How do we get out of this?

If the U.S. and our government were a business, we would already have been declared insolvent. Here’s why:

On our 2009 P/L (profit & loss) statement, our annual Federal expenditures amounted to about $3.5 trillion, against revenues (tax receipts) of $2.1 trillion. If history is guide, the $1.4 trillion gap between revenues and outlays will increase rather than decrease in subsequent years. Mind you, this is only at the Federal level…we haven’t included state and municipal financials, which add more black crepe to an already dismal picture.

How much could government revenues be expected to increase in order to plug this gap? The traditional conservative approach has been to grow the economy, using incentives: more growth = more profits = more tax revenues. The traditional Liberal/Left approach has been to increase taxes: more taxes = more government spending = more economic growth (!?).

In my view, we have traveled to a point far, far beyond these arguments: neither approach suffices.

The U.S. Gross Domestic Product (GDP), or “gross sales revenues”, is approximately $15 trillion.
If the U.S. operated as a business, national disposable income (meaning, after-tax income, or “net income” on the P/L statement) approximates $10 trillion, according to Euromonitor.com [http://www.euromonitor.com/factfile.aspx?country=US].
This is the total money available to be recycled back into the economy by the private sector, either through direct purchases (income-stimulating reinvestments) or capital formation (savings and investments).
Now, to close the Federal revenue gap would in the most basic of terms require taking an additional $1.4 trillion (14%) -PLUS out of our national disposable income in the form of taxes. Why “plus”?
Because government isn’t efficient: any monies taken in by the Federal government are inevitably depleted as they cycle through various government agencies before they can reach their target.  Unlike electronic transfers between bank accounts, only a small fraction of tax receipts go to their intended target. The rest is lost through government overhead and waste (I repeat myself).Thus, it will take considerably more than $1.4 trillion in tax revenues to close a $1.4 trillion budget gap.
In response to the obvious question this raises: yes, we could borrow this, but all borrowing does is defer payment of this sum at a stiff price (i.e., interest).
Eventually, payments must come from disposable income.
Let’s consider the national balance sheet:

A first-rate article by Kevin Williamson in the National Review (June 21, 2010) catalogued our country’s debt obligations as follows:

1) National Debt – $14 trillion (Williamson argues that this is vastly understated due to “funny money” accounting by the government)

2) State and Local Debt – $2.5 trillion (which the Feds will ultimately absorb). According to some, we already face massive impending municipal bond failures.

3) Unfunded government worker pension funds (federal, state and local) – $3.0 trillion. In large part, these are “unfunded” because governments expropriated their assets by borrowed against them, my corrupted state of Illinois being a prime culprit. Directly or indirectly, this cost will eventually be absorbed by all taxpayers.

4) Unfunded liabilities for all of our nation’s “we care about you but want someone else to pay for it” programs  (i.e., Medi/Obamacare, “Pharmacare”, Medicaid and Social Security) – $106 trillion (using Present Value). According to Williamson, this is more-than twice the total private net worth of the U.S. Even if we all individually sold-off all of our belongings (assets), we still couldn’t cover these obligations.

So, in sum, we have a “business” (USA Inc.) with negative-$1.4 trillion in net revenues and a balance sheet debt of $125.5 trillion. Williamson adds in a few more odds and ends to round-up the value to $130 trillion. And we haven’t even touched corporate and consumer debt.
Hmmm…how about some perspective?
According to a McKinsey & Co. report, world financial assets in 2008 (prior to two subsequent years of asset deflation) totalled $178 trillion. http://www.mckinsey.com/mgi/publications/gcm_sixth_annual_report/executive_summary.asp

I’ve looked long and hard for this number because it is admittedly “fuzzy math”, but the best estimate that I could come up for the total estimated tangible asset (book) value of the United States economy is $188 trillion. These are, for the most part, non-liquid assets…they cannot be simply sold off for cash-in-hand.

Source: http://rutledgecapital.com/2009/05/24/total-assets-of-the-us-economy-188-trillion-134xgdp/

In sum, USA, Inc. long ago exceeded its debt capacity.

As a bond holder of USA, Inc., would your next step be to:

a) invest in USA, Inc.

b) ask for a bankruptcy court to reorganize the corporation and restructure its debt obligations

c) liquidate and auction off its assets to cover its debt obligations to bond holders?

Ergo my conclusion: we are insolvent! There is no way that we will ever find the money to pay off these obligations. It just doesn’t exist, not within the U.S and not in the world economy. I anticipate option (b) — reorganization of debt. Of course, in this scenario, the shareholders (citizens, taxpayers) get left with crumbs (or “haircuts”, in financial parlance).

