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Means of deficit reduction: Medicare and Social Security

Yesterday, I argued that the United States faced a policy dilemma in avoiding debt deflationary forces while maintaining fiscal prudence. The reality is that President Obama faces political constraints in Washington right now regarding budget deficits. He is not likely to get another stimulus package through the Congress unless he can credibly demonstrate a longer-term deficit reduction outlook. In my view, this necessarily means changes to Social Security and/or Medicare.

Last June and July, I presented five charts from Ross Perot’s website perotcharts.com which demonstrate the future budgetary problem:

Fiscal Year 2007: before the bubble burst

What becomes apparent if you look at these charts is that the United States faces a very large fiscal problem under present tax and spend scenarios given likely future growth outcomes. In plain English: there is a gigantic hole in the U.S. Government’s balance sheet under normal GAAP accounting. Let’s look at the balance sheet for 2007 because John Williams at ShadowStats.com has already done the analysis and this was a budget that was created before the housing bust was apparent.

On December 17th, The U.S. Treasury released the annual Financial Statements of the United States Government for fiscal year 2007 (year-ended September 30th), prepared using generally accepted accounting principles (GAAP), audited by the General Accountability Office (GAO) and signed off on by Treasury Secretary Paulson.

The statements still show that the federal government’s fiscal woes continue to careen wildly out of control. Based on my estimate of the 2007 GAAP-based deficit exceeding $4.0 trillion (see discussion below), the term "out of control" is not used loosely. If the government were to raise taxes so as to seize 100% of all wages, salaries and corporate profits, it still would be showing an annual deficit using GAAP accounting on a consistent basis.

The number $4 trillion is the number you would see if the U.S. Government reported its accounts as businesses do on an accrual basis using Generally Accepted Accounting Principles (GAAP). GAAP accounting means that all promises i.e. future pension and healthcare spending must be accounted for on today’s financial statement. If we did not do accounts on an accrual basis, then many companies would go bankrupt when the unaccounted for future liabilities not addressed on their balance sheet came due. In the case of General Motors, future liabilities for pensions and healthcare are a large part of their financial problem.

The U.S. government reports its accounts on a cash basis. That means it matches the cash that comes in the door against bills it must pay in that current year. This is how small businesses run their accounts. Under this methodology, the accounting looks very different. Here is how George W. Bush summed up his 2007 budget deficit (Fiscal Year 2007 Overview).

For 2007, the Budget forecasts a decline in the deficit to 2.6 percent of GDP, or $354 billion. By 2009, the deficit is projected to be cut by more than half from its projected peak to just 1.4 percent of GDP, which is well below the 40-year historical average deficit.

As last year’s dramatic increase in receipts demonstrates, the most important factor in reducing the deficit is a strong economy.

His last words are well-placed because we know that the course of events was quite a bit different than was predicted in this budget. In sum, there is a large hole in the government’s accounts that an order of magnitude larger when you use GAAP. This was true even before the housing bubble and makes plain that the U.S. government’s budgetary problems are structural. (Also see Wikipedia’s entry on the 2007 Budget. It gives a good overview)

Honing in on the problem: Medicare and Social Security

The problem, of course, is Medicare and Social Security. Looking again at 2007 and the composition of spending (Chart of the day: US federal spending and receipts), one can see that 40 percent of the budget went to spending on Medicare/Medicaid and Social Security. This percentage will rise inexorably as the Baby Boom generation retires starting in 2011. If you look at the government’s own accounts (PDF), they tell the story. Notice the over $40 trillion in unfunded liabilities associated with Medicare/Medicaid and Social Security

Social Security and Medicare

How this fits in to today’s debate

These unfunded liabilities fit into today’s policy debate in that reducing Social Security and Medicare benefits would not only eliminate structural budgetary problems, it would also allow Obama to demonstrate fiscal prudence – even while the present deficit balloons. I guarantee you that Summers, Geithner, Orszag and Romer are on to this and that this is a debate of huge importance inside the Administration. I anticipate we will see a Social Security/Medicare change under Obama. The question is how would this change be achieved. There are four possible ways:

