution as well.

The supporters of the 18-month measure have argued a short-term increase will continue to negatively impact the economy and jeopardize the U.S. Government’s credit rating.  However, neither Moody’s nor Standard & Poor’s have indicated the size of debt increase as a significant factor in assessing the credit rating of U.S. Treasury securities.  Both have stated there are two primary factors they are considering; 1) the U.S. not defaulting on any of its payments and 2) a meaningful reduction in future budget deficits.  The length of a new debt ceiling has not been mentioned as having any bearing on their assessment.

The markets seem to echo this sentiment.  We’re days away from the August 2nd default date, yet there has been no appreciable change in the trading or pricing of U.S. Treasuries.
It appears traders and investors assume Congress will pass some measure to prevent the government from defaulting, even if it’s short term.  Although investors prefer Congress to act sooner, they understand the political landscape and realize such issues often result in deals being cut at the last moment, or Congress passes a short-term extension to grant themselves more time to reach a deal.

The 2011 Budget is a good example.   Rather than shutting down the government for failing to reach an agreement, Congress passed six continuing resolutions to fund the government from October 1, 2010 through April 8, 2011, before the final budget deal was reached.  The shortest continuing resolution was 3 days, keeping the government operating from December 18 – 21, 2010.  Although it may be annoying and unnecessary, short-term extensions to keep the government operating have become rather common.

At this point, I think a short-term resolution is probably the most likely bill to pass.  As much as the President may want an 18-month limit and some conservatives want no increase in the debt ceiling, neither one of them wants to be the blame for the U.S. government defaulting and the potential economic chaos which could result.  Political winds can shift rather quickly, and no one wants to be caught downwind of decision which freezes the markets or dramatically increases interest rates.

If you have read any of my prior articles, you know I strongly believe dramatic long-term changes to our fiscal policies are necessary. At the same time, significant changes in policies or spending should not be hastily passed, and I would much prefer good legislation over expediency.

Everyone may be tired of the debate and just want it to be over, but don’t allow politicians to obscure what they’re doing by waiting until the last minute to present and pass something.   Spending cuts and tax increases affect real people.  Tough choices need to be made… that’s a given.  Let’s just make sure we all have time to understand the choices being made by our elected officials; before they are enacted.

Decoding the Debt Debate

If you’re following the current debate on raising the debt ceiling, you’re probably frustrated.  Your angst may be triggered by, the partisan bickering, the lack of great leadership or the uncertainty of what may happen and what it all means.

Politicians from all political persuasions and affiliations have become very adept at obfuscation.  Knowing whatever they say or do can and will be used against them in a future election, politicians have become very proficient in deflecting and dodging direct answers.  They speak in vague terms and try to boil everything down to a 30 second sound bite.

Politicians and political commentators often use terminology that is confusing and often misleading.  You almost need a secret decoder to decipher what they are saying.  I don’t all of the secret codes, but I have a few.

As you listen to the debate, the following are a few terms to keep in mind.

  • The National Debt – The cumulative amount of money owed by the U.S. government. These are actual bonds held by various investors (including the Chinese government and your friendly bank).  The total outstanding debt is approximately $14.5 trillion.
  • The Debt Ceiling – The total amount of bonds the U.S. Treasury is authorized to issue.  The debt ceiling is currently equal to the National Debt.  A law must be passed to increase the debt limit.
  • Deficit – This is the amount of money the government is spending in excess of revenues it collects in one fiscal year (October 1 – September 30).  The deficit for fiscal 2011 is projected to be $1.4 trillion.
  • Credit Rating – Every bond traded on a public market is rated by an independent credit rating agency, which assesses the financial strength of the issuer and the likelihood of default.  The lower the rating, the higher the interest rate required.  For bonds already issued, a change in credit rating will often influence the price at which the bond is traded on the market.

Aside from these terms bantered about, I believe there are a few important factors you need to pay close attention to in any deal that is reached.  These will be the types of issues our  political leaders will attempt to obfuscate.

  • Time Horizon – The time horizon for the spending cuts and additional revenues will be calculated over the next 10 years.   If Congress and the President agree to cut $1 trillion in spending, it won’t all come in fiscal 2012.  They may sound like everything is happening this year, but any plan will be adopted over the next decade.  Raising the debt ceiling is the only thing to take effect immediately.
  •  Timing – Look at the timing for when additional revenue is received and spending cuts are enacted.  If history repeats itself, the revenues will start to be received soon, and the  bulk of the spending cuts will happen in the latter years.  In the world of pork barrel politics, elected officials use government spending to buy votes, and the termination of programs will frequently cost votes.  Thus, politicians have a real incentive to defer spending cuts to another day.
  • Details –It won’t be easy, but do your best to understand the details of the plan.  Congress is trying to make major changes to the tax code, Social Security, Medicare and  Medicaid, and they’re rushing to get it done in the next few days.  I don’t think you want a repeat of Nancy Pelosi’s famous quote, “We have to pass the bill so you can find out what is in it.”

I believe this is a serious issue, and how it is resolved could have far-reaching implications for the future.  No one knows what will happen if the government defaults on its debt, since it has never happened.  As I previously wrote, I think Congress will and should raise the debt ceiling, but it also needs to curtail government spending.  Racking up over $1 trillion of debt each year is just as perilous as defaulting on the current obligations by not raising the debt ceiling.

I also have serious reservations about our leaders’ability and willingness to cut spending.  The 2011 budget compromise is a good illustration of this.  Although they supposedly agreed to $38 billion in spending cuts, most of it was accounting gimmicks and money that wasn’t going to be spent anyway.  One analyst calculated the reduction in spending on specific programs to be less than $1 billion in comparison to fiscal 2010.

