Back to the Basics

July 15, 2011

Choose your language

This week we are going to revisit some themes concerning the problems of the debt and the deficit. I am getting a number of questions, so while long-time readers may have read most of this in one letter or another, it is clearly time for a review, especially given the deficit/debt-ceiling debate. I will probably offend some cherished beliefs of most readers, but that is the nature of the times we live in. It is the time of the Endgame, where things are not as black and white as they have been in the past.

Let’s begin with a question that is representative of a lot of the questions I have been getting, from reader John:

“John, it appears that you're arguing that two contradictory things have the same effect: adding government spending doesn't help the economy, and reducing government spending hurts the economy. Which is it? At first, you say that adding government spending doesn't help, no new jobs are actually created, it fails the sharp pencil test, etc. So, we should reduce this waste, right? Well, yes, you say, but that will reduce GDP too. I just don't get it. You seem to have it both ways: increasing government spending is bad, and reducing it is bad. What is your point?”

Yes, I am saying both things, and they are not contradictory. We are coming to the end of the debt supercycle in the US, and have reached that point in much of Europe, and soon will in Japan. So while I am going to focus on the US, at least this week, the same principles apply to all the developed world.

For some 65-odd years, we have added to the national debt – individually, corporately, and as governments. But as Greece is finding out, there is a limit (more on that later). Eventually the bond market decides that loaning you more money is not a high-value proposition. If your home or your government is debt financed, you are forced to cut back. While the US is not there yet, we soon (as in a few years) will be.

One way or another, the budget deficits are going to come down. As we will see later, we can choose to proactively deal with the deficit problem or we can wait until there is a crisis and be forced to react. These choices result in entirely different outcomes.

In the US, the real question we must ask ourselves as a nation is, “How much health care do we want and how do we want to pay for it?” Everything else can be dealt with if we get that basic question answered. We can radically cut health care along with other discretionary budget items, or we can raise taxes, or some combination. Both have consequences. The polls say a large, bipartisan majority of people want to maintain Medicare and other health programs (perhaps reformed), and yet a large bipartisan majority does not want a tax increase. We can’t have it both ways, which means there is a major job of education to be done.

The point of the exercise is to reduce the deficit over 5-6 years to below the growth rate of nominal GDP (which includes inflation). A country can run a deficit below that rate forever, without endangering its economic survival. While it may be wiser to run some surpluses and pay down debt, if you keep your fiscal deficits lower than income growth, over time the debt becomes less of an issue.

GDP = C + I + G + Net Exports

But either raising taxes or cutting spending has side effects that cannot be ignored. Either one or both will make it more difficult for the economy to grow. Let’s quickly look at a few basic economic equations. The first is GDP = C + I + G + net exports, or GDP is equal to Consumption (Consumer and Business) + Investment + Government Spending + Net Exports (Exports – Imports). This is true for all times and countries.

Now, what typically happens in a business-cycle recession is that, as businesses produce too many goods and start to cut back, consumption falls; and the Keynesian response is to increase government spending in order to assist the economy to start buying and spending; and the theory is that when the economy recovers you can reduce government spending as a percentage of the economy – except that has not happened for a long time. Government spending just kept going up. In response to the Great Recession, government (both parties) increased spending massively. And it did have an effect. But it wasn’t just the cost of the stimulus, it was the absolute size of government that increased as well.

And now massive deficits are projected for a very long time, unless we make changes. The problem is that taking away that deficit spending is going to be the reverse of the stimulus – a negative stimulus if you will. Why? Because the economy is not growing fast enough to overcome the loss of that stimulus. We will notice it. This is a short-term effect, which most economists agree will last 4-5 quarters; and then the economy may be better, with lower deficits and smaller government.

However, in order to get the deficit under control, we are talking on the order of reducing the deficit by 1% of GDP every year for 5-6 years. That is a very large headwind on growth, if you reduce potential nominal GDP by 1% a year in a world of a 2% Muddle Through economy. (And GDP for the US came in at an anemic 1.75% yesterday, with very weak final demand.)

