Deinonychus antirrhopus

Long Term Government Budget Woes

Alex Tarbarrok just discovered Laurence Kotlikoff. There was a report done by Kent Smetters and Jagadessh Gokhale that noted that the U.S. government was facing a long run deficit of $44 trillion dollars (here is Kotlikoff's Boston Globe article on this.).

Suppose the government could, today, get its hands on all the revenue it can expect to collect in the future, but had to use it, today, to pay off all its future expenditure commitments, including debt service net of any asset income. Would the present value (the value today) of the future revenues cover the present value of the future expenditures?

The answer is no, and the fiscal gap is the $44 trillion. Now, that is big bucks by anyone's definition. It's four times current GNP and 12 times official debt. Imagine everyone in the country working for four years and handing over every penny earned to pay this bill, and you'll grasp its size.

One way out of this is by raising taxes dramatically and cutting discretionary expenditures to nothing if there are no changes to policies such as Social Security and Medicare. Of course, such a solution is economic suicide, IMO.

I was aware that things were not going to be all sweetness and roses about 2 years ago (more or less) when I was at UCLA's Anderson School of Management's forecasting seminar. Kotlikoff was one of the guest speakers and that is where I ran across his, The Coming Generational Storm.

Now some object to the method of analysis that Kotlikoff, et. al. use. They point out that there is an assumption that government spending is completely fallow. While this may not be true, the analysis does provide us with a worst case scenario. So now the question is: do we want to risk it and see if government spending is going to produce enough growth to offset the deficit?

Its funny how people will ridicule a conservative who'll suggest inducing economic growth to solve budgetary problems, but will with a straight face suggest government spending can accomplish this task that economic growth cannot. Maybe it can, in conjunction with economic growth, solve the problem, but I'm not sure that is a risk I want to take.

The bottom line though is that there is a serious imbalance in the government's budget over the long term. Correcting this imbalance won't be painless, but it should be done. However, I predict that nothing will be done. Neither candidate will discuss this issue this election. To do so will risk attack by the other. The reason for this is that the way out of this mess (without raising taxes) is fixing the long term imbalances in Social Security and Medicare. Both programs are going to end up being trillions of dollars in the red. It is doubtful that taxing wage and salary income currently not covered will solve the problem. Further, I am not sure the Social Security Trustees Report correctly factors in the rate of growth in Medicare spending. Add on top of that the current prescription drug program and its inevitable expansions and revisions and the $44-$45 trillion Kotlikoff, et. al. are talking about is probably an underestimate.