As the debate continues forward, follow closely.  Here’s why.  Last week, President Obama was pushing a plan to cut spending by $3.7 trillion and add $1 trillion of new revenue, for a net decrease of $2.7 trillion over the next decade.  Sound like a reasonable compromise?  Before deciding, you may want to consider this.  When the Administration presented their 2012 budget to Congress, they also provided a 10-year budget estimate.  The Administration projected total deficits over the next 10 years to be in excess of $9 trillion.  If the current deal cuts it by $2.7 trillion, that still means we’ll add over $6 trillion to the national debt, pushing out total debt close to $21 trillion by the end of the decade.  Still think it’s a good deal?

To me this is a good example of why we must watch this closely.  Despite the political rancor, everyone in Washington is looking for a deal which will make them look good.  Let’s just make sure the American people get as good of a deal as our politicians.

Cost of a Job

What is the cost of a job?  Priceless… if you’re without one.

The American Recovery and Reinvestment Act of 2009 (a.k.a., the Recovery Act or the Stimulus), was enacted in February 2009 to create jobs and stimulate business investment in the recession which became severely pronounced at the end of 2008.  The original cost estimate was $787 billion. The most recent estimate is a $862 billion price tag.

President Obama and the supporters of the Stimulus argued that unemployment would exceed 9% without the Stimulus, but it would never be higher than 8% if the Stimulus was enacted.  Sadly, the unemployment rate reached 8.2% in February 2009, the month the Stimulus was passed, and exceeded 9% in May 2009. The rate has remained above 9% for over two years, except during February and March of 2011.

The Stimulus proponents have maintained that it was beneficial, and things would have been much worse without the Recovery Act.  This may be true, but it’s a difficult argument to make.

On July 1, 2011, the President’s Council of Economic Advisors released the most recent report on the progress and effect of the Recovery Act.  The report touted the Recovery Act’s success in creating or saving 3.6 million jobs.  Even if you accept the inclusion of a “saved job”, which is a controversial claim itself, the average cost per job is currently estimated to be $278,000.

The opponents of the Stimulus seized on this number to further criticize the Stimulus.  In their mind, the cost per job is highly excessive and is further proof of the government’s inability to spend money efficiently and effectively.  The White House argues the calculation was skewed, and the Recovery Act was intended to do much more than create jobs.

Despite all of the rhetoric coming from all sides of the political spectrum, the long-term benefits of the Recovery Act remain questionable.  One long-term effect is easily quantifiable – the additional debt incurred to fund the Recovery Act.  Since the government didn’t have $862 billion of extra cash on hand, we had to borrow it.  Thus, every American is responsible for an additional $3,800 of debt as a result of the Stimulus.

The effectiveness of the Stimulus may be debated a long time to come.  Whether we are better off or not, no one will ever truly know.  However, one thing is probably clear.  We’re not likely to see another $800 billion Stimulus Bill anytime soon.  With a $14 trillion debt, which is growing by over $3 billion per day, we simply can’t afford it.

If your job was created or saved as a result of the Stimulus, you probably think it was money well spent, although I doubt you actually got $278,000.  If you did, let us know how you achieved it.  Then again… maybe you better keep it to yourself.

The Crushing Power of Debt

If you’re like me and a lot of other people, you’re a little concerned with the ever-increasing government debt.  According to the most recent estimates, the U.S. Government will rack up a record-breaking $1.6 trillion deficit this year.  This doesn’t include the billions of dollars of current deficits and $2.4 trillion of debt by our state and local governments. 

I would encourage you to read this Washington Post article.  It analyzes the current debt levels with those in 1946, immediately following World War II.  Keep in mind that the Washington Post doesn’t have a reputation as a conservative news organization.  In my opinion, it’s significant that people from both ends of the political spectrum are sounding the alarm about the national debt.

I particularly liked the quote by Robert D. Reischauer, former director of the nonpartisan Congressional Budget Office.  He said that the debt accumulated by 1946 “was for a very different purpose, which was to preserve freedom and democracy versus totalitarianism rather than to throw a huge party and put it on the credit card.”  Like every other party, the celebration eventually ends and someone has to clean up the mess, which I think is a good description of our current times.

I’m not a pessimist or an alarmist, but I do agree with the general premise of the article – there are tough times ahead. I believe the economy is incredibly resilient, and I don’t think an economic apocalypse is on the near horizon. However, I do believe that it’s possible.  Call me crazy, but I know that we can’t continue overspending at the current rate without severe consequences.

You only need to look at the devastating effects of the recent mortgage crisis to realize the power debt has to inflict financial and personal ruin.  You may believe people are suffering from the consequences of their poor decisions, and you may be right.  However, a lot of innocent people have also suffered, through no fault of their own.

If you’re a student of history, you know that the fall of mighty and powerful nations can have far-reaching impact.  The fall of the Roman Empire was followed by the Dark Ages.  The Great Depression may have been born in the U.S. but soon affected people worldwide.  The economy is much more globally intertwined than ever.  Although the mortgage meltdown was primarily triggered by the collapse of the U.S. housing market, investors all over the globe lost billions.  As the largest economic engine in the world, the U.S. economy and government have tentacles that reach into the lives of people worldwide.  The faltering of the U.S. economy and government will have a global effect.

You may believe it would be a good thing if America lost some of its dominance in the world, and that may happen.  However, if history repeats itself, which it often does, the process of transition may not be very pleasant.

The overall economic recovery that has occurred over the past 18 months has been a mixed blessing.  The good news is that it proves the resiliency of the economy.  The bad news is that it can give us a false sense of security that we as a nation are invincible and too big to fail as well.  As strong as our economy and government may be, debt has the power to crush them both.  It’s not inevitable that it will occur, but if we don’t’ change course soon, it might.  If debt has the power to crush you, it can also crush our nation.