Further, tax increases reduce GDP by anywhere from 1 to 3 times the size of the increase, depending on which academic study you choose. Large tax increases will reduce GDP and potential GDP. That may be the price we want to pay as a country, but we need to recognize that there is a hit to growth and employment. Those who argue that taking away the Bush tax cuts will have no effect on the economy are simply not dealing with either the facts or the well-established research. (Now, that is different from the argument that says we should allow them to expire anyway.)

Increasing Productivity

There are only two ways to grow an economy. Just two. You can increase the working-age population or you can increase productivity. That’s it. No secret sauce. The key is for us to figure out how to increase productivity. Let’s refer again to our equation:

GDP = C + I + G + net exports

The I in the equation is investments. That is what produces the tools and businesses that make “stuff” and buy and sell services. Increasing government spending, G, does not increase productivity. It transfers taxes taken from one sector of the economy and to another, with a cost of transfer, of course. While the people who get the transfer payments and services certainly feel better off, those who pay taxes are left with less to invest in private businesses that actually increase productivity. As I have shown elsewhere, over the last two decades, the net new jobs in the US have come from business start-ups. Not large businesses (they are a net drag) and not even small businesses. Understand, some of those start-ups became Google and Apple, etc.; but many just become good small businesses, hiring 5-10-50-100 people. But the cumulative effect is growth in productivity and the economy.

Now, if you mess with our equation, what you find is that Investments = Savings.

If the government “dis-saves” or runs deficits, it takes away potential savings from private investments. That money has to come from somewhere. Of late, it has come from QE2, but that is going away soon. And again, let’s be very clear. It is private investment that increases productivity, which allows for growth, which produces jobs. Yes, if the government takes money from one group and employs another, those are real jobs; but that is money that could have been put to use in private business investment. It is the government saying we know how to create jobs better than the taxpayers and businesses we take the taxes from.

This is not to argue against government and taxes. There are true roles for government. The discussion we must now have is how much government we want, and recognize that there are costs to large government involvement in the economy. How large a drag can government be? Let’s look at a few charts. The first two are from my friend Louis Gave, of GaveKal. This first one reveals the correlation between the growth of GDP in France and the size of government. It shows the rate of growth in GDP and the ratio of the size of the public sector in relation to the private sector. The larger the percentage of government in the ratio, the lower the growth.

I know, you think this is just the French. We all know their government is too involved in everything, don’t we. But it works in the US as well. The chart below shows the combined US federal, state, and local expenditures as a percentage of GDP (left-hand scale, which is inverted) versus the 7-year structural growth rate, shown on the right-hand side. And you see a very clear correlation between the size of total government and structural growth. This chart and others like it can be done for countries all over the world.

Now let’s review a graph from Rob Arnott of Research Affiliates. The chart needs a little setup. It shows the contributions of the private sector and the public sector to GDP. Remember, the C in our equation was private and business consumption. The G is government. And G makes up a rather large portion of overall GDP.

The top line (in dark blue) is real GDP per capita. The next line (yellow) shows what GDP would have been without borrowing. So a very real portion of GDP the last few years has come from government debt. Now, the green line below that is private-sector GDP. This is sad, because it shows that the private sector, per capita, is roughly where it was in 1998. The growth of the “economy” has been limited to government.

Notice that real GDP without government spending or deficits has been flat for 15 years (which, as a sidebar, also explains why real wages for private individuals are flat as well, but that’s a topic for another letter). Now, here is what to pay attention to. For the last several years, the real growth in GDP has come from the US government borrowing money. Without that growth in debt, we would be in what most would characterize as a depression.

This is why Paul Krugman and his fellow neo-Keynesians argue that we need larger deficits, not smaller ones. For them the issue is final aggregate consumer demand, and they believe you can stimulate that by giving people money to spend and letting future generations pay for that spending. And sine WW2 they have been right, kind of. When the US has gone into a recession, the government has embarked on deficit spending and the economy has recovered. The Keynesians see cause and effect. And thus they argue we now need more “hair of the dog” to prompt the recovery, which is clearly starting to lag behind what they think of as normal growth.

