The Destructive Force of National Debt

After a summer long absence from this blog, I am returning to my thoughts about incivilities and other social issues of the city. Recently, I’ve been concerned about public debt and the deleterious impact it has on American society at all levels of governance. This blog considers US Federal debt. I think the way the US has accumulated debt should be considered by urbanists because many of the processes that led to fiscal crises are similar at all levels of government. Ultimately, I believe that politicians and the American public need to learn to live within their means. Taking that phrase to heart would ultimately change not only the debt accumulation but shrink the government structure. Let’s take a look at the problem and ask some real questions about our current path.

At a time when American municipalities are plagued with shrinking coffers with pundits often citing the ongoing recession which started in 2008 as a major factor (I don’t believe we’ve ever come out of that recession, despite what some economists suggest), a question arises as to who should shoulder the public debt. In a very short time, the nation has increased its public debt to a very unreasonable level, and this debt is not as much a result of the recession as other processes. Beginning in the 1970s, who shared the burden of debt began to change quite dramatically, perhaps contributing greatly to the shrinking middle class in this nation. If you have never considered government debt to be a major problem, if you’ve never even thought about government debt, then please read on and at least consider some concerns that I am raising.

In this blog, I will concentrate on the Federal debt, but the story is very similar at other levels of government. That is, for many years, there has been a Keynesian approach regarding public funding: public debit is posited to be a primer to the economy. At times of economic downturn, taking on debt and infusing the money into the public is believed to help stabilize the economy. Yet, the Keynesian approach was mishandled; it has been applied during times of economic prosperity.

Much of the debt, in my opinion, is the result of politicians who have very little intestinal fortitude to simply say, “We must live within our means.” Politicians want to be re-elected and they make promises to fund things that their constituents desire – some needed, some not. Politicians have a small window by which they will be judged; generally four years. So, budget shortfalls pose no significant problem in the short-term because they want to be re-elected AND, more importantly, they wish to maintain a stable government.

But, taking on debt to ensure the stability of government structure has resulted in nearly $15 trillion debt and some of the worse in-fighting at the federal level that’s ever been seen. That’s just at the federal level. The figure would be sickening if the debt of all state governments, municipal and county governments were added as well. There are approximately 307 million Americans. If the Federal debt was to be suddenly called in, each person (including infants) would be responsible for approximately $50,000, and it’s about $130,000 per each taxpayer. Public debt accumulation is simply unsustainable. Currently, the Public Debt to GDP Ratio is about 60%; if it grows to 90% (which is projected to occur by 2020 if the government continues its current policies), the economy cannot grow and the value of the dollar will weaken. A weaker dollar will make it more difficult to pay back because investors may demand higher interest rates as the dollar’s value depreciates.

Debt not only undermines economic growth but it is also a significant danger to the security of our nation. If the US continues to accumulate debt with no real plan to remove it, foreign investors – including nations – can make demands that will affect decision-making in our government. For example, China currently owns 36% of all foreign-held U.S. Treasury securities which amounts to 16% of total US debt (“Major Foreign Holders of Treasury Securities”, US Department of Treasury). As the government continues to sell off its debt, it has to become mindful that it is a debtor, not a creditor, nation, and this has real consequences regarding foreign policy. On August 6, China’s state-run Xinhua News commented about the US’s credit downgrade: “The U.S. government has to come to terms with the painful fact that the good old days when it could just borrow its way out of messes of its own making are finally gone” (Huffington Post, August 6, 2011). Russian Prime Minister Vladimir Putin commented that the United States was “living in debt and this, for one of the leading economies in the world, is very bad. This means that they don’t live within their means and are shifting some of the burden of their own problems onto the entire global economy. To a certain extent, they are parasites on the global economy and their own monopoly on the dollar” (Radio Free Europe, August 3, 2011). These are very powerful statements by very powerful nations, both of whom have bought a sizeable portion of US debt.

I think a lot of Americans – including myself – have not understood the problem nor even its genesis. The overwhelming debt emerged as a result of a multitude of social processes, all very rational ones in and of themselves. US policymakers need to step back and consider both the real ramifications of taking on unsustainable debt growth and the rewards for eliminating it.

The National Debt – An Abbreviated History

The United States was essentially born in debt as the Revolutionary War and the Articles of Confederation government played chief roles in the earliest debt accumulation. Just between those two situations, debts amounted to nearly $76 million. Yet, by 1832, even with debts incurred as a result of the War of 1812, the nation managed to pay 99.97% of its debt. At no other time in its history was the Republic nearly free of all of its debt. To put things into perspective, as of December 2010, the Federal debt was estimated at $14 trillion (“Making dollars and sense of the U.S. government debt”).