  1. Raise Taxes. To satisfy liberals, who have become more and more worried about Obama, one could see the Administration allowing Congress to eliminate the payroll tax exemption on some of the income earned above $100,000. If you listened to Joe Biden on Meet the Press on Sunday, it was clear that the President is going to make pragmatic decisions on budget issues and will not veto bills unless their totality is “wrong for America.” Translation: he would not necessarily add in a payroll tax increase himself, but he would sign a bill that has one if he could tout this as a tax increase for the rich and stress the fact that the middle class would see no rise in the income tax.
  2. Reduce Benefits. Another way to reduce entitlement liabilities is to reduce the net benefits. Obviously raising tax on benefits for those earning a specific threshold outside income would be the taxation way of achieving net benefit reduction. Again, this would be touted as a tax on the rich. Cutting benefits outright is a non-starter and political suicide. On Meet the Press, Biden was unwilling to dismiss the potential that the President would sign a Universal Health Care bill that taxed health care benefits. I think this is a crucial statement regarding both UHC and entitlement programs.
  3. Reduce Coverage. Because medical care has advanced hugely over the last decades, we are now able to keep patients alive (and often healthy) who would have died years ago. As a result, medical costs have skyrocketed. The simple fact is that using all available medical science to treat patients costs a lot of money. This makes attractive the potential cut of Medicare coverage i.e. reducing which procedures and care will be paid for. I expect, this is another option that is going to be explored.
  4. Delay Benefits. This is my preferred option. The average lifespan of Americans has increased tremendously particularly since Social Security was enacted. As a result, retirees today receive many more benefits than they did in the 1940s. (“The 2000 U.S. census revealed that the number of Americans over 65 years old has more than doubled since 1950 and increased from 31.1 million to 34.91 million from 1990 to 2000, largely because of continuing advances in medical science and nutrition.” – MSN Encarta Encyclopedia). These demographics are killing the U.S. and they are going to get worse. Given relatively low fecundity rates among young American women, they will get worse still. Therefore, the U.S. government is going to have to raise the age at which Americans are eligible for Social Security.

In sum, while I prefer a delay of benefits, all of these ways of reducing entitlement benefits are going to be researched and suggested. The Obama Administration does seem willing to address these issues, potentially as a quid pro quo for another round of stimulus.

An alternative view

I would be remiss if I didn’t present you with links to the other side of this argument. This is handled capably by Dean Baker of the Center for Economic and Policy Research, one of the few economists to have spotted the housing bubble early (see his 2002 article here). In April, he penned a piece at Andrew Cockburn’s site counterpunch.org called “Hands off Social Security.” I suggest you read this for an alternative view. In addition, I would also recommend his book with CEPR colleague Mark Weisbrot “Social Security: The Phony Crisis.”

One reason Baker is so vehement in his arguments is that he knows ideologues are orchestrating a battle against Social Security in order to deprive you of your retirement benefits. Remember the 2004 Bush plan to privatize Social Security? What lies underneath this is a desire to give the financial services industry even greater power by allowing it to control the funds for Social Security. So, be forewarned.

In the end, while I have great respect for Baker – and agree with many of his arguments, I disagree with his conclusions (summarized here in his opposition to the film I.O.U.S.A.). Social Security and Medicare must be changed.

Conclusion

In the end, if you are looking for ways to increase stimulus to prevent a double dip or debt deflation while remaining fiscally prudent, a cut to entitlement programs is going to be necessary. As I see it, you can’t have your cake and eat it too.

About 

Edward Harrison is the founder of Credit Writedowns and a former career diplomat, investment banker and technology executive with over twenty years of business experience. He is also a regular economic and financial commentator on BBC World News, CNBC Television, Business News Network, CBC, Fox Television and RT Television. He speaks six languages and reads another five, skills he uses to provide a more global perspective. Edward holds an MBA in Finance from Columbia University and a BA in Economics from Dartmouth College. Edward also writes a premium financial newsletter. Sign up here for a free trial.

11 Comments

  1. Praedor says:

    You forgot your wider focus lense. DEFENSE spending needs to be drastically curtailed. We spend more than ALL other countries COMBINED. This is unacceptable, loony, ridiculous, ruinous, and unsustainable. We could cut our “defense” spending (offense spending is more accurate) by 50% and STILL be spending more than Russia or China.

    Cut military first, re-do the tax system so that it is more progressive than the current regressive system, THEN see where we are with regards to everything else.

    • I agree that defense spending is way too high in the U.S. But, cutting it now is not possible given the political constraints. That idea is a non-starter for a ‘liberal politician like Obama looking for national security bona fides.