But others (and I am in this camp) argue that business-cycle recessions are normal and that recoveries would come anyway, and are not caused by increased government debt and spending but by businesses adjusting and entrepreneurs creating new companies. Correlation is not causation. Just because recoveries happened when the government ran deficits does not mean that they were the result of government spending. This is not to argue that the government should not step in with a safety net for the unemployed – again, a subject for another letter.

Let’s see what Rob Arnott says about this conundrum:

“GDP is consumer spending, plus government outlays, plus gross investments, plus exports, minus imports. With the exception of exports, GDP measures spending. The problem is, GDP makes no distinction between debt-financed spending and spending that we can cover out of current income.

“Consumption is not prosperity. The credit-addicted family measures its success by how much it is able to spend, applauding any new source of credit, regardless of the family income or ability to repay. The credit-addicted family enjoys a rising “family GDP” – consumption – as long as they can find new lenders, and suffers a family “recession” when they prudently cut up their credit cards.

“In much the same way, the current definition of GDP causes us to ignore the fact that we are mortgaging our future to feed current consumption. Worse, like the credit-addicted family, we can consciously game our GDP and GDP growth rates – our consumption and consumption growth – at any levels our creditors will permit!

“Consider a simple thought experiment. Let’s suppose the government wants to dazzle us with 5% growth next quarter (equivalent to 20% annualized growth!). If they borrow an additional 5% of GDP in new additional debt and spend it immediately, this magnificent GDP growth is achieved! We would all see it as phony growth, sabotaging our national balance sheet – right? Maybe not. We are already borrowing and spending 2% to 3% each quarter, equivalent to 10% to 12% of GDP, and yet few observers have decried this as artificial GDP growth because we’re not accustomed to looking at the underlying GDP before deficit spending!

“From this perspective, real GDP seems unreal, at best. GDP that stems from new debt – mainly deficit spending – is phony: it is debt-financed consumption, not prosperity. Isn’t GDP after excluding net new debt obligations a more relevant measure? Deficit spending is supposed to trigger growth in the remainder of the economy, net of deficit-financed spending, which we can call our “Structural GDP.” If Structural GDP fails to grow as a consequence of our deficits, then deficit spending has failed in its sole and singular purpose.

“Of course, even Structural GDP offers a misleading picture. Our Structural GDP has grown nearly 100-fold in the last 70 years. Most of that growth is due to inflation and population growth; a truer measure of the prosperity of the average citizen must adjust for these effects.”

And thus the graph above showing private GDP and the difference in the GDP numbers that are reported in the media. I used Rob’s entire (and brilliant) piece as an Outside the Box last May. If you missed it, you can go to and review it.

The Trillion Dollar Question

Now, in our review, let’s get back to reader John’s question. I have used this chart before, but it bears another quick look. This is from the Heritage Foundation. It is a year old, and one can quibble about the specifics. That is not the point of today’s issue. The point is that, whatever the deficit is, it is huge. This is a chart of something that will not happen, as the bond market will simply not finance a deficit as large as the one that looms in our future. Long before we get to 2019, we will have our own Greek (or Irish or Portuguese or Japanese, etc.) moment. (Or Spanish or Italian or Belgian – so many countries, so much debt!)

For the sake of the argument and our thought experiment, let’s split the difference on that chart. Somehow we must then find about $1.2 trillion in cuts or taxes to get the deficit down to below the growth rate of nominal GDP. And another few hundred billion if we actually want to balance the budget.

And that, gentle reader, is no small hill to climb. Let’s say we cut spending and/or raise taxes by $200 billion a year for 6 years. That is more than 1% of GDP each and every year! Go back to the first chart. That means that potential GDP growth will be reduced by over 1% a year! Every year. We would need to rely upon private GDP growth, which Rob’s chart shows has been flat for almost 15 years! The growth of the last 11 years has been a government-financed illusion.

