FedUpUSA

Here’s the bottom line folks:

These are the major spending items in the US Budget, from 1980 to today.  I am ignoring all the ones that don’t matter, and I’m also intentionally leaving in one foil often used by both sides of the debate for scale purposes (Education.)

Of particular interest (and alarm) is Welfare, which doubled from 2007 to 2010.  But — it appears to have come down some in the least two years and change.  Therefore, while this is a problem, it is not the emergent one.

Those are the three categories on the top — Pensions (Social Security, mostly), Health Care and Defense.

One of them is discontinuous — Defense.  It is possible that the rough tripling from roughly 1998 to today has stopped.  If so then its impact on what is to come is not material.

Before you protest, please read the rest of this.

That leaves two categories — “Pensions” and “Health Care”.

Note the right scale graph, the purple dashed line.  This is the reason that the so-called pundits, from Bernanke on down, all argue that we must deal with this sometime in the reasonable future, but right now we’re not about to hit the wall.  That is, GDP is rising in rough conformance with those three major contributors to the government’s spending profile.  And it is GDP (in one form or another) upon which all taxes are levied.  Therefore, by first appearance, they argue, we are not about to have an imminent crack-up.

They’re wrong.

Note the category called “interest” and that it has been rising much slower that has the debt over the last few years.  It tracked the debt growth until approximately 1996.

This is when active manipulation took hold by both The Fed and Government.

It is when, approximately, we transferred from growth in the economy to debt-financing for consumption.

Now I want to project out a few other assumptions just a couple of years.

First, I will project forward both Pensions and Health Care to 2015, along with the Debt.

I’m assuming defense remains constant.  This is probably unrealistic given the screaming coming from the DOD right now, but let’s assume it in order to give the budget folks the benefit of the doubt.

Note that our public debt has exceeded $20 trillion.  Note also that we have added $355 billion in annual expense to the budget and exactly none of it is discretionary.  The so-called “sequester”, at $80 billion a year, is (by the second year) less than one quarter of this amount, and that assumes that every penny of it sticks.

Now I want to make one final assumption — The Fed loses control of interest rates because it is forced to abandon its programs due to either runaway “inflation” or the ongoing destruction of purchasing power in the American people’s lives.

That ongoing destruction is happening now and it is responsible for the zero GDP print last quarter.  This is an emergent problem, not one for the future two, three or five years down the road, because without growing GDP that purple line does not go upward and the alleged ability to cope with the growing expenditures instantly evaporates.

That’s the bad news.

The worse news is what happens if The Fed is forced to back off.

Let’s assume that the One Year T-Bill rate goes back to the midpoint of its historical range (not including the 1980s discontinuity), or about 3.5%.  What happens?

The expense profile of the government does not rise by $355 billion in mandatory spending, it rises by nearly $900 billion annually in just two years time!

This increase is approximately one third of all tax revenues and into a flat GDP there is no chance of collecting the taxes necessary to fund it.

That in turn will provoke a discontinuous interest rate move.

Pensions we can fix; OASDI can be repaired.  We did the first piece of it with the expiration of the payroll tax cut that was (foolishly) passed.  The rest is handled by indexing (now!) the retirement age to longevity.

The medical spending problem cannot be fixed within the government alone.  It has to be addressed in the medical system as a whole.  In short, the medical system must contract in terms of dollars spent by about 80% and then rise at no faster than GDP in the future.

This has to happen now.  It can happen now, but doing so is a political nightmare.

We cannot do this in the future.  We cannot do this over a period of 10, 20 or 30 years.  We must do it right now, this year, today, in the present tense.

There is no other option and I don’t give a damn how much the medical providers, hospitals and lobbyists scream.

“Scotty, I need warp power in 2 minutes or we’re all dead.” 

Really.

Yes, I’m fully-aware that the government and Fed will try to “kick the can” in some way, even if they see this as the imminent outcome of their acts.  But any further ”can-kicking” just makes the problem worse by compounding the debt and expense profile even more.

Some of the back-of-the envelope numbers I had been working with gave us until about 2020 or thereabouts before the discontinuous spike occurred.  Those models were ones that I tweaked back in 2007 and were the reason for my alarm at the time — we had less than a decade left before the impact started.

But now we have both Europe (which is falling back into recession), Britain (which is an utter basket case) and Japan, which has effectively declared that it will debase its currency and destroy the purchasing power of its citizens into a depleted savings base.  In addition we have what is now a known set of outcomes from Obamacare, which I predicted would be an utter disaster and for many people would double their health care expenses (mostly insurance) and which is now known to be correct.

This changes have forced updates to those graphs and expectations and unfortunately they have pulled forward the “aw crap” date to as few as two years from now.

Note that these are quite-conservative estimates.  If defense spending rises from here then it’s even worse.  If welfare spending rises (E.g. more food stamps anyone?) then it’s even worse.  If we subsidize more student loans, it’s even worse.  This estimate and work assumes that no other part of the federal budget increases by one single net penny — a ridiculously conservative set of assumptions.

