The U.S. government's 'unsustainable' fiscal outlook

The U.S. financial industry is in a crisis and though that's a very scary problem with some potentially disastrous outcomes the scarier crisis — and one that only politicians and not central bankers can solve — is the horrendous shape of the finances of the United States government. Don't take my word for it. Here's the latest report (PDF) from the the Government Accountability Office of the U.S. Congress (the American version of our Auditor General):

… the long-term fiscal outlook is unsustainable.

And that's the first line! It gets worse (PDF):

Despite a 3-year decline in the unified budget deficit, the federal government still faces large and growing structural deficits driven primarily by rising health care costs and known demographic trends. Last month, a baby boomer claimed Social Security retirement benefits for the first time, and this cohort will be eligible for Medicare benefits in less than 3 years. According to the Social Security Administration nearly 80 million Americans will become eligible for Social Security retirement benefits over the next two decades—an average of more than 10,000 per day. Although Social Security is important because of its size, the real driver of the long-term fiscal outlook is health care spending. Medicare and Medicaid are both large and projected to continue growing rapidly in the future.

The question is how and when the nation’s current imprudent and unsustainable path will end. At some point, action will be taken to change the nation’s fiscal course. The longer action to deal with the nation’s long-term fiscal outlook is delayed, the greater the risk that the eventual changes will be disruptive and destabilizing. Acting sooner rather than later will provide more time to phase in gradual changes, while also providing more time for those likely to be most affected to make compensatory changes.

Now, I'm no economist, but if I read the charts in this report correctly , if U.S. federal governments do not either cut spending and/or raise taxes, the United States deficit — not debt but the current excess of spending compared to revenue — will hit 5 per cent of US GDP within the decade (it's somewhere around 3 per cent now — and will hit 10 per cent by 2030. The U.S. deficit will be a whopping 20 per cent of GDP by 2045. This would be very bad for every economy in the world, but particularly bad for its largest trading partner, Canada.

Brian Mulroney faced a similar problem when he took office in Canada in 1984. Deficits and government spending were out of control. He did a decent job addressing the revenue side of the equation, albeit at great political cost, by bringing in the GST. Jean Chrétien continued that work by slashing spending when he took office. The result? After nearly a decade of federal penny-pinching, Canada's books are the best among the G8. Canada is the only G8 country whose federal government is running a budgetary surplus and whose debt, as a percentage of national GDP, is shrinking. Many say Ottawa accomplished this by dumping spending responsibilities on the provinces. Perhaps. But this year, every single provincial government will also be in a surplus budgetary position. That's pretty good.

It couldn't be more different in the U.S.

In his recent book, The Age of Turbulence, arch-Republican and former Federal Reserve chairman Alan Greenspan has almost nothing nice to say about the fiscal management abilities of Presidents Reagan, Bush and Bush, but nice things to say about Democrats. Greenspan writes how, in his final years on the job, the most troubling thing he saw was “the readiness of both [the Republican-dominated] Congress and the [Republican] administration to abandon fiscal discipline.”

But it's not just Bush. Greenspan goes back to Reagan and snidely notes that “Reagan borrowed from Clinton and Clinton had to pay it back.”

Clinton, like Mulroney, embarked on a fiscal discipline program upon taking office that cost him political capital but was the right thing to do. Greenspan says what Clinton did was “an act of political courage” and represented America's “best chance in forty years to get stable long-term growth.”

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