There are no good choices. The time for good choices was years ago. I was and still am a fan of the Bush tax cuts. They were not the problem; a few years after the cuts, tax revenues were up considerably. The problem was a profligate Republican Congress which allowed spending to rise even more. And you can’t just blame it on the wars. That contributed, but it was not even close to the lion’s share. If we had held the line on spending, we would have paid off the entire debt and been in good shape when the crisis hit in 2008. The following graph is from today’s Wall Street Journal editorial page. They use it to show how much Democrats allowed the budget in terms of GDP to rise and spin out of control.

I would point out that in the 8 previous years, under Bush/Hastert/Delay et al., there was also a rise in the growth of government, as the chart shows. While it was not as large, it was clearly there. The drop in the previous period was the Bill Clinton/Newt Gingrich years. How many people are nostalgic for that pairing? Say what you will about them, their collaboration was a good era for growth in the private sector – the last we have had.

And that is the crux of the problem. Either we willingly cut the deficit by a far more significant amount than anyone is discussing, or we hit the wall at some point and become Greece. $4 trillion? No, let’s talk about 10 or 12.

And that, John, is the problem. We have painted ourselves into the corner of no good choices. We are left with difficult and disastrous choices. We have condemned ourselves to a slow-growth, Muddle Through Economy for another 5-6 years, at best, as we are forced to right-size government. If we raise taxes to partially solve the problem, we have to recognize that higher taxes will result in slower private growth. That’s just the rules. There are no easy buttons to push.

So, we must cut spending and the deficit, and yes, it is going to slow the economy for a period of time. The economic literature suggests that a spending cut will have 4-5 quarters of effect and then be neutral going forward. But we are going to have to make those cuts year after year after year.

I know the Tea Party types want to do it all at once, but that would guarantee a decade-long depression. You just really don’t want to go there. It MUST be a slower, controlled “glide-path” approach. I wrote about this back in 2009, along with all the other options. Nothing has changed:

The present contains all possible futures. But not all futures are good ones. Some can be quite cruel. The one we actually get is determined by the choices we make.

It is getting time to close, so a few quick observations. While choosing a President and Congress next year will be a referendum of sorts, I would like to see a real, non-binding referendum appear on our primary ballots. How much Medicare do we want? Should we raise taxes? How do we get to $10 trillion in cuts? You would have to confirm you have read a 20-page document outlining the choices and consequences, and that should be posted everywhere and mailed to everyone. We need to have a real national conversation.

If Obama says he wants $4 trillion in cuts, then let him give us details rather than asking Congress to give him a plan, as he did today. He has his brain trust; surely they can come up with some details. The problem is that if he offers specifics he will have to show his supporters what he is willing to cut. And those cuts will not be without pain.

The real issue, as I have said, will boil down to how much Medicare we want and how we want to pay for it. Congressman Ryan’s cuts don’t get us even halfway there.

A Summer of Ultimatums

In closing, this from my friends at GaveKal:

“ In the past 24 hours, we have seen the Greek deputy finance minister announce that Athens would fall far short of planned asset sales (this can only come as a surprise to investors born yesterday) and the Greek prime minister publish an open letter to Eurogroup Chairman Juncker warning that Greece has done all that it could. Mr Panandreaou went on to say that the onus is now on European policymakers to meet in a closed forum, with no damaging press leaks, and emerge with a strong, unambiguous message – we have to assume that the irony of asking for more secrecy through an open letter to the general media was perhaps lost on the Greek PM. Diplomacy aside, it seems that Greece is placing an ultimatum on Europe and this for a very simple reason: the end game for the EMU is approaching much faster than most investors had expected. Indeed, the choice between fiscal union or disintegration may well have to be faced this very summer.

“In his eloquent letter, Papandreou boldly stated that, in essence, Greece is no longer prepared to make further concessions and will thus blow up Europe's financial system if it is subjected to any more pressure. In other words, it is now time for all additional concessions to come from the side of Germany, the ECB and the EU. The willingness of Papandreou to speak so boldly is hugely important since it marks a recognition by the debtors that they now have the whip-hand in these negotiations. The Greeks (and Irish) for some reason failed to realize their power last year, but they do now. This transforms the balance of power in the negotiations. As a result, Germany and the ECB have reached the moment of truth – either they comply with the debtor countries' demands or they abandon the euro. This ultimatum probably helps explain why the euro has been so weak and why it should be heading even lower.”