Part of understanding the Federal debt is to consider the annual budget deficit (the difference between actual cash collections and budgeted spending) spanning a fiscal year (a Federal fiscal year begins October 1 and ends September 30). Since 1970, the Federal government has run federal deficits for every year except between 1998 – 2001. Between the years 2003 through 2007, the national debt increased roughly $550 billion annually. Debt increase rose dramatically to $1.88 trillion in 2009 and $1.65 trillion in 2010, mostly as a result of the global financial crisis that arose starting in 2007.

Some economists and politicians agree that debt is a vital component to growth. Businesses cannot grow without accumulating debt, at least in theory. Businesses, however, are constrained greatly by debt as well as by the motivation to seek profit. If debt cuts too deeply into profits, then the business cannot grow, in very simplistic terms. Public bureaucracies, on the other hand, have considerably different motivations than businesses. At the heart of their motivations is merely the dilemma that they face, as Michael Lipsky (1980) noted: infinite demands and finite resources (Street-Level Bureaucracy: Dilemmas of the Individual in Public Services). That is, they redistribute resources to various peoples. At the end of their day, however, they are not motivated by profit but rather survival to attain funding to be redistributed later. Going into the red for a public bureaucrat – while uncomfortable – does not have the same impact that a business bureaucrat might face – that is, the loss of profit, stockholders, etc.

Bailouts

A contributing factor to US debt has been what is commonly referred to as bailouts. Bailouts present a real moral question for Americans: does it make sense for taxpayers to shoulder the burden of failing companies? The US government has decided that there are times where direct intervention to save failing companies did indeed serve the best interest. In general, the argument has been that if a large company goes under, many jobs will be lost, and the market may panic due to investors’ concerns that there is a larger issue with the economy. Both democrat and republican led governments have lent a hand. The selling point has almost always been how bailing out will benefit the people with jobs.

According to ProPublica.org, the US Federal Government has, to date, bailed out 926 recipients, committing over $633 billion, of which over $579 billion has been disbursed. Of that money, almost $278 billion has been returned (this is accounting for both TARP and the Fannie Mae / Freddie Mac bailouts). Here’s how 15 of the largest bailouts since 1970 have fared:

Industry / Corporation Year Cost in 2008 U.S. Dollars
Penn State Railroad 1970 $3.2 billion
Lockheed 1971 $1.4 billion
Franklin National Bank 1974 $7.8 billion
New York City 1975 $9.4 billion
Chrysler 1980 $4.0 billion
Continental Illinois National Bank and Trust Company 1984 $9.5 billion
Savings & Loan 1989 $293.3 billion
Airline Industry 2001 $18.6 billion
Bear Stearns 2008 $30 billion
Fannie Mae / Freddie Mac 2008 $400 billion
American International Group (AIG) 2008 $180 billion
Auto Industry 2008 $25 billion
Troubled Asset Relief Program (TARP) 2008 $700 billion
Citigroup 2008 $280 billion
Bank of America 2009 $142 billion
Total Cost of bailouts   $2.1 trillion

Source: http://www.propublica.org/special/government-bailouts

This is merely a historic presentation of how much money taxpayers shelled out to assist these companies (and one city). In some circumstances, the Federal Government actually made some money from the bailout (for example, the 1980 bailout of Chrysler). In general, the government has lost money while taxpayers have been left with paying off the debt.

Additionally, the Federal Government has indirectly assisted foreign entities in these bailouts. In 2009, the AIG bailout led to significant funds being disbursed to the following foreign banks: Société Générale of France and Deutsche Bank of Germany (each nearly $12 billion), Barclays of Britain ($8.5 billion), and UBS of Switzerland ($5 billion) (source: New York Times).

AIG, of course, gained further notoriety in handing out bonuses to executives who were responsible for the crisis that ensued in the first place. AIG has managed to repay some of their loans back to the US. They still owe over $50 billion. They’ve at least made some repayments; Fannie and Freddie have not paid any money back, although technically the government took over both companies in 2008. The government has managed a revenue stream from the companies of nearly $15 billion dollars, but the net outstanding is still $89 billion.

Are bailouts a good use of taxpayer money? Whenever businesses gain assistance from government entities, it weakens our economic principles in my opinion. Instead of espousing a free market economy, we instead move closer to a social market economy (not, as some would argue, socialism). The government is given more of a chance to be quite intrusive to the market, whereby innovation and growth can be greatly stifled. This is a disincentive in the sense that too many regulations will become controlling; GDP would thus be greatly reduced leading the American wage earner to lose a great deal of money to support companies that may not be competitive in the market anymore. Many of the large companies that gained assistance failed because of poor management. The question at hand, then, is why should taxpayers fund assistance to companies that failed due to incompetence or corruption?