If the corrective actions aren’t taken in the immediate present tense then what you’re looking at is the outcome that will happen, and when that outcome occurs immediate collapse of the government’s funding model is assured. 

This is not speculative — it is arithmetic.

The only option The Fed would have would into such an event would be to try to “QE” the difference via what at that point amount to completely-phony auctions and “open market operations” on top of what it’s doing now — that is, roughly double the destruction of purchasing power that is taking place today via their “QE-to-infinity.”

But that simply transfers the deficit to the population directly via that destruction of purchasing power and it falls almost-entirely on the bottom two quintiles of the income spectrum.

That’s a recipe for a nearly-guaranteed civil war as you will generate over 100 million Americans with nothing to lose.

Raw chart data from usgovernmentspending.com, traceable to US Budget data (official)

Wow, someone bothered with History?

The solution to weak economic growth may be higher interest rates.

That seemingly paradoxical remedy can apply if the cause of the slump is a confidence shock that cheap borrowing costs are failing to reverse, two Columbia University economists said in a report published this week. In such a situation, ultra-easy monetary policy risks making fears of deflation a self-fulfilling prophecy as spenders sit tight.

1920/21.

Post-war American industry put on too much capacity and extended (far) too much credit.  We had a nasty credit bubble and prices, including stock prices, went up.  A lot.

But between the turn of 1920 and the middle of 1921 there was a truly ugly deflationary collapse as the overheated credit markets blew up and production exceeded the ability of the consumer to buy.  Stock prices dropped by about half and the collapse in prices at the producer level came at the fastest rate in American history — surpassing even that of The Depression!

So did the Federal Government increase spending to stimulate the economy and did The Fed (which existed, I remind you) cut rates?

Nope.

Exactly the opposite.

The Federal Reserve increased rates and The Federal Government balanced the budget.

The over-levered went bankrupt.

But the market cleared, and 18 months later the economy was back to full employment.

You never hear this deflationary recession talked about in economics class, although you should.  The only reason it was not called “A Depression” is that it didn’t last long enough to qualify.

There are many lessons in history; lowering interest rates and deficit spending in fact don’t work.  At their best they can manage to substitute false government-fed demand for a while and blow an even bigger bubble than existed before.  But frequently they fail entirely and you get the 1930s or the last two decades in Japan.

On the other hand, if you stop the deficit spending (and thus the debasement of people’s capital — their savings) that comes with it, and you refuse to feed an overlevered lending market with ever-cheaper credit, history says the market clears and then the economy recovers.

Some ugly facts for your Saturday….

From 1990 to 2000 GDP expanded at an average rate of 4.80%.  Debt expanded at an average rate of 7.51%

From 2000 to 2010 GDP expanded at an average rate of 4.13%.  Debt expanded at an average rate of 6.55%.

From 2010 to 2Q 2012 GDP expanded at a rate of 3.93%.  But debt expanded at only 0.94%, which is a massive paradigm shift from the previous 20 years.

This is good instead of bad, right?

In a word, no.  It is signaling the end of the self-delusional game we’ve been running for the last three decades.  That endpoint is here, now and today.

Real economic growth has to subtract out government deficit spending. When you do that it looks like this:

There has been no growth of materiality since 2000.  We cheated.  And we cheated before too, but in the private sector with all the Internet scam companies that blew up in the tech wreck.

And by the way, at current run rates (although the numbers are not in yet) this year in terms of actual deficit and actual adjusted GDP will be almost identical to 2011, unless something dramatic changes in the next two months.

We have a grown a few things though.  First, let’s look at the growth in Federal (only) health spending.  This is what we’ve done thus far (smoothed, using the endpoints — $53 billion in 1980 and $850 billion last year.)

And then there’s what that rate projects out to for the next 35 years, which is what the government has promised all those who are 50 and older – your Medicare will not change if you’re 50 or older — remember?

Best of luck with that, Kemosabe; roughly $16 trillion on federal health spending alone in 2043?  

By the way, for the math-challenged by 2029 we will spend more on health care than the entire federal budget is today.  If you believe that can happen, say much less that 2043 will happen, I have a bridge for sale in Brooklyn.  The foundation might have had a bit of trouble of late though.  I think it was called “Sandy”.  Heh, that works, doesn’t it?

Of course we’ve all heard that the economy is recovering since early 2009.  That recovery must be real because this statistic is just skyrocketing — the number of people (and households) on food stamps.  Uh, if the economy is recovering, why does this number keep going up and why has it gone up by more than 50% in the last four years — and has never gone back down?

That must be because the fine government people and “eCONomists” are all lying to you.  Let’s see if we can find the lies.

We’ll being with employment.  We keep hearing that we’re gaining jobs.  This is half-true.  We have in fact added 7.2 million jobs from January 2010 to today.

Unfortunately we also added 7.15 million working-age people during the same time period.  So in point of fact, we added jobs – all 50,000 of them, when you account for working-age population growth.

Eh, that’s not so good, and nobody wants to talk about that.