There will be yet another emergency meeting next Thursday. The crisis is coming to the final innings. Will Germany and the ECB finance Greece? Print money in a fashion that would make Bernanke and Krugman envious? But if we in the US do not get our own act together, in the not-too-distant future we will face our own moment of truth as the bond market forces us to choose between disastrous and worse. The cuts we will have to make under pressure will be far worse than those we can make now.

I will probably write about Europe next week. I think the brewing crisis could cause a banking crisis and a recession in Europe, which, just as our subprime crisis caused world pain and a global recession, will also bring their pain to our shores. We are not immune. Stay tuned.

Vancouver, New York, and Maine

In a few weeks I head to Vancouver and then to New York City and Maine for the annual fishing trip, one of the outings I truly look forward to each year. Both cities and Maine will afford me memorable times with great friends, which is one of the things that gives life meaning and makes it fun and keeps me young.

And speaking of young, I must admit to a guilty pleasure. I am a Harry Potter fan, and tonight I am going to see the final episode. Joe Morgenstern of the Wall Street Journal, and my favorite movie reviewer, gave it rave reviews. While I have not read the books, I have followed the story and am looking forward to the final chapter. But it is bittersweet, as I will miss my friends who I have watched for all these years. And to watch the film-making technology change over time has been a revelation, too. What a world we live in.

Time to hit the send button. Enjoy your week and spend it with friends when you can.

Your just another muggle tonight analyst,

John Mauldin


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Robert Exton

July 18, 2011, 5:23 a.m.

Mr Mitchell, YOU DO NOT UNDERSTANDS Economics.
If Governmentâ??s can create all this money, then why do communist countries always fail? Look at what happened to the Weimar Republic in Germany. It printed so much money that inflation exploded to the point that it took a wheel barrel of money to buy a loaf of bread.  So there are limits.

What creates wealth is banks, business, and the ability to make a profit.  Only the private sector creates jobs and raises the standard of living. Because banks can loan money only they can create or destroy money. A business borrows money to produce a sellable product and makes a profit when he sells it.  The business man takes the risks and hopefully gains a reward. Sometime they fail, but even in failure they add a little to the economy to help the next business along.  In the early years of California, about 95% of the people going failed, but they brought or created enough resources to help those that followed. Eventually a threshold was reaches and the State became self sufficient.  There was no Government that helped, no Monetary Sovereignty.  Miners found gold, farmers raised chickens,  restaurants made food.  Items were traded there was no need for Government currency.  When there came a need for uniformity and safety, banks were created, many issued there own currency. Counterfeiters made money (much like governments) which diluted the circulating money, causing inflation. So there became a need for the Governments to create and protect the currency, that is why we went on a gold standard.  At some point the currency., backed by gold,  going through the system cannot not keep up with the wealth created. So a gold standard is dropped and the full faith of the Government stands behind the curacy created.

David Arganbright

July 18, 2011, 2:52 a.m.

“If the government â??dis-savesâ? or runs deficits, it takes away potential savings from private investments. That money has to come from somewhere. Of late, it has come from QE2, but that is going away soon.”
The money does not have to come from somewhere. The Federal Reserve can create a new account with $600 Billion in it, buy up US Treasury Bonds (QE2) and ... poof… there is suddenly $600 Billion added to the money supply. They can do this endlessly. Of course, you would eventually end up like the Weimar Republic or Zimbabwa. The money the US Treasury owes on old debt is just converted to new debt ad infinitum. It is never paid back.

Chuck Dupree

July 17, 2011, 9:29 p.m.


Your comments related to Moetary Sovereignty would indicate you don’t believe there is a relationship between the money supply and the purchasing power of the currency….is that correct?

Jim Pope

July 17, 2011, 9:18 p.m.