Apart from the government gaining a hand in businesses, there are several other arguments regarding bailouts. First, if businesses understand that they can take unmitigated risks, they will do so with regularity, using the taxpayer as a safety net. Second, bailouts allow the government to restructure the assisted business, and thus gain a hand in organizing it. This is a huge concern: the marrying of public and private bureaucracies. Both have very different goals, and creating a hybrid from the two can only lead to confusion just as to what the overall goal is for the organization. Additionally, Ron Paul sums up the consequences of bailouts: “In bailing out failing companies, they are confiscating money from productive members of the economy and giving it to failing ones. By sustaining companies with obsolete or unsustainable business models, the government prevents their resources from being liquidated and made available to other companies that can put them to better, more productive use. An essential element of a healthy free market is that both success and failure must be permitted to happen when they are earned. But instead with a bailout, the rewards are reversed – the proceeds from successful entities are given to failing ones.” (Source: The Bailout Surge, by Ron Paul, 11-24-2008).

One of the rare times that I would consider assistance in the form of bailouts would be in extreme circumstances such as those that the airlines found themselves after the events of September 11, 2001. The airlines had a substantial and quick decline in passenger rates as a result of external events that were not entirely their own doing. That bailout, though, actually led to a profit for the Treasury Department of between $141.7 million to $327 million through stock warrants (source: http://www.propublica.org/special/bailout-aftermaths#airlines ). In general, though, bailouts tend to do far more harm for the free market than good because they do not allow the market to sanction incompetence or poor business models or corruption.

And bailouts contribute an unnecessary burden to our national debt.

Additional Sources of US Debt

Department or other Unit 1990 2000 2005 2011

(Billions of Dollars)

Legislative Branch 2.2 (0.16) 2.9 (0.15) 4.0 (0.15) 4.9 (0.11)
Judiciary Branch 1.6 (0.12) 4.1 (0.21) 5.5 (0.20) 7.4 (0.18)
Agriculture 45.9 (3.40) 75.1 (3.83) 85.3 (3.16) 152.1 (3.72)
Commerce 3.7 (0.27) 7.8 (0.40) 6.1 (0.23) 11.9 (0.29)
Defense – Military 289.7 (21.43) 281.0 (14.32) 474.4 (17.58) 739.7 (18.11)
Education 23.0 (1.70) 33.5 (1.71) 72.9 (2.70) 79.4 (1.94)
Energy 12.1 (0.90) 15.0 (0.77) 21.3 (0.79) 44.6 (1.09)
Health and Human Services 175.5 (12.98) 382.3 (19.48) 581.4 (21.55) 909.7 (22.27)
Homeland Security 7.2 (0.53) 13.2 (0.67) 38.7 (1.43) 48.1 (1.18)
Housing and Urban Development 20.2 (1.49) 30.8 (1.57) 42.5 (1.58) 60.8 (1.49)
Interior 5.8 (0.43) 8.0 (0.40) 9.3 (0.34) 13.0 (0.32)
Justice 5.9 (0.44) 16.8 (0.86) 22.4 (0.83) 33.5 (0.82)
Labor 26.1 (1.93) 31.9 (1.63) 46.9 (1.74) 148.0 (3.62)
State 4.8 (0.36) 6.7 (0.34) 12.7 (0.47) 28.9 (0.71)
Transportation 25.6 (1.89) 41.6 (2.12) 56.6 (2.10) 79.5 (1.95)
Treasury 253.9 (18.78) 390.5 (19.90) 410.2 (15.20) 532.3 (13.03)
Veterans Affairs 29.0 (2.15) 47.0 (2.40) 69.8 (2.59) 141.1 (3.45)
Corps of Engineers 3.3 (0.24) 4.2 (0.21) 4.7 (0.17) 10.6 (0.26)
Other Defense – Civil Programs 21.7 (1.61) 32.8 (1.67) 43.5 (1.61) 59.2 (1.45)
Environmental Protection Agency 5.1 (0.38) 7.2 (0.37) 7.9 (0.29) 11.1 (0.27)
Executive Office of the President 0.2 (0.01) 0.3 (0.02) 7.7 (0.29) 0.5 (0.01)
General Services Administration -0.2 (-0.02) 0.1 (0.01) 0.0 (0.00) 3.1 (0.08)
International Assistance Programs 10.1 (0.74) 12.1 (0.62) 15.0 (0.56) 25.2 (0.62)
NASA 12.4 (0.91) 13.4 (0.68) 15.6 (0.58) 19.5 (0.48)
National Science Foundation 1.8 (0.13) 3.4 (0.17) 5.4 (0.20) 8.6 (0.21)
Office of Personnel Management 31.9 (2.36) 48.7 (2.48) 59.5 (2.21) 80.6 (1.97)
Small Business Administration 0.7 (0.05) -0.4 (-0.02) 2.5 (0.09) 6.2 (0.15)
Social Security Administration (On-budget) 17.3 (1.28) 45.1 (2.30) 54.6 (2.02) 170.5 (4.17)
Social Security Administration (Off-budget) 245.0 (18.12) 396.2 (20.19) 506.8 (18.78) 630.9 (15.44)
Other Independent Agencies (On-budget) 68.7 (5.08) 8.8 (0.45) 16.8 (0.62) 23.0 (0.56)
Other Independent Agencies (Off-budget) 1.6 (0.12) 2.0 (0.10) -1.8 (-0.07) 1.5 (0.04)

