Reflections on the Tax Day Tea Party

While attending the Fort Collins TDTP, one of the speakers mentioned the movie I.O.U.S.A. (view the short version here).  After watching this, it is shocking how much has changed since the film was made (2007 or  2008).  The deficits the movie predicts to occur in the 2030s now appear to be arriving around 2020.  This is not good news.

While many tea party supporters would like to see smaller government and lower taxes, history tells us it simply is not going to happen short of a catastrophic event that breaks the link between the governments at all levels and those dependent on the dole.

Here are options on the table for paying for government programs, ranked in descending order of political palatability (as I see it):

  1. Borrowing
  2. Tax increases
  3. Cutting services
  4. Cutting benefits

Let’s look at these separately.

Borrowing

Citizens and foreign entities are still willing to loan us money, but the system is starting to crack.  The rates needed to sell the bonds are rising and much of the US debt is short-term.  China has also been quietly reducing its holdings of Treasuries and buying up gold.  This well is starting to run dry.

Increased taxes

The prospect of a VAT is now openly talked about in Washington DC.  There will other taxes coming along.  Considering that the top 10% of wage earners pay over 70% of the total income tax take, there is not much room to raise rates on high earners without driving many of them into avoiding the higher rates.

Cutting services

One common feature of our governing class is that when it comes time to cut, they cut at the bottom (teachers, police, fire, road maintenance, etc.) rather than cutting the upper layers to the bone and scaling back on pretty public edifices (like our new police station and county courthouse).  This gives the officials a very noticable excuse to raise taxes.

Cutting benefits

This is the big elephant in the room.  At all levels of government benefits are simply out of control.  For example, in California over the last decade state receipts rose 20-some percent while benefit outlays increased 2000%.  The same dynamic applies to Social Security, Medicare and Medicaid.  All these pension and social programs are no longer financially viable yet the groups dependent on them scream bloody murder when change is suggested.

The end game

Regardless of how this plays out, it will be extremely painful.  My guess is that the system breaks down before our so-called leaders get serious about reforming or abolishing benefit programs.  The study by Carment Reinhart and Kenneth Rogoff in This Time is Different: Eight Centuries of Financial Folly shows that situations like ours are not new and that they do not end well. 

With our fiat money regime, the lender of last resort to the US is the Federal Reserve, which can print as much money as it wants to purchase US Treasuries.  The side effect of all this is significantly higher inflation, if we’re lucky, and hyperinflation if we’re not.  The only “good” aspect of this is that the US can inflate away its debts.  In that case, we will have a lot in common with Zimbabwe!  We live in interesting times.

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