Is there someone who can provide the actual federal revenue for fiscal 2010 (or projected for 2011) along with the federal expenditures for the same periods? (Again 2010 or projected for 2011.)
I would like to know how much was taken in and how much was spent.
It would also be nice to know the spending by category?
Defense dept.
Medicaid support to states
Social Security
Homeland security including all agencies under this umbrella
Any other spending category that is more than 10% of the federal outlay.

Joe Toronto

July 17, 2011, 6:48 p.m.

Dear John (no pun intended):

I’ve been thinking about your last write-up, and, speaking from one optimist to another, I feel as though you’ve let the rest of us optimists down. It appears you’ve consumed a great deal of kool-aid from the debt hysteria community.

The US is not now and can never be “broke” as long as we retain our monetary sovereignty, which means, all of our federal debts are denominated in the currency over which we have total control.

The US cannot possibly be â??brokeâ? as long as we have massive under-utilized and unused plant capacity and unused human capital (the unemployed).

Please keep in mind that Japan has over twice the “debt” load of the US government, still has lower interest rates, AND a stronger and strengthening currency. Our own interest rates are the lowest they’ve been in , like, forever. Federal debt is not and cannot be our problem.

The much feared bond vigilantes are a myth of our own making and do not and cannot exist in monetarily sovereign countries.

The US is not Greece and cannot become like Greece which surrendered its monetary sovereignty to the Germans and the French. Greece can no longer manufacture its own operating currency but now must borrow it from foreign governments, the Germans and the French.

It seems as though you have gone through considerable mental gymnastics and many spurious charts which fail the cause and effect test, to convince not only yourself, but the rest of us that we all must suffer when we all aren’t even working! There’s 15 million of us without jobs because we aren’t buying stuff we used to buy!

When the unemployed finally get to work (if the austerity people ever get their act together) the deficits will disappear, just as they did in the Clinton years.

Pres. Clinton did not cut spending, nor did he raise taxes, nor did he do anything at all to run a surplus, other than to be a seriously lucky president to be able to supervise a booming economy where everyone had a job!

Today’s deficit is only partially the result of increased spending and mostly the result of tax receipts having fallen off a cliff from recession and unemployment. Cure confidence and unemployment (and it will be cured) and you’ve cured the deficit.

Our great American economy will boom once again. It may not be from steel, oil, railroads, automobiles, radio, TV, space travel, computers, internet, or cell phone magic. It will be from (in your words) some as yet unknown technological marvel that will transform our presently mundane lives.

Your ever loving dear gentle reader who has not caved to the debt hysteria kool-aid (as you apear to have done),

Joe Toronto

P. S. I submit for your evaluation, a piece I wrote sometime ago about the correct diagnosis of our problem as follows:

Deficit cutting in the current weak economy is precisely the wrong economic policy prescription in the current weak economy with high unemployment. Whether raising taxes or cutting spending, the effect is the same. It may reduce the deficit but it also removes stimulus in an already weak economy. The current Trillion plus deficit is not a cause of inflation, interest rates are at historic lows. It is not a solvency or default concern as again, the bond vigilantes are non-existent as interest rates are at historic lows and Treasury bond prices at historic highs.  The deficit is the result of a weak economy, high unemployment and reduced profits such that tax revenues have fallen off a cliff. None of this begins to address the high and growing social costs of extended unemployment in terms of welfare, crime, degrading workforce skill sets and family breakup.

What are the risks of more stimulus? A little history may help.

During the great Depression, a small recovery had begun in 1936. Unemployment had dropped from 25% to 14% and GDP had grown at 12% for 4 straight years. Because some members of Rooseveltâ??s cabinetâ??notably Secretary of the Treasury Henry Morgenthauâ??were uncomfortable with the idea of running a long-term deficit, the administration moved to eliminate it. In 1937 the federal deficit fell to $2.5 billion (or 2.8% of GDP) from the previous yearâ??s $5.5 billion (or 5.5% of GDP) as Roosevelt and Congress slashed spending by 18%. In 1938 spending dropped another 10% from 1937. The government effectively ran a balanced budget that year with a deficit of only $100 million or 0.5% of GDP. Then 1937-38 hit and the unemployment rate spiked back to 19% while GDP contracted over 6%. We had a double dip Depression.