Source: The 2012 Statistical Abstract: Federal Government Finances and Employment, US Census Bureau

The above table is a snapshot of the US Federal Budget. The numbers in parentheses represent the percentage of the budget for that department or unit. In a sense, these represent social values dictated by the federal legislature.

What is significant, though, is that we maintain budget shortfalls despite being alert to a lack of revenue stream. That is, tax breaks and people unable to pay tax each has contributed to the fiscal problem. A New York Times analysis suggested four major reasons for the shortfalls:

  • Recessions or the business cycle (37%)
  • Policies enacted by President Bush (33%)
  • Policies enacted by President Bush and supported or extended by President Obama (20%)
  • New policies by President Obama (10%) (Source: New York Times June 10, 2009)

The public debt has increased by over $500 billion dollars annually since 2003, and we have had increases of $1 trillion in 2008, $1.9 trillion in 2009, and 1.7 trillion in 2010. The gross debt as of October 2011 is $14.86 trillion. Policies of slashing tax breaks, the funding of two wars, and the enlargement of federal bureaucracies have certainly contributed heavily to the largest deficit in the history of the US.

Ramifications of Government Debt

Earlier, I mentioned that China and Russia each issued opprobrium regarding the US debt. Of course, the criticism was interjected with geo-political rhetoric, but the point should have been clear to all Americans: our debt is tied up with other entities, all of whom have considerable stake in whether the US can maintain its standing as a debtor.

Consider this analogy, one which many Americans consider personally in their own lives. When we attain debt there is an obligation to repay that debt. If a person continually adds on debts, then as each debt is taken on, the debt itself becomes a constraining force; it constrains a person in decision making. For example, a person may not be able to replace clothes, buy a home, or even marry because the debt burden is too high. If circumstances change in the person’s life, creditors may also request information on these changes (new address, marriages, divorces, children). If the market itself changes, creditors may change the stakes by changing interest rates and/or fees, reducing income. The more income that has to go to debt, the more constraining the debt becomes. Defaulting on debt becomes even more constraining as it destroys credit ratings and the ability to borrow.

This constraint has serious ramifications for a person. For one, the person’s purchasing power becomes limited to only needs, which means as a consumer, the person does not contribute to economic growth. Additionally, if there are many people in this condition this amplifies a stagnation regarding economic growth of the country. Second, critical decisions may be greatly restrained regarding potential growth. For example, a person has a job opportunity that would increase income, but in order to take on the job, the person would have to relocate. However, due to debt already incurred, the person’s borrowing power has been squeezed, thus moving is not a viable option. The person then remains in the same income level.

At a national level, the debt that has been purchased can restrict and restrain policymaking. For example, China’s rebuke of America’s debt opened a serious political issue regarding the US military. China remarked at how much spending was placed into the US military, a military that is seen as a critical force by the Chinese leaders. If the US must reduce its military to appease creditors, this can greatly impact the national security of the nation. In other words, creditors may impose harsh restrictions to demand repayment on debt.

Creditors may also ask for special favors from the government. If creditors know that government regulations are restrictive in some way, they already have a great deal of access to policymakers which allows them to influence changes. Creditors make their money on the fees and interests of loans, and if the government is slow to make payments, then creditors make seek assistance to change banking rules. For example, let’s say that banks are not allowed to charge for debit transactions at a certain level, a government imposed regulation. Let’s also say that the government would like to take out additional loans because the budget is not able to fund some projects. The creditors could use this to their advantage and agree to making loans while removing the restriction on charging for debit transactions.

In general, debt has the potential to restrict policy decision making and it places the nation into an inferior position among other nations in the world. In essence, debt seriously damages our national security, exposing us to the whims of elites and powerful nations.