Of course during the same time gasoline prices have roughly doubled, and most food items are up dramatically in price — 50% or more.  Milk, eggs, cheese, meats.  I wonder if that would force people onto food stamps — stagnant employment and outrageously-rising costs.

It just might!

Why is that happening?  Well that might be due to the Federal Budget.  Ok, ok, it’s not really a budget because they didn’t pass one.  But this is where we’re spending our money, and where we’re taking in money in taxes — and what we’re putting on the credit card.  I ordered a few things to point out that we must pay the interest, we must pay “General Government” (that’s the light bill for the Capitol, among other important things) and we probably want to pay for things like the Fibbies (various federal law enforcement entities and their infrastructure.)  It’s also important to keep in mind the size of those shards of the budget, so when someone says “but the FBI and government is so wasteful on such programs” you can point to exactly how much we would “save” if we stopped doing all of it.

That is, not enough to matter.

So if we were to stop deficit spending today we could pay the interest on the debt, we could pay for the lights in the White House, we could pay for the FBI and similar, we could pay for Medicare, Medicaid and Social Security.

But then we run out of money half-way through Defense and have nothing for Welfare, Other spending, Education or Transportation. 

Zip, zero, nada.

There’s this little problem with that chart too which explains all of the above with employment and food stamps, along with the other markers of actual economic health.  That nasty red bar with the label “Debt”, and which both sides of the aisle claim we can continue to add onto every year, is actually dilution of the nation’s wealth.  This is exactly identical to imposing a tax, and it’s over a trillion dollars annually.  In point of fact from 2008 to 2012 (calendar) it has been $1.40 trillion, $1.647 trillion, $1.852 trillion, $1.225 trillion and at the current (10 month) run-rate for 2012 it will be $1.246 trillion this year.

Remember, President Obama, when he took office, told us all that he would cut the deficit in half from the fiscal 2008 level, which was about $600 billion, by the time he came up for re-election.

He instead more than doubled the annual deficit and added about $5 trillion in debt across his first term.

And let’s not forget that this is not just a Democrat thing.  Oh no — all spending bills must originate in The House.  Without the House there is no spending and there is no deficit.  And who controls The House?  Why that would be Mr. Speaker Boehner, and I do think he has an “R” after his name.  Despite all the screaming about “fiscal responsibility” he (and Paul Ryan) are abject liars; when push comes to shove they are all more than happy to shove all right – they shove you, your children and every senior citizen right into the hole right along with help from Obama, Nancy Pelosi and Harry Reid.

But that’s not the bad news.  The bad news is that at the rate of escalation going on today we will try to do this by the end of the decade:

Now that is just not going to work at all; we’ll pay that light bill, the Fibbies and Health Care but then will run out of money about halfway through Social Security, at which point the FBI will have plenty to do as Granny’s shotgun comes out.

So as you go about your weekend, contemplate these facts:

• You can’t fix medical entitlement spending.  You instead have to fix the medical system, and the only way to do that is to pull all of the monopoly-style protections so that the cost of care in terms of dollars spent crumbles by 75% or more.  This will result in a lot of short-term unemployment and contraction in GDP, but if it’s not done our government and society will blow up.  This is a mathematical certainty.

• You can’t keep escalating defense spending either.  But to fix that you must solve our energy dependence problem, because a huge part of why we spend over $750 billion a year is found there.  Oh, it might help if we didn’t hand man-portable anti-aircraft missiles to our “friends” that happen to be affiliated with Al-Qaida too, as we reportedly did in Libya.

If we contracted Medical Spending by 75% and Defense by half, expiring the payroll tax credit and indexing Social Security retirement to longevity we would balance the budget and stop destroying our nation’s competitiveness and middle class.

Doubt me?  Here’s the graph, and those three things are all I changed; Social Security does not move in expense but tax receipts go up due to the payroll tax cut expiration by about $200 billion a year.

There isn’t any other way to do it.  Welfare, even if cut dramatically, can’t be cut enough.  Other spending, education and transportation don’t have enough margin in them either — even cutting them in half won’t get there.  Social Security can be slowed in escalation but in point of fact most of it is paid for by the Payroll Tax, or at least it was before Congress raided it with the allegedly “temporary” payroll tax deduction that costs about $210 billion a year in revenue.  Indexing retirement to longevity gets us the rest of the way there by halting the advance of spending on that program.

It comes down to medical spending and defense, and with medical spending the only solution is to remove the monopoly protections and allow competition to force the industry to eat well over a trillion dollars a year in decreased gross revenues, accepting the impact that has on the economy and employment in the short term.  On defense we must resolve our energy dilemma and stop pandering to the Middle East, then literally go home, cutting defense spending in half.  There is no other answer; raising taxes to close the debt gap is exactly identical to what we’re doing now in terms of economic damage; the downward spiral will continue if that is attempted exactly as if we do not and keep trying to deficit spend our way out of the hole.

This is reality folks, and yet nobody wants to face it.

Arithmetic cannot be bargained with.

It just is.