July 1, 2009

Fairy Tale Economics - Part 2

[NOTE: Italicized text is repeated from Part 1 for contextual purposes.]

Politicians would have you believe most anything. They'll say anything to get elected. They themselves might absolutely believe the words they are saying when they say them. But when it comes to governing, they are often confronted with the realities of the situation that cause their promises to become forgotten promises. In that light, the GOP being regarded as the party of 'No.', on the surface appearing to be simply obstructionist, is in reality a good position to be in. It's a lot easier to promise NOT to do something, NOT to spend money and then deliver on that promise, than it is to promise to do something that turns out to be unwise or impossible to deliver upon after being elected. In that case you've got to go back on your word, or plow ahead with a bad idea that will do more harm than good in the long run.

It's one thing to believe that your solutions are smart ones when the aren't, it's entirely another and far more sinister when politicians are deliberately misleading the public into believing in a set of principles that are patently flawed. The United States as a nation finds itself in one of those situations right now. The recessionary meltdown currently being navigated by the economy is the problem, and believe it or not, the solution as it stands is a big part of the problem too. There are three distinct culprits in getting us to this crisis point: (1) President Obama (2) The mainstream news media and (3) the inattentive, gullible and naive American public. The truth is that the culpability is pretty evenly spread between those three.

Previously, looking at the problem itself the focus was on Taxation (See Part 1 here). The problem however was not immediately defined in Part 1, so before looking at more let's define the problem specifically.

The problem is that the economic crisis the nation currently finds itself in, cannot be solved the way the government is going about doing so. In essence, the initial problem of a recession is being compounded by the solution.

The Problem

The economy is in rough shape but it can't be cured by Fairy Tale Economics. Those following the economy will look at things like unemployment rates and the stock market and draw their conclusions about the nation's health based on them (or similar indicators). But that's taking a microscopic look at an economy that has a macroscopic problem. The unemployment rate is the symptom of the problem, not the problem.

You don't solve the economic problems by solving the unemployment rate issue. That's like thinking you'll cure your cold by taking cough syrup. If it was as simple as creating jobs then as someone pointed out (source unknown), then the government could take the stimulus money and hire workers, and handing out shovels to 2 groups of people - one to dig holes and one to fill the holes back in. And why not pay them $200,000 each to do it? Surely that would be more stimulating than $35,000 each, no?

The fairy tale economics yarn that the Democrats are spinning is that the government will create jobs and demand for goods and services by creating projects and spending money on them. The politicians will argue that consumers are not demanding goods and services so the government has to step in to fill the void until consumers appetite for buying returns. The government may indeed need to fix roads, build more Hoover Dams etc., but that's not the issue here. The economy is the issue, and their solution does not work. It's pretty a simple matter to figure out why.

In the simplest context, the government has to get that money from somewhere. They have 3 options available to them (i) they can raise taxes on consumers and/or businesses (ii) they can borrow money from domestic and/or foreign lenders (banks or governments) and then pay it back later or (iii) print more money and use it for the government spending. Of course the politicians could also decide to do a combination of some of all three of those options. The result would then be a mix of the results of each option taken in isolation.

More Government Borrowing

One of the ways politicians try to get elected or re-elected is to give people things. Sometimes this is manifested via pork-barrel spending projects, sometimes it's done on a more subtle level. If a politician running for offices promises to give you a new benefit (say free health care) but tells you that under his or her plan, it won't cost you one extra dime, that politician is promising to give you something for nothing.

Everybody has heard the expression "there's no such thing as a free lunch". You've heard it because it's true. Nothing is ever free. If something is free for you personally, which is pretty rare, it means there's a cost for someone else. If you went into your local Wal-Mart and they told you here's a free XBox 360 and 10 free games, there's a cost to Wal-Mart. They've given up the cost of those items they gave to you because they bought them. And they've also given up the possible profit they could have made from you.

Why does that matter? Because any politician who tries to borrow money to give you something for 'free', is only telling you half of the story - the good half.

Firstly, the government has it's own problems. It's not living up to a lot of what it's supposed to be doing in so many areas (think of service levels at the DMV), that it's wrongly focused on trying to do more for you. It can't even get right what it's already doing. Furthermore, if it can't get those things right, what makes you think that they can get health care or carbon tax credits right? But the bigger point is that the government shouldn't be responsible for those items for you - you should be.

Secondly and more importantly government borrowing isn't free. Whether the government borrows from an American bank, a foreign bank, or a foreign government, they are going to have to pay interest on what they borrowed. Do you think China is lending America money out of the goodness of it's blessed communist heart? No - they want to make a percentage off the loan. On top of which they want the borrowed money to work it's way into the American economy and eventually back to China in the way of purchases on manufactured goods now made there instead of the United States. It's a win-win for China, provided the U.S. doesn't default on the loans.

Thirdly, because the borrowing isn't free it creates another problem. Any money the government borrows now, gets added to the national debt which already stands at over $11 trillion and is expected under Obama's budgets to nearly double in the next 10 years. That's on top of the currently calculated costs of Social Security and Medicare that are currently calculated to be at $107 trillion dollars. That amount is staggering, and in the favored lexicon of the President ' unsustainable'.

People know from their personal credit situations that the more you borrow the higher the interest payments become. If you owe $100 at 5% APR interest, that means after a year without making any payments you'd owe $105. But imagine owing $11 trillion, let alone $127 trillion all told. 5% APR for the government on $11 trillion is $550 billion dollars. By comparison the U.S. Defence Budget for 2009 is $515.4 billion. That's an astounding amount.

Every year that the government does not pay that down the billions the government has to pay goes up. In the course of two years at that level, the government will pay a combined $1.1 trillion in interest payments to banks foreign and domestic, and to other governments, some of which are not friendly to American interests. Furthermore that money is money the government could have spent on roads, dams or fixing the DMV as much as possible. Your tax money is going to China, who have bought government bonds to support American spending habits. The interest on the debt flowing outside of America is as much a problem as the balance of trade deficit because both cannot go on indefinitely and the interest on the debt is something that's going to hit the fan sooner of the two problems.

The Fairy Tale here is that the government can somehow magically borrow money from anywhere and there is no impact on your wallet. There may be no visible impact for the short term, but the truth is it will cost America, it will cost your children and grandchildren, and given the rate of growth of the problem, it may hit your wallet sooner than you think.

Just like you can't spend yourself rich, the government cannot spend it's way out of the economic hole it has dug for itself since the time of Roosevelt. The surpluses of the 90's didn't couldn't have overcome the Social Security, Medicare, Medicaid trifecta of doom, and would have hardly dented the spend President Obama has planned for you either. While the short term boost of a government spending spree might have made sense under ideal circumstances - those vary considerably from current conditions.

If the government regularly ran at a surplus budget, if there were no massive national debt, if the stimulus truly generated more spending than it raised the interest on the debt, if the spending were economically efficient, immediate and clearly controlled, monitored and costed then maybe it might make sense. And even then, only if the costs were repaid as immediately afterwards as possible would it make sense. That reality is more of a Fairy Tale's distance away from the current situation.

But Democrats will tell you each and every time this money has to be spent or else...don't bite. Every dollar out is another government spent dollar for nails for the coffin of America.

NEXT UP: The third option for government to come up with ways to spend money is to just print more. Scary? You bet, and there's lots of evidence as to why.

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