  2. Potomac Oracle says:

    Why are all policy makers and most economists fearful of publicly presenting alternatives to the conventional wisdom that tax increases and program cuts are the only palliatives for reducing debt and deficits?

    We can’t allow conventional wisdom to reign during the debate over how we pay our bills. America’s belief in that claptrap assures the banking community that political jurisdictions of all sizes will continue to use debt as the only means through which to finance budgets. That guarantees bankers a permanent stream of income.

    The alternatives to this claptrap of tax increases and budget cuts are the following:

    1. The Treasury could conduct an appraisal of major Government properties around the nation and use the appraised value of some of those properties to capitalize a publicly owned bank. That bank would then use fractional reserve lending principles and issue interest free credit to fund the budgets of Federal, State and local political jurisdictions.

    Capitalizing the value of these federally owned public properties is infinitely more advantageous to tax payers than selling them to domestic and foreign interest simply to raise cash in a one time transfer. Doing this also obviates the need for tax increases and program cuts.

    The public would continue to have access to these properties through a system of modest user fees (tax of a different kind but not on everyone) which contribute to replenishing the Treasury accounts. There are no middle men fees or central bank interest charges or other commerical banking interventions. Over time a publicly financed bank ushers in the absolute reduction in federal income tax because it eliminates the creation of federal debt.

    2. The Federal Reserve should buy back the debt the Treasury owes to the Fed, approx $6 trillion and liquidate the bonds associated with that debt. The fact that banks buy government bonds with money created out of thin air was confirmed as far back as 1935. Moreover, the Fed has no opportunity costs since it’s source of funding is “thin air.” Buying back and then liquidating the bonds never to issue them again eliminates the threat of iinflation. Cutting national debt in half with a ledger entry gives the government the breathing space it needs to ,ount a real recovery program debt free using the public bank option above.

    3. “In what may be the best piece of advice ever given to a sitting President, Colonel Dick Taylor of Illinois reported back to Lincoln that the Union had the power under the Constitution to solve its financing problem by printing its money as a sovereign government. Taylor said:
    “Just get Congress to pass a bill authorizing the printing of full legal tender treasury notes . . . and pay your soldiers with them and go ahead and win your war with them also. If you make them full legal tender . . . they will have the full sanction of the government and be just as good as any money; as Congress is given that express right by the Constitution.”

    Lincoln succeeded in restoring the government’s power to issue the national currency, but his revolutionary monetary policy was opposed by powerful forces. The threat to established interests was captured in an editorial of unknown authorship, said to have been published in The London Times in 1865:

    “If that mischievous financial policy which had its origin in the North American Republic during the late war in that country, should become indurate down to a fixture, then that Government will furnish its own money without cost. It will pay off its debts and be without debt. It will become prosperous beyond precedent in the history of the civilized governments of the world. The brains and wealth of all countries will go to North America. That government must be destroyed or it will destroy every monarchy on the globe.”

    The institution that became established instead was the Federal Reserve, a privately-owned central bank given the power in 1913 to print Federal Reserve Notes (or dollar bills) and lend them to the government. The government has been submerged in debt that has grown exponentially since, until it is now an unrepayable $14 trillion.

    For nearly a century, Lincoln’s statue at the Lincoln Memorial has gazed out pensively across the reflecting pool toward the Federal Reserve building, as if pondering what the bankers had wrought since his death and how to remedy it.”
    Excerpted from, “Web of Debt” by Ellen H, Brown.

    The remedies lie not in foisting the burden of more taxes and privation on Americans because of slavish devotion to the bankers ploy, but rather to engage creative and tried methods of financing the commons. The coming onslought against Social Security and Medicare is driven by idealogues who give not one wit of care for the victims of their misguided and myopic approach to fiscal management.

    Who among the economists, not beholding to the Fed, would dare to support any of the alternatives mentioned above?

    There is only one state with a publicly owned bank….N. Dakota. And, it has a budget surplus, 25% return on equity, low unemployment and a collaborative lending environment with commercial banks.

    This microcosm is adequate proof that there is a better way to finance the commons.

  3. Potomac Oracle says:

    Edward,

    Your reaction falls far short of what I expected. I thought you might respond to the alternatives I presented rather than simply cite your views which I considered part of the claptrap of conventional bankers wisdom.

    • Cebes,

      Which discussion are you referring to? I don’t think I responded to anything you wrote.