Fiscal Responsibility

Recently, presidential hopefuls have extolled their plans – some amorphous, some fairly concrete – with the same assertion that I have been pointing to: we need to get our spending under control. Most of these plans, in simple terms, attempt to assert fiscal responsibility can only be attained when we simplify the tax code and find a way to make budget cuts.

The tax code is quite cumbersome. Just for me to complete my taxes I use a computer program, and honestly, my taxes are not that complicated. But the tax code itself has grown so complicated that algorithms ensure that you are in compliance with the tax code. Since 1913 when the national income tax was first written on 400 pages, it has grown an estimated 15,000 pages in 20 volumes. Of course, simplifying the tax code does is not, itself, a simple task. Consider criticisms regarding Herman Cain’s 9-9-9 plan, which would eliminate the current system for a 9% corporate business tax, 9% income flat tax, and a 9% national sales tax. The Tax Policy Center notes that implementation of the 9-9-9 plan:

“The Tax Policy Center estimates that, if fully phased in, the plan would raise about $2.55 trillion of revenues at 2013 levels of income and consumption, virtually the same amount that would be collected if current tax policy were in place that year (that is, if 2011 tax law, other than the payroll tax reduction, were extended). However, the plan would raise about $300 billion less revenue than would be raised by current tax law, under which most 2001-2010 tax cuts would have expired by 2013”

So, the Cain plan is attacked because it does not raise enough money and allegedly 84% more people will have to pay more…Other ideas touted call for some kind of a national flat tax, but ultimately the main idea is that we need a simpler tax code. Of course the concerns raised are that flat taxes may favor the rich, the 9-9-9 plan may mean more people will have to share the tax burden, etc. But that distracts from what I contend is the real issue: whatever money we raise via taxes is what we should count on; we need to realize that that’s the money we have to work with. We should not borrow more to sustain a burgeoning government and programs. It’s unsustainable, irresponsible, and we need to consider real options regarding spending.

How do we control spending? Simple, the same way we control all aberrant behavior: with law.

I suggest that we take a close look again at the table above that accounts for our federal budget. My suggestion is that we move away from looking at dollar amounts regarding where the money is going. Instead, Congress should evaluate what percentage of money will be specified for those large entities above. Once taxes are collected, the monies are then released within those percentage parameters. Those large entities (Treasury, Justice, etc.) would then internally decide where their money is going to go. That is, they will determine how much funding they can release to sustain programs. They may also be forced to reduce staff and other non-efficient entities within their realms.

The percentage idea satisfies quite a few interesting problems. First, politicians will be less likely to clamor for more short-term fixes regarding the budget. Instead, the budget will control itself. The only real thing Congress can change is how much percentage of funding can be changed. Second, we would no longer contend with budget deficits nor extra money. Removing budget deficits would reduce our debt significantly. The idea here also ensures that every program and every department shares the same burden. That is, the percentage is set, and if less money comes one year, then everyone feels the effects. Congress would not suspend jobs, programs, etc., but instead the bureaucrats would make those decisions. Finally, the uncomfortable problem of what programs and cuts need to be conducted will be left for the bureaucrats who understand the problems more than the politicians who may have very little understanding of how bureaucracies work.

Additionally, I think that we should be aggressive in eliminating national debt. I would argue that we should immediately trim 20% of the tax collections. We could then place 15% toward eliminating debt and 5% could go to reserve.

I firmly believe that establishing percentages eventually will increase efficiency in our government. No business could survive as long as the government has regarding its spending. Informing the Justice Department, for example, that it has 0.82 percent of the money raised in taxes to fund all of their personnel, offices, programs, etc., is something is workable; it’s a real number. That number then may mean that all programs and personnel are funded, or that cuts may be needed. If the department wants to create a new program, it has to contend with the real money coming in; it cannot expand unless more money is coming or it makes cuts elsewhere in its department.

Establishing percentages controls government growth. The amount of money coming in is the controlling force of whether the government expands or is reduced. Obviously, if the economy is doing well, the government can grow, but when the economy is not faring well, the government can grow smaller. Ultimately, the percentages constrains the bureaucratic tendency to grow; real money constrains the decisions of bureaucrats to grow or not.

Whatever controls that we can put into place should be quite simple. I strongly argue that the tax code needs to be simplified and that budget spending should be set in such a way that we only spend what we take in. And both parties need to come to an agreement with this, otherwise debt will get the best of our country. It will erode our economy, our national security, and ultimately, our own viability.

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About Scott Canevit

PHD student at UW-Milwaukee in Urban Studies. View all posts by Scott Canevit

3 responses to “The Destructive Force of National Debt

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