26 Nov The Dawn of Fiscal Reality
“America’s treasury is bankrupt.” – The Lonely Realist
As Herb Stein, Chairman of the Counsel of Economic Advisers under Presidents Nixon and Ford, famously said, “If something cannot go on forever, it will stop” – Stein’s Law. America’s combination of excessive spending, too-low taxes and multi-trillion-dollar deficits cannot continue indefinitely. They have created unrepayable debt that, in time, will combust. The risk-period for an explosion begins in 2025 when America’s newly-elected Congress will be compelled to address unpleasant fiscal realities framed during the 2024 elections by the looming December 31, 2025 sunset of the Trump Administration’s 2017 tax cuts. Congessional non-renewal of those tax benefits would adversely impact a broad constituency and likely be hotly-contested …, though, unfortunately, not because of candidates’ consciences or their belief in fiscal probity. While debates about restoring the 2017 tax cuts might not create a level of urgency sufficient to lead to a consensus solution, it would present a newly-constituted Congress with an opportunity to address solutions. It is likely that 2025 also will see increasingly difficult geopolitical and global economic stresses, the latter in regions having even more serious fiscal problems than America. Unless a majority of America’s elected officials can agree on regaining control of the Federal budget, however, America thereafter will be unable to satisfy its creditors …, including voter-retirees who are due payments under Social Security.
Deficits happen when expenses exceed income. America has financed 20+ years of overspending by borrowing. That can’t continue indefinitely (and neither can the printing of Dollars, as the Federal Reserve has finally conceded). At some point, the country’s economy has to grow at sufficient speed to generate higher tax revenue. Its coffers have to be refilled to a level necessary to pay Federal obligations. America’s current fiscal imbalance admittedly was exacerbated by freewheeling pandemic spending (tax cuts, loans, grants and subsidies), which materially degraded its deficit and debt profiles. The clock on America’s debt bomb nevertheless is ticking, with the passage of time making it less and less possible for America’s debts ever to be paid.
Continuing annual deficits impose snowballing debt on future generations, the equivalent of a tax on future growth and prosperity. Deficits shift consumption forward in time, lowering subsequent consumption and living standards. Since the world also is experiencing inflation, later consumption will carry a higher price tag, reducing future demand for goods and services unless wages and incomes rise faster than inflation. Such an excess wage and income rise is unlikely. In fact, the opposite is true, meaning that reduced demand will result in reduced production and gradual economic decline.
Contributors to America’s debt bomb include Social Security, Medicare, Medicaid, Veterans’ Administration benefits, Federal employee and military retirement plans, unemployment compensation, food stamps and similar welfare programs, and agricultural price supports, as well as national defense and interest on Federal debt. Each has its own powerful constituency. For example, past proposals to means-test for Social Security and Medicare, raise the retirement age and increase taxes to pay for entitlement programs have gone nowhere. From an electoral perspective, they are the “third rails” of American politics, not to be touched by politicians without electoral electrocution. Unfortunately, passage of even these proposals would have little impact on today’s deficits of >$2 trillion/year. Recent estimates by the Congressional Budget Office suggest that Federal debt alone is likely to exceed $37 trillion by the end of 2025 – it is currently >$31 trillion.
Consider the largest of America’s fiscal obligations, Social Security, which provides benefits to everyone who ever had a job. It is funded by a tax on current workers and their employers (FICA) to support what originally was planned to be a far smaller number of retirees (a Federal pyramid scheme). Although that was true in the past, the required excess of current workers over retired workers ended some years ago. The result is that Social Security is projected to be in deficit by 2034, at which time it will have to be funded by Federal revenues … or by further deficit borrowings. The longer Congress waits before addressing the Social Security problem (yet alone other spending and revenue issues), the larger and more intractable it will be. (Even today, there is little chance of preserving Social Security for future generations …, and the Supreme Court has held that Congress can change the rules at any time.) Members of Congress of course will not want to touch the Social Security “third rail,” but at some point they will have no choice. America doesn’t have unlimited borrowing capacity, unlimited revenue, or unlimited growth potential. The level of debt growth in America simply can’t continue. The only questions are when and how it will stop.
The chances of today’s divided Congress addressing America’s fiscal problems are nil. Because Trump Administration tax reductions will automatically vaporize in 2025, however, Congress will have to make choices by then. It will be doing so, however, amid swirling geopolitical pressures that threaten a range of potential crises. For example, the U.S. is not alone in facing a debt bomb. Europe notably is in even worse shape. At the same time, America remains in a hegemonic struggle with China (with Japan actively rearming against perceived Chinese threats and 2024 elections in Taiwan presaging a Chinese military move against the island). Meanwhile, hot wars are likely to continue threatening global stability with America and its NATO allies pumping out costly munitions in the face of ongoing Russian Chinese and Iranian aggression.
No one knows what will detonate America’s debt bomb. What history teaches is that the trigger will arise from a significant economic, geopolitical or health-related event or from a natural disaster. Because a crisis is, as they say, a terrible thing to waste, that will be the time when sovereign nations will choose to address their unrepayable debts …, with unpleasant consequences for their citizen-creditors.
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Finally (from a good friend)