      • Potomac Oracle says:

        I saw the “Reaction” under my post “Potomac Oracle” and assumed that “reaction directly under it was a response from you.

        Following is what I posted 2 days ago.

        Why are all policy makers and most economists fearful of publicly presenting alternatives to the conventional wisdom that tax increases and program cuts are the only palliatives for reducing debt and deficits?

        We can’t allow conventional wisdom to reign during the debate over how we pay our bills. America’s belief in that claptrap assures the banking community that political jurisdictions of all sizes will continue to use debt as the only means through which to finance budgets. That guarantees bankers a permanent stream of income.

        The alternatives to this claptrap of tax increases and budget cuts are the following:

        1. The Treasury could conduct an appraisal of major Government properties around the nation and use the appraised value of some of those properties to capitalize a publicly owned bank. That bank would then use fractional reserve lending principles and issue interest free credit to fund the budgets of Federal, State and local political jurisdictions.

        Capitalizing the value of these federally owned public properties is infinitely more advantageous to tax payers than selling them to domestic and foreign interest simply to raise cash in a one time transfer. Doing this also obviates the need for tax increases and program cuts.

        The public would continue to have access to these properties through a system of modest user fees (tax of a different kind but not on everyone) which contribute to replenishing the Treasury accounts. There are no middle men fees or central bank interest charges or other commerical banking interventions. Over time a publicly financed bank ushers in the absolute reduction in federal income tax because it eliminates the creation of federal debt.

        2. The Federal Reserve should buy back the debt the Treasury owes to the Fed, approx $6 trillion and liquidate the bonds associated with that debt. The fact that banks buy government bonds with money created out of thin air was confirmed as far back as 1935. Moreover, the Fed has no opportunity costs since it’s source of funding is “thin air.” Buying back and then liquidating the bonds never to issue them again eliminates the threat of iinflation. Cutting national debt in half with a ledger entry gives the government the breathing space it needs to ,ount a real recovery program debt free using the public bank option above.

        3. “In what may be the best piece of advice ever given to a sitting President, Colonel Dick Taylor of Illinois reported back to Lincoln that the Union had the power under the Constitution to solve its financing problem by printing its money as a sovereign government. Taylor said:
        “Just get Congress to pass a bill authorizing the printing of full legal tender treasury notes . . . and pay your soldiers with them and go ahead and win your war with them also. If you make them full legal tender . . . they will have the full sanction of the government and be just as good as any money; as Congress is given that express right by the Constitution.”

        Lincoln succeeded in restoring the government’s power to issue the national currency, but his revolutionary monetary policy was opposed by powerful forces. The threat to established interests was captured in an editorial of unknown authorship, said to have been published in The London Times in 1865:

        “If that mischievous financial policy which had its origin in the North American Republic during the late war in that country, should become indurate down to a fixture, then that Government will furnish its own money without cost. It will pay off its debts and be without debt. It will become prosperous beyond precedent in the history of the civilized governments of the world. The brains and wealth of all countries will go to North America. That government must be destroyed or it will destroy every monarchy on the globe.”

        The institution that became established instead was the Federal Reserve, a privately-owned central bank given the power in 1913 to print Federal Reserve Notes (or dollar bills) and lend them to the government. The government has been submerged in debt that has grown exponentially since, until it is now an unrepayable $14 trillion.

        For nearly a century, Lincoln’s statue at the Lincoln Memorial has gazed out pensively across the reflecting pool toward the Federal Reserve building, as if pondering what the bankers had wrought since his death and how to remedy it.”
        Excerpted from, “Web of Debt” by Ellen H, Brown.

        The remedies lie not in foisting the burden of more taxes and privation on Americans because of slavish devotion to the bankers ploy, but rather to engage creative and tried methods of financing the commons. The coming onslought against Social Security and Medicare is driven by idealogues who give not one wit of care for the victims of their misguided and myopic approach to fiscal management.

        Who among the economists, not beholding to the Fed, would dare to support any of the alternatives mentioned above?

        There is only one state with a publicly owned bank….N. Dakota. And, it has a budget surplus, 25% return on equity, low unemployment and a collaborative lending environment with commercial banks.

        This microcosm is adequate proof that there is a better way to finance the commons.