According to Democrat thinking processes, we should raise taxes. However, even doubling our total Federal, state and local tax receipts wouldn’t cover our income shortfall and debt service obligations, especially in the face of rising interest rates. Moreover, this  would crush the economy, ergo our ability to generate future tax revenues. It would kill the golden goose. In the meantime, the solution appears to be…print huge sums of money and get us into even more debt.

http://www.youtube.com/watch?v=PTUY16CkS-k

Looking at the Republican approach, growing the economy by lowering tax rates buys time, but I don’t see how we could possibly grow the economy enough to dig us out of this hole…or is my imagination too limited? Brazil’s economy grew about 10% last year, but then their starting base was much lower. Maybe Rep. Paul Ryan sees it differently.

Which leads me to the inescapable conclusion: the large majority of us will end up absorbing significant haircuts to our asset holdings as part of our inevitable national  and economic debt restructuring. My vote for the most likely targets of restructuring are: a) public employee pension funds; b) social security and Obamacare benefits; c) bond holders, via a national default a-la-Argentina…all inclusive. Bernanke’s QE2 movement  signals that massive inflation is already in the works.

Each of these steps spells disaster. In my view, it’s not a question of “if” but “when”.

So, as we begin this New Year, what are your ideas as to how we can climb out of this hole?

Do we invest Rep. Paul Ryan (R., Wis.) with dictatorial powers in order to implement his road map? Is that enough? (note: this is tongue-in-cheek, for those of you that don’t know me).

What do you think will happen if public employee pension fund obligations are shaved to 25% or less of current obligations? Do we become another UK, France or Greece and descend into anarchy? How do we prevent this from happening?

Many of us Bookworm Room aficionados, from comments gathered over the years, are either in retirement or seriously planning retirement….how will we / should we and others of our generation react to massive cuts in Social Security and ObamaCare? I note that some 25-30% of adults approaching retirement age have supposedly accrued virtually no retirement savings and individual net worth is likely to continue to decline in tandem with housing values. Plus, leading members of the Democrat regime have already made it known that it would like to strip me and thee of any anticipated inheritance incomes. What is to happen to them (us)?

What happens if the U.S. defaults on its bond obligations?

Or, am I all wet in my analysis? Although I do boast a corporate-finance-related degree, I do not pretend to be anything other than a hobby economist. Please, oh please, convince me that I am totally wrong in my analysis.

For balance, I do not think the prognosis is all doom and gloom, although I believe that we are in for a very rough ride. Our country faced similar difficulties early in our history and we got through them. I think the party is over, but I also think we have the wherewithal to climb out of the mess all of us have created, even if we cannot yet discern the way out. I am trying to understand how best to weather the storm.

Either way, please share your thoughts.

Forewarned is forearmed.

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Comments

  1. Spartacus says

    Danny, I would love to see a debate between you and VDH.  He makes excellent points on the generalities, but the numbers you cite are “stubborn things.”
     
    Being in a relatively good mood and determined to stay that way, I will point out that most of the things the USG does are 1) not core functions, and 2) not even authorized by the Constitution.  Implementing the recommendations of a serious, hard-nosed performance audit would solve our problems quite quickly.  Politics stand in the way, but if they didn’t, where would be the challenge?  ;)

  2. jj says

    It’s good you ended on a semi-optimistic note, but the reality is that we most likely don’t get out of this one.  We have never faced anything remotely like this in our history – no country has ever owed more than the entire planet can produce in a year.  “Haircut,” I’m afraid, doesn’t begin to describe it.
     
    The gross domestic product of the entire world is about $61 trillion – federal obligations currently are around $125 trillion.  (Yes, all those unfunded liabilities of the states, and the states themselves, will become federal obligations – hell, we just bailed out General Motors for the purpose of protecting the UAW membership, and keeping them voting democrat.  We aren’t likely to let California go, are we?)  We find ourselves in an interesting position – and it is evident that we don’t have (a) anything resembling real knowledge about it, or any ability to figure it out for ourselves – thanks, teacher’s unions!, and (b) any impetus to do anything about it, as witness the re-elections of such offal is Reid, Pelosi, Boxer, blah, blah, blah – Jesus, I bore even myself recounting the continued success of this trash.  People who have earned being tied to a stake and shot, we in this country just reward, and reward, and reward, because they whore to the least of us and give them other people’s money, time after time, and that seems to be all it takes to buy their votes.
     
