The Case Against Washington’s Handling of the
Federal Budget
by Alan R. Davis
(Written in 01/31/2012, still valid today.)
Those
in Washington aren’t dealing with the budget seriously. In fact, some in DC are doing their best to
convince the country the problem isn’t nearly as bad as it really is. My concerns fall into five main areas:
-
Washington
has invented terms to help ignore the extent of the crisis
-
The
budget includes unrealistic assumptions
-
There
is an oncoming tidal wave of Interest Outlays
-
The
budget is built on legislation that won’t stand
-
The
extent to which individuals depend on the Federal Government
“Invented” Terms:
One
of the most frustrating things for me is the fact that rather than face the
crisis, Washington has come up with new terms to make the budget crisis look
less severe. Those terms are:
Primary Deficit: The deficit excluding Net
Interest Outlays. It allows Washington to claim that they have balanced the
budget when they have made little progress in doing so.
Publicly Held
Debt: While this isn’t a new term, using it as the
bench mark as opposed to Total Debt is new.
This allows Washington to ignore the fact that it has used intra-government
debt (borrowing from the trust funds) as a major source of funds for the
general fund. We’ve seen Non-Public debt
grow from ~10% to~ 35% of total debt since WWII. Comparisons to Post WWII are erroneous for
two reasons. First, we started WWII with
relatively low levels of debt compared to the size of our economy. Second, our current debt was largely built up
during times of relative peace, rather than during a major worldwide conflict. You won’t even find Total Debt in last year’s
budget analyses put out by the CBO!
Unrealistic Assumptions:
I
first looked at the WH OMB (summary tables) in 2009 after the 2010 budget
proposal was released. I was interested in seeing how they calculated Interest
outlays. (Tracking interest rate trends
is a hobby of mine.) I started with the
Economic assumptions and was surprised.
The values for each of the five key assumptions appeared to be overly
optimistic making the projections meaningless.
I’ve been following the budget ever since. This year I concentrated on the inflation
assumption values. I found that both the
WH OMB and CBO are using assumptions that can’t be supported by historic
trending or basic economic principles.
In the original budget projections the WH OMB projected 2.0% and 2.1% as
the average and maximum inflation assumption values.
Understating
the values for the inflation assumptions has two significant impacts:
Compounding:
Low values compound much slower over ten years than higher values
do. That results in lower “out year” outlays
and deficits.
Interest Rates:
Understating inflation allows them to use lower values for interest
rates as there is a correlation between the two over the long run. Each 1% understatement of the “effective
rate” (Net Interest Outlays divided by average debt) understates Net Interest
Outlays by $200 billion in a year when the National Debt (Total) is $20
trillion. The original budget included 7
years where debt exceeded $20 trillion.
Interest Rate “Tidal Wave”:
In
the early 1990’s we became concerned over the size of the debt as we saw Net
Interest Outlays increase dramatically.
This occurred as interest rates decreased to “normal” levels.
90's Average: $216 billion Net Interest on $4.6 trillion
debt (Fed Fund Rate of 5.2%)
In 2010 we incurred less Net
Interest Outlays on nearly three times the level of debt.
2010: $197 billion Net Interest on
$13.4 trillion debt (Fed Fund Rate of 0.18%)
The Treasury Dept. has been
utilizing a substantial amount of short term maturity instruments to finance
our debt. Even long term maturity instruments have been issued at unsustainably
low rates. Once the FRB increases rates
(they have indicated that will occur in 2014) it will dramatically increase the
interest we’ll be paying on our Debt. It
means we have a built in “tripling” of Net Interest Outlays at current debt
levels that is not being properly considered by Washington.
Legislative Assumptions:
Budget
projections are built on current legislation.
The best example of how this distorts the projections is the Medicare
“Doctor Fix”. It is addressed for one
year each year so as to allow the cost cutting impact of the law to be used in
projections. But the intention is to not
allow the dramatic cut to physician payments to ever take effect. There are several other items like this that
allow the projections to reflect much smaller deficits than would otherwise be
shown.
“Individuals” & the Federal
Budget:
I ran
across a historic schedule on the WH OMB website that broke out Outlays in much
different categories than I had previously seen. That schedule showed the following for 2010
Outlays:
National
Defense: 20.0%
Net
Interest: 5.7%
Payments
for Individuals: 66.5%
Subtotal 92.2%
Other
Grants: 5.8%
All
Other: 2.0%
Total 100.0%
With
so much of the Federal Budget going to individuals (directly or indirectly
through state and local governments) any serious cuts to the Federal Budget
will have serious consequences for towns like Chillicothe. Add in the fact that
soon we will see a dramatic increase in Net Interest Outlays and the size of
required cuts to balance the budget are staggering! Yet this isn’t being properly discussed in
Washington.
Unless
the real extent of our Nation’s financial crisis is brought forward for public
debate, we won’t see it properly addressed and financial collapse becomes more
likely. Addressing it appropriately will
result in real hardship for many. But
unfortunately hardship comes either way.
“There are two ways to conquer
and enslave a nation.
One is by sword. The other is by debt.”
John
Adams 1826
“The battle, sir, is not to the strong
alone; it is to the vigilant, the active, the brave.”