        Dr. Ellen Brown presents the following argument for the fundamental reform in how we pay our public bills:

        THE QUICK FIX:
        A NON-INFLATIONARY SOLUTION TO THE
        FEDERAL DEBT CRISIS
        Ellen Brown, June 21st, 2007
        http://www.webofdebt.com/articles/federal-debt-crisis.php

        “The U.S. federal debt has reached crisis proportions, approaching $9 trillion in 2007. U.S. Comptroller General David M. Walker has warned that just the interest on the debt will soon be more than the taxpayers can afford to pay. He observed in 2003:

        We cannot simply grow our way out of [the national debt]. . . . The ultimate alternatives to definitive and timely action are not only unattractive, they are arguably infeasible. Specifically, raising taxes to levels far in excess of what the American people have ever supported before, cutting total spending by unthinkable amounts, or further mortgaging the future of our children and grandchildren to an extent that our economy, our competitive posture and the quality of life for Americans would be seriously threatened.1

        Nearly half the public portion of the federal debt is now owed to foreigners, and they are pulling out of dollars into other currencies as the dollar shrinks in value. Oil-producing countries are also moving to other currencies for their oil trades, removing a major incentive for foreign central banks to hold U.S. government bonds. In an April 2005 article in Counter Punch, Mike Whitney warned:

        This is much more serious than a simple decline in the value of the dollar. If the major oil producers convert from the dollar to the euro, the American economy will sink almost overnight. If oil is traded in euros then central banks around the world would be compelled to follow and America will be required to pay off its enormous $8 trillion debt. That, of course, would be doomsday for the American economy. . . . If there’s a quick fix, I have no idea what it might be.2

        Today, the “quick fix” of the Federal Reserve and its affiliated banks is to quietly buy back the bonds with money created with accounting entries on their books. This is not actually a new practice. The fact that banks buy government bonds with money created out of thin air was confirmed as far back as 1935, when Federal Reserve Chairman Marriner Eccles testified before the U.S. House Banking and Currency Committee:

        When the banks buy a billion dollars of Government bonds as they are offered . . . they actually create, by a bookkeeping entry, a billion dollars.3

        In 2005, however, this scheme evidently went into high gear, when China and Japan, the two largest purchasers of U.S. federal debt, cut back on their purchases of U.S. securities.

        Market “bears” had long warned that when foreign creditors quit rolling over their U.S. bonds, the U.S. economy would collapse. They were therefore predicting the worst; but somehow, no disaster resulted. The bonds were still getting sold. The question was, to whom? The Fed identified the buyers as a mysterious new U.S. creditor group called “Caribbean banks.” The financial press said they were offshore hedge funds. But Canadian analyst Rob Kirby, writing in March 2005, said that if they were hedge funds, they must have performed extremely poorly for their investors, raking in losses of 40 percent in January 2005 alone; and no such losses were reported by the hedge fund community. He wrote:

        The foregoing suggests that hedge funds categorically did not buy these securities. The explanations being offered up as plausible by officialdom and fed to us by the main stream financial press are not consistent with empirical facts or market observations. There are no wide spread or significant losses being reported by the hedge fund community from ill gotten losses in the Treasury market. . . . [W]ho else in the world has pockets that deep, to buy 23 billion bucks worth of securities in a single month? One might surmise that a printing press would be required to come up with that kind of cash on such short notice.4

        In September 2005, this bit of wizardry happened again, after Venezuela liquidated roughly $20 billion in U.S. Treasury securities following U.S. threats to that country. Again the anticipated response was a plunge in the dollar, and again no disaster ensued. Other buyers had stepped in to take up the slack, and chief among them were the mysterious “Caribbean banking centers.” Rob Kirby wrote:

        I wonder who really bought Venezuela’s 20 or so billion they “pitched.” Whoever it was, perhaps their last name ends with Snow [referring to then-Treasury Secretary John Snow] or Greenspan.5

        Those incidents were apparently just dress rehearsals for bigger things to come. In late 2005, the Federal Reserve (or “Fed”) announced that beginning in March 2006, it would no longer be publishing figures for M3 (the largest measure of the money supply). M3 has been the main staple of money supply measurement and transparent disclosure for the last half-century, the figure on which the world has relied in determining the soundness of the dollar. But the curtain was now to drop. What was it that we weren’t supposed to know? March 2006 was also the month Iran announced it would begin selling oil in Euros.