    So I give up on the American people.  We are the goddam Morons of the Known Universe – and maybe even the unknown.  There have been those – including me – who have bitched about having term limits imposed on these bastards, but you know, the founders didn’t do that because there are elections every two years.  They thought that would be good enough for house-cleaning when needed, a revolution every two years ought to be sufficient, right?  I guess events have shown they reposed entirely too much faith in future generations, didn’t they?  In our elections the recidivism rate is generally right around 90%.  So, you know: if you’re so hopelessly stupid that you vote to elect and re-elect these people, America, well – it’s been a nice ride, and I’m old enough to have enjoyed it at its best.  Now I’m afraid we just need to recognize that it’s over.  Those few of us capable of recognizing anything at all, that is.
     
    Even a revolution tomorrow afternoon at 3 PM isn’t going to pay the bills this time, because there literally isn’t enough money on the planet to pay the bills.  All we can do is try to service the debt, so we end by owing more, every year.  More than the whole planet can produce in a year – think about that!  We have faced difficulties before, yes – but that’s never happened.  That’s never come close to happening!  We are the inter-galactic Titanic, and right over there, there’s the iceberg!  It’s requiring billions of dollars a day – a day – from people who are probably not our friends to keep this gigantic Ponzi scheme called the USA afloat.
     
    Your analysis is correct: we are a walking corpse, financially.  Boehner is talking about cutting $100 billion from this debt – and already the media and the democrats are screaming about it.  $100 billion.  That’s a tenth of a trillion.  We owe $125 trillion.  So he’s talking about cutting something less than a penny from each dollar – and they’re already screaming.  What chance do you think he has, even supposing he actually means it?  (And, given the numbers involved, what difference would it make if he did?)
     
    It’s tough to be cheery about it – sorry.

  3. colorless.blue.ideas says

    Thanks for your post.  I’ve only a minute, but a quick skim noted two things in your analysis which are major assumptions.
    First, that the annual deficit will necessarily continue.  That need not be the case.  Had the Federal government maintained the same expenditures as in 2003, we would basically have zero deficit this year.  That shows roughtly the level of “cut back on expenditures” required to stop sinking deeper.  While never painless, I think that it would be (theoretically) possible to reduce expenditures to that level over the next seven years.  Meanwhile, as a result in part of that, the economy is likely to grow, generating additional revenue.
    Second, there appears to be a confusion in camparisons of debt obligations — payable over decades of time — vs. annual revenue and GNP.  Most people with mortgages start out having a debt which grossly exceeds their annual income.  But . . . it’s amortized over 30 years.  The unfunded obligations are current, no doubt, but the amortization time is decades.  That shows it is not insoluble, if efforts are made to begin a net reduction of the obligations.  (That involves not only borrowing, but also things like future Social Security and Medicare payments.)
    So, while I agree that the situation is dire, I don’t think it totally hopeless.  Whether or not the political will and “shmartz” exist to deal with the problem remains the largest unknown.

  4. says

    One thing that makes this kind of analysis difficult is the weird nature of government accounting. Say the government borrows $100 billion and immediately lends that $100 billion to some group of banks. Most likely, it will get at least SOME of that $100B back; ie, there is an asset created which offsets, wholly or in part, the liability. In a normal business balance sheet and income statement, the $100B sent to the banks would not show up as an “expense” but rather an investment, and to the extent that it became evident that part of it would not be repaid, a writedown expense would be applied against the bank-loan asset. It’s very, very difficult to figure out what the offsetting assets are in the case of the government.
     
    Also, all debt is not equal. In the corporate world, if GE borrows money and invests it spiffying up the locomotive plant in Erie, then (assuming that the improvements make economic sense and that the debt load is not extreme) then that is a GOOD thing. But if the company borrows the same amount of money and spends it on gold-plating the faucets in the HQ facility and putting expensive oriental carpets in all the hallways, then from an investor standpoint that is a BAD thing.
     
    I think many of the purposes for which government debt was incurred in the past were in the first category–the Interstate Highway System, the improvements to inland waterway navigation, the original GI Bill, etc…..but that today, most of the debt is funding activities of the second type.

  5. Spartacus says

    jj — In your assertion that “We are the… Morons of the Known Universe,” I think you are painting with a bit of a broad brush.  It is certainly true that collectively, our response to our mounting debt has been about as coherent as a sack full of pepper-sprayed cats with their tails tied together.  But 30% of the electorate is right over 95% of the time.  A different 30% is wrong over 95% of the time.  The other 40% mumble confusedly about various things like “bipartisanship” and “not getting tied to one extreme or the other,” to the extent that they can be pried away from Dancing with the Stars.
     