It was only a scant 3 years later when the government began massive deficit spending to produce economically worthless products that were to be shipped overseas to be blown up, sunk in the sea or quickly abandoned. The never before seen massive deficits immediately brought full employment in addition to expanding the workforce, also with full employment. The debt was never paid off, nor was there any meaningful inflation and the resultant money in circulation fueled for several decades one of the greatest industrial expansions and the strongest middle class that the world had ever seen.

People intuitively used to understand that in hard times, money was scarce and in good times money was plentiful. In our current monetary system, money is only created by debt. Currently, the money supply is collapsing because people and business, having been burned by a massive credit crises are paying off debts. It’s called in some circles a balance sheet recession.  Even though the Fed is flooding the banking system with reserves, the money supply is not growing because there is no demand for new loans. That leaves the Federal deficit as the only remaining means of credit (and money) creation. Until someone finds and proposes a way to inject money into circulation to fuel an economic expansion, we will have extended unemployment, low tax revenues and run the risk of further economic contraction. Further reductions in Federal spending would most certainly result in a double dip recession. Fiscal austerity at this point in an economic cycle is precisely the wrong economic policy prescription and can only make things worse just as it has done in Greece, Ireland and every other nation which has had austerity forced upon it.

Having said that, despite many assertions in the media and elsewhere, the U.S. is not anything like Greece. Greece and Ireland borrow national debt in a foreign currency that they do not control (Euros). The U.S. however is the sovereign monopoly supplier of the Dollar which it absolutely controls and therefore has no risk of insolvency or default. That there may be inflationary risks, it is true, but even they are minimal when operating at levels far below the full productive capacity of our plant and labor. The risk of inflation is practically nil (barring external factors) when there is high unemployment. The vanished breed of bond vigilantes seem to understand this. It is only our politicians who still live under old discredited gold standard dogma.

Dan Shearer

July 17, 2011, 5:51 p.m.

Looking at the chart for “The Trillion Dollar Question”, everything looked fine up to about 2007. Have we really added over a trillion dollars of PERMANENT SPENDING to the yearly budget for the last four years? Seems like we should be able to get along just fine on 2006/2007 SPENDING levels today, plus any SHORT TERM stimulus that should not be as great a concern for us.

Much of the deficit is due to REDUCED TAX RECEIPTS, such as drastically reduced capital gains tax receipts from 2007 and later years. Here’s data from :

2006 Total Direct Revenue: $2,406.9 Billion (federal only)
2007 Total Direct Revenue: $2,568.0 Billion (federal only)
2008 Total Direct Revenue: $2,524.0 Billion (federal only)
2009 Total Direct Revenue: $2,105.0 Billion (federal only)
2010 Total Direct Revenue: $2,162.7 Billion (federal only)

$400 Billion/year less revenue coming in between 2007 and 2010! Our income dropped almost 16%, while at the same time we had to fund increases in unemployment benefits. One of the problems of depending on the “rich” to pay most of your taxes, they tend to vary quite a bit. While I don’t mind arguments in favor of keeping permanent tax RATES low, I also wouldn’t mind a TEMPORARY increase in order to maintain a workable level of total tax RECEIPTS near-term. And again, this shouldn’t be a PERMANENT problem. The same site shows a 2012 “budgeted” revenue of $2,627.5, a full recovery above the 2007 peak. Even if it may be wishful thinking, we shouldn’t be assuming a flat revenue stream in our budgeting.

I agree medical care is a giant concern and needs to be addressed now, and not just in terms of less government spending. And we need to watch out for politicians trying to cut taxes and increase spending at the same time. But I think the magnitude of the long-term problem is otherwise being blown out of proportion.

jim elliot

July 17, 2011, 5:08 p.m.