        Some observers suspected that the Fed was gearing up to use newly-printed dollars to buy back a flood of U.S. securities dumped by foreign central banks. Another possibility was that the Fed had already been engaging in massive dollar printing to conceal a major derivatives default and was hiding the evidence.6

        Whatever was going on, the question raised here is this: if the Fed can buy back the government’s bonds with a flood of newly-printed dollars, leaving the government in debt to the Fed and the banks, why can’t the government buy back the bonds with its own newly-printed dollars, debt-free?

        The inflation argument long used to block that solution simply won’t hold up anymore. To the contrary, it can be argued that for the government to buy back the bonds and take them out of circulation would actually avoid the dangerous inflation that is occurring now. When the Federal Reserve and commercial banks buy government bonds with money created out of thin air, they don’t void out the bonds. Two sets of securities – the bonds and the cash – are created where before there was only one.

        This inflationary duplication could be avoided by allowing the government to redeem the bonds itself and then removing them from the money supply.

        Swapping Government Bonds for Cash
        Would Not Drive Up Consumer Prices

        The idea that the government could liquidate the federal debt by simply printing up dollars and buying back its own bonds with them is dismissed out of hand by economists and politicians on the ground that it would produce rampant runaway inflation. But would it? Inflation results when the money supply increases faster than goods and services, and replacing government securities with cash would not change the size of the money supply.

        Federal securities are already money. They have been money ever since Alexander Hamilton made them the basis of the national money supply in the late eighteenth century. Converting federal securities into government-issued U.S. Notes would not cause prices to shoot up because consumers would have no more money to spend than they had before.

        A “security” is a type of transferable interest representing financial value. The federal securities composing the federal debt (bills, bonds and notes) are treated by the Federal Reserve and by the market itself just as if they were money. Federal securities are traded daily in enormous volume among banks and other financial institutions around the world just as if they were money.7

        If the government were to buy back its own bonds with cash, these instruments of financial value would merely be converted from interest-bearing notes into non-interest-bearing legal tender. The funds would move from M3 into M1 (cash and checks), but the total money supply would remain the same.

        Policy-makers track inflation by looking at the widest measure of the money supply, called “broad liquidity.” According to Investopedia (an online investors’ encyclopedia):

        Broad Liquidity [is] a category of the money supply which includes: all funds in M3, individual holdings in accounts, savings bonds, T-bills [Treasury bills] with maturity of less than one year, commercial papers, and banker’s acceptances.8

        “Broad liquidity” thus includes most government securities. Longer-term securities are not technically included in this definition, but the principle still holds: cashing them out would not affect consumer prices, because the money supply would not increase and the bondholders would have no more spending money than they had before. Consider this hypothetical:

        You have $20,000 that you want to save for a rainy day. You deposit the money in an account with your broker, who recommends putting $10,000 into the stock market and $10,000 into corporate bonds, and you agree. How much money do you have in the account? $20,000. A short time later, your broker notifies you that your bonds have been unexpectedly called, or turned into cash. You check your account on the Internet and see that where before it contained $10,000 in corporate bonds, it now contains $10,000 in cash. How much money do you have in the account? $20,000 (plus or minus some growth in interest and fluctuations in stock values).

        Paying off the bonds did not give you an additional $10,000, making you feel richer than before, prompting you to rush out to buy shoes or real estate you did not think you could afford before, increasing demand and driving up prices.

        Prelude to a Dangerous Stock Market Bubble?

        Even if cashing out the government’s bonds did not inflate consumer prices, wouldn’t it trigger dangerous inflation in the stock market, the bond market and the real estate market, the likely targets of the freed-up money? Let’s see . . . .

        In December 2005, the market value of all publicly traded companies in the United States was reported at $15.8 trillion. Assume that fully half the $8 trillion then invested in government securities got reinvested in the stock market. If the government’s securities were paid off gradually as they came due, new money would enter those markets only gradually, moderating any inflationary effects. But eventually, the level of stock market investment would have increased by 25 percent. Too much?

        Not really. The S&P 500 (a stock index tracking 500 companies in leading industries) actually tripled from 1995 to 2000, and no great disaster resulted. Much of that rise was due to the technology bubble, which later broke; but by 2006, the S&P had gained back most of its losses. High stock prices are actually good for investors, who make money across the board. Stocks are not household necessities that shoot out of reach for ordinary consumers when prices go up. The stock market is the casino of people with money to invest. Anyone with any amount of money can jump in at any time, at any level. If the market continues to go up, investors will make money on resale. Although this may look like a Ponzi scheme, it really isn’t as long as the stocks are bought with cash rather than debt.

