Five Mainstream Economists Sound a Warning
Tea Party Economist
by Gary North: Digital
Technologies vs. Truth†Suppression
Street Journal ran an article the likes of which I have never
Magnitude of the Mess We're In." It was written by five well-known
economists. It warns readers about a series of highly destructive
outcomes of the federal government's present fiscal policies. The
article says that these problems are close to being unmanageable.
economist involved is George Shultz. He taught at the University
of Chicago and MIT. He served as the Secretary of the Treasury under
Nixon and Secretary of State under Reagan. He served as the Head
of the Office of Management and Budget under Nixon, and also Secretary
of Labor under Nixon. I can think of no other economist with comparable
experience at the highest level. He is an insider's insider. He
is 92 years old a true elder statesman
economist is Michael Boskin. He teaches at the Hoover Institution.
He used to teach at Stanford. He was the head of the Council of
Economic Advisers under the first Bush. Then there was John F. Cogan
of Hoover and Stanford. Then there was Allan Meltzer, who is the
most respected historian of the Federal Reserve System. Finally,
there was Stanford's John Taylor, of "Taylor rule" fame, one of
the most respected academic economists in the USA.
with this article is it is naïve. It is Pollyanna to the core.
It begins with the on-budget deficit: a mere $1.2 trillion a year.
The on-budget deficit is peripheral to the real federal deficit,
which reflects the unfunded liabilities of the federal government,
primarily in Social Security, Medicare, and Medicaid. This deficit
dwarfs the on-budget deficit. It
is rising at $11 trillion a year.
has a present value of $222 trillion. This means that the federal
government, today, must invest $222 trillion in market investments
that will return about 5% per year for the next 75 years. No such
investments exist, and the federal government does not have $222
trillion in reserve. The Federal Reserve system could print that,
of course, but then that would only lead to hyperinflation.
In other words,
by starting with the on-budget deficit, the five economists low-balled
the problem. This makes it look as though the problem can be dealt
with by Congress. It cannot, except by one technique, namely, default.
They mention unfunded liabilities only briefly, and they offer no
in a načve sort of way, the five economists do point out that present
politics makes it virtually impossible for the on-budget deficit
not to escalate, and if it does, it is going to lead to a series
of inevitable disasters. The five economists go into the details
about these disasters, and it is a good thing that somebody bothered
to do this.
began with a good question: "Where are we now?" Answer: a lot worse
off than the article says.
It asks this
question: "Did you know that annual spending by the federal government
now exceeds the 2007 level by about $1 trillion?" I do. You do.
the deficits: $1.4 trillion in 2009, $1.3 trillion in 2010, $1.3
trillion in 2011, and another $1.2 in 2012. "The four-year increase
in borrowing amounts to $55,000 per U.S. household."
the unfunded liability's present value grew by $11 trillion over
the past 12 months. So, the article low-balls the magnitude of the
mess we are in.
must raise $4 trillion this year to pay the interest on the on-budget
debt. They warn: ". . . the debt burden will explode when interest
rates go up." Quite true.
cannot tax upper-income people. The top 1% pay 37% of the income
taxes. (That is because they make most of the income, which the
authors do not mention.)
know that, during the last fiscal year, around three-quarters
of the deficit was financed by the Federal Reserve? Foreign governments
accounted for most of the rest, as American citizens' and institutions'
purchases and sales netted to about zero. The Fed now owns one
in six dollars of the national debt, the largest percentage of
GDP in history, larger than even at the end of World War II.
This is true.
But this means that the Treasury will get back most of the money
it pays to the FED it pays as interest. The FED repays most of this
at the end of the year. This is an accounting device.
"By replacing large decentralized markets with centralized control
by a few government officials, the Fed is distorting incentives
and interfering with price discovery with unintended economic consequences."
This is true. It lies at the heart of the mess we are in.
policy of keeping interest rates so low for so long means that
the real rate (after accounting for inflation) is negative, thereby
cutting significantly the real income of those who have saved
for retirement over their lifetime.
FOMC says this will continue until at least 2015.
They say that
the FED is replacing the Treasury as the source of government debt
management. They are correct.
of price inflation. The reserves of QE3 could do this. But if the
FED unwinds too fast sells assets, abandoning QE "banks
may find it hard to adjust and pull back on loans. Unwinding would
be hard to manage now, but will become ever harder the more the
balance sheet rises."