I note the first unsustainable budget item you identify from a “macro” perspective is Health Care.
Like most of the problems we face, the solution(s) will be micro. The problem(s) with Health Care (cost) will not be solved by reducing the amount of capital available. We have a disfunctional and inefficient system in many ways. Cutting funds will merely leave us with less of a disfunctional system. The challenge is how to create the the most benefit at the least cost. I see no indication that the “market” is going to do this. It’s going to need some help if there are going to be any significant changes. Insurance Carriers and everyone involved are all doing just fine with the current system and they have no incentive to reduce costs except relative to their competition. Cutting overall any amount, let alone by 30% or 50% is not going to be appealing.
I see the options as government invetvention encouraging or imposing changes like: uniform accounting and billing, bulk purchases of drugs, use of generics, elimination fo some treatments,  or collapse and rebuild. The private sector has proved that it will only increase costs and maximize payments from the public until the market won’t bear it.
I’d like to hear some private sector predictions regarding how and when Health Care Costs will start to decline due to technological advances and efficiency gains.

Jeff Little

July 17, 2011, 3:44 p.m.

Doh!  I just noticed that the image describes the graph as “Ratio of private sector to public sector” contrary to the article, which says “the ratio of the size of the public sector in relation to the private sector”, so it looks like the image is at least measuring what it is trying to.  Ignore that part of my previous message.

Jeff Little

July 17, 2011, 3:40 p.m.

A couple quick points.  You state:

“For some 65-odd years, we have added to the national debt â?? individually, corporately, and as governments.”

According to the numbers I have seen, National Debt actually shrank in proportion to GDP from the end of WWII to 1980, from 100% of GDP to 25% of GDP and only started to grow with the Reagan budgets.  Was my source completely wrong?

“There are only two ways to grow an economy. Just two. You can increase the working-age population or you can increase productivity. Thatâ??s it.”

I am not sure I agree with that.  One can easily come up with scenarios in which added production pushes supply from just below aggregate demand to above aggregate demand.  Work through the math and GDP actually drops.

However a more serious issue with that is the “If you build it they will come” school of thought assumes that more production inexorably leads to more buyers.  In actuality, if the middle class shrinks then increased efficiency without a corresponding increase in demand actually just reduces the number of people who can participate in the economy fully and the efficiency is wasted.

The conservative assumption that “They’ll find something else to do” is just exactly that—an assumption.

Ultimately there are two pieces to the equation—someone makes something and someone buys it.  If people are making stuff but no-one is buying, then productivity is irrelevant.  Actually, that’s not true for productivity the economic term.  Productivity does indeed decrease in this case because revenue decreases faster than costs, but it still leaves two major flaws.  a) this example belies the assumption that increased capital investment will inexorably lead to productivity gains, and b) productivity gains are frequently had for a corporation by simply reducing headcount.  When pro-large business congressmen are in charge, these productivity gains will actually be a headwind on the economy; not a tailwind.

“[the first graph] shows the rate of growth in GDP and the ratio of the size of the public sector in relation to the private sector. The larger the percentage of government in the ratio, the lower the growth. “

Actually, if you assume that the graph is reliable in the short term (the economic sweets hypothesis state that there are certain economic actions that are good in the short term, but bad in the long term), then the swings of the higher *public* ratio are shortly followed by higher GDP growth, so either you described the graph wrong, or it means exactly the opposite of what you said.

Mark Soderberg

July 17, 2011, 2:59 p.m.

AS I read the 2 comments already made here by the 2 previous readers… thought comes to mind…“NO WONDER WE ARE IN THE MESS WE ARE IN !!!!  The 2 readers views typify our brain dead citizens.  John Mauldin writes of REAL solutions, based upon factual realities and thusly comes to sound conclusions.  The points stated by the 2 previous commenters reek of unsound conclusions, based upon illogical, not well thought out ideas.  How pathetically inept our citizenry has become…..and thusly how difficult it will be to right our ship, if ever….!  Place these two commenting souls in positions of Gov’t power and one can clearly see the huge issues we have at hand and why we are in the mess we are in !!!  Nice try fellas…...

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