        Like with the inflated values of prized works of art, stock prices would go up due to increased demand; and as long as the demand remained strong, the stocks would maintain their value. Stock market bubbles are bad only when they burst, and they burst because they have been artificially pumped up in a way that cannot be sustained.

        The market crash of 1929 resulted because investors were buying stock largely on credit, thinking the market would continue to go up and they could pay off the balance from profits. The stock market became a speculative pyramid scheme, in which most of the money invested in it did not really exist. The bubble burst when reserve requirements were raised, making money much harder to borrow. In the scenario considered here, the market would not be pumped up with borrowed money but would be infused with cold hard cash, the permanent money received by bondholders for their government bonds.

        The market would go up and stay up. At some point, investors would realize that their shares were overpriced relative to the company’s assets and would find something else to invest in; but that correction would be a normal one, not the sudden collapse of a bubble built on credit with no “real” money in it. There would still be the problem of speculative manipulation by big banks and hedge funds, but that problem too can be addressed. (See E. Brown, Web of Debt, Chapter 43.)

        As for the real estate market, cashing out the federal debt would probably have little effect on it. Foreign central banks don’t buy real estate, and neither do Social Security and other trust funds; and individual investors would not be likely to make the leap into real estate either, since cashing out their bonds would give them no more money than they had before. Their ability to buy a house would therefore not have changed. People generally hold short-term T-bills as a convenient way to “bank” money at a modest interest while keeping it liquid.

        They hold longer-term Treasury notes and bonds, on the other hand, for a safe and reliable income stream. Neither purpose would be served by jumping into real estate, which is a very illiquid investment that does not return profits until the property is sold. People wanting to keep their funds liquid would probably just move the cash into bank savings or checking accounts; while people wanting an income stream would move it into corporate bonds, certificates of deposit and the like. That just leaves the corporate bond market, which would hardly be hurt by an influx of new money either.

        Fresh young companies would have easier access to startup capital; promising inventions could be developed; new products would burst onto the market; jobs would be created; markets would be stimulated. New capital could only be good for productivity.

        When the Country Goes Bankrupt: A Logical Plan of Reorganization

        As foreign central banks reduce their reserves of U.S. securities, U.S. bonds will be coming back to U.S. shores whether we like it or not. The question for the U.S. government is simply who will take up the slack when the creditors quit rolling over U.S. debt. Again, when the Fed and commercial banks step in and buy U.S. securities with dollars created with bookkeeping entries, the result is highly inflationary. This result could be avoided by letting the government buy back its own bonds and taking them out of circulation.

        In 1933, Franklin Roosevelt pronounced the country officially bankrupt, exercised his special emergency powers and, with a wave of the royal Presidential fiat, ordered the promise to pay in gold removed from the dollar bill. The dollar was instantly transformed from a promise to pay in legal tender into legal tender itself. Seventy years later, Congress could again acknowledge that the country was officially bankrupt, propose a plan of reorganization, and turn its debts into “legal tender.” Alexander Hamilton showed two centuries ago that Congress could dispose of the federal debt by “monetizing” it, but Congress made the mistake of delegating that function to a private banking system. Congress needs to rectify its error and monetize the debt itself, by buying back its own bonds with newly-issued U.S. Notes.”

        Ellen H. Brown, “The Web of Debt.”

  4. Anonymous says:

    You guys who are willing to cut defense, most likely have never been in a ditch with bullets whizzing by intended for you! I start with the fact that a soldiers life is priceless and anything that can be done to save his life should be done. There are many dollars spend on welfare to support able bodied, healthy enough for the work force people! The nation cut defense prior to WWII and thousands died and suffer while the nation was trying to mobilize. After WWII the USA had a stampede to bring the soldiers home and the soviets continued to build. How much did that cost us. We fail to learn from history, don’t we?

  5. Anonymous says:

    Stop welfare payments to the able bodied. Have all Washington politicians and bureaucrats that spent the USA into this overwhelming debt forfeit their pay and benefits. Stop paying the UN and other countries. Stop wasteful spending. Cut the Presidents pay. Yea stop prelonging death in the elderly.