The FED tried
to unwind over the last 12 months. They do not mention this. The
result: the FED's panic return to QE3. There will be no unwinding.
summarize some highlights, though peripheral. "Did you know that
the federal government had 46 separate job-training programs? Yet
a 47th for green jobs was added, and the success rate was so poor
that the Department of Labor inspector general said it should be
shut down. We need to get much better results from current programs,
serving a more carefully targeted set of people with more effective
programs that increase their opportunities." In short, blah, blah,
blah. If we have 46, one more program is marginal, and there will
not be the elimination of (say) 45 of them.
They go on
and on, telling us of boondoggles. This is just noise. Nothing is
going to change.
get to Obama's budget. That budget will "raise the federal debt-to-GDP
ratio to 80.4% in two years, about double its level at the end of
2008, and a larger percentage point increase than Greece from the
end of 2008 to the beginning of this year." Quite true. But this
budget was passed by Congress. All budgets are passed by Congress.
We are headed
toward $18.8 trillion in debt. That will take $743 billion in interest
payments. But, as they fail to mention, most of this will go to
the FED, and will be returned. The problem is this: there is no
negative feedback for Congress. Rates are close to zero.
get to the really tough nut to crack: the unfunded liabilities.
But they offer no specifics.
unfunded long-run liabilities of Social Security, Medicare and
Medicaid add tens of trillions of dollars to the debt, mostly
due to rising real benefits per beneficiary. Before long, all
the government will be able to do is finance the debt and pay
pension and medical benefits. This spending will crowd out all
other necessary government functions.
No, it won't.
Why not? Because there will be a default on these programs. Younger
voters will mandate this. Granny is going to get her checks cut
off. The following will not happen: "One result will be ever-higher
income and payroll taxes on all taxpayers that will reach over 80%
at the top and 70% for many middle-income working couples."
uncertainty, they say. Quite true. "Traders speculate whether and
when the Fed will intervene next. The Fed can intervene without
limit in any credit market. . . ." Quite true.
mention what was never mentioned before Ron Paul's run in 2007:
"This raises questions about why an independent agency of government
should have this power."
ask: "What's at stake?" It's the right question.
is not a safe haven forever, they say. Good point.
we risk passing an economic, fiscal and financial point of no return."
There. Someone said it. Of course, we are far beyond the point of
no return. The $222 trillion in the present value of the unfunded
liabilities guarantees this.
The USA could
lose its full faith and credit status.
They see this
as a great danger. I see it as liberation. They quote Alexander
Hamilton on the benefits of the federal debt. I much prefer Thomas
Jefferson's assessment. The full faith and credit of the U.S. government
allowed the government to finance the Civil War and World War II.
Quite true, and that is why its loss would be a great thing.
the bottom line.
are close to being unmanageable now. If we stay on the current
path, they will wind up being completely unmanageable, culminating
in an unwelcome explosion and crisis.
We are going
to stay on the present path. The problems will become unmanageable.
The U.S. government
is going to default. The five do not use the D-word, but what they
say points to it.
push to full Polyanna mode.
are blindingly obvious. Economic theory, empirical studies and
historical experience teach that the solutions are the lowest
possible tax rates on the broadest base, sufficient to fund the
necessary functions of government on balance over the business
cycle; sound monetary policy; trade liberalization; spending control
and entitlement reform; and regulatory, litigation and education
reform. The need is clear. Why wait for disaster? The future is
They are correct.
The future is now. And it is not going to change. Politics guarantees
I was happy
to see an article from mainstream economists on the mess we are
in. Of course, the mess is vastly worse than they indicate. The
on-budget debt of $15 trillion is peanuts compared to the $222 trillion
of present-value net unfunded liabilities. But the mess is bad enough
to warrant this article.
change Congress. Nothing will change the executive. There will be
no cutback in spending until the numbers force the Great Default.
will not be ready. State and local governments will not be ready.
Will you be
North [send him mail]
is the author of Mises
on Money. Visit http://www.garynorth.com.
He is also the author of a free 31-volume series, An
Economic Commentary on the Bible.
2012 Gary North
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