    The Pilgrims and Puritans succeeded in finding religious liberty, but only after they became their own new majority by leaving the old majority behind.
    The Founding Fathers succeeded in establishing political liberty, but only after dissolving the political bonds which had connected them with another.
    Lewis and Clark are hailed for the extraordinary job they did in holding their little band together and covering thousands of miles of untamed territory, but only after they sent back half of their men early on with specimens of newly discovered species — a high-priority scientific task for which only the heartiest men were undoubtedly chosen.
    Sherman took his Army of the West on an amazing campaign through the very heart of the Confedracy, blazing a disciplined trail of fear and destruction at breakneck speed, but only after having his officers hand-pick about half of the men to go on campaign, and half to “guard Atlanta.”
     
    Without the blue stains we have here and there, America is a wonderfully red country, capable of solving any problem that is soluble by any nation.  But in all seriousness, we may once more be required to go our own way, and wish our wayward neighbors well.  Those who wish to sidle up to the socialist smorgasbord and heap on three servings of everything, let them do so, but let’s ask the waitress for separate checks.

  6. SADIE says

    In my view, it’s not a question of “if” but “when”.
     
    Spit, spew and rant all the numbers up to a trillion and short of handing out those Zimbabwe $100 Trillion dollar notes to buy a loaf of bread, few. very few can grasp at the enormity of the debt and particularly those that have spent us into debt.
     
    Lesson plans has to be kept simple for the simpletons. Ask anyone to save a penny and double the amount daily for a month   …. and they still won’t catch on until the third week when they realize they’ve don’t have enough dollars and certainly didn’t have enough sense to figure it out after a few days. I’ve heard of dirt poor, but dirt dumb …sheesh! I am with jj and I do not like ships (mal de mer) and as long as we have crappy captains hellbent on grounding us the Zimbabwe $100 Trillion notes will start to look good.

  7. jj says

    The problem is, Spartacus – whom among our neighbors has been more “wayward” than us?  In fact, whom among our neighbors has been as “wayward” as us?  None of them ever had the opportunity to piss away the position we did – they were never in it.  We aren’t going to have the chance to go our own way: somebody else owns our shoes.

  8. Mike Devx says

    jj, I’m not *quite* as pessimistic about Americans as you are…
     
    But yes.
     
    When even half (ok, 53%, in the most recent Presidential Election)… when even half of your neighbors on your block are guzzling whiskey at the wheel, and drag racing each other down your block, at all hours of the day and night…  it’s time to keep your kids out of the street, and maybe even off the front lawn and sidewalk.
     
    God bless and good luck finding that safe oasis within which you and your loved ones can live life free of threat from the irresponsible and freeloading.
     

  9. Danny Lemieux says

    Thanks for all your comments, everyone. I had a discussion about this with my BIL, a very noted finance economist. He pointed out that there are two forms of bankruptcy, one cash-flow based and the other asset-based.
     
    The government can always deal with the cash-flow insolvency by printing money (which is what he indicated Q E-2 is all about). This devalues all of our defined benefit obligations, such as social security and government pension obligations, in real terms. However, the asset-based insolvency (whereby the government lacks the asset base to cover its debt obligations) provided an interesting twist. He pointed out that he did not think that anybody had tried to put an asset value on the government.
     
    However, we noted that the government has huge holdings of public lands together with water, mineral, grazing and lumber rights to the lands. Ergo, the government could always do a massive sell-off of its land holdings in order to pay off its debt and long-term liability obligations (whether this would be enough is still to be determined).
     
    Wouldn’t that set off the battle royal with the Progressive /Environmentalist movement? Heh!

  10. SADIE says

    Danny, thanks for sharing the update with your BIL.  Interesting, the government, isn’t that WE, the People, have no voice as to how the resources you listed are determined.
     
    Today’s News:
    The World Bank is issuing its first bonds denominated in China’s yuan in Hong Kong, joining a growing number of borrowers tapping the new debt market as Beijing gradually promotes its tightly controlled currency abroad.
     
    This is not a good sign.
     

  11. Tonestaple says

    I’m terribly concerned about the state we are in and I admit near-total ignorance of international finance, but here’s what disturbs me about Sadie’s news.  I do believe that people have forgotten one truth that is absolutely dependable:  Commies lie.  Whatever China may say about its currency or its economic conditions is intended solely to benefit China and anyone who takes China at its word deserves whatever they get.

  12. Danny Lemieux says

    I agree, Tonestaple.
     
    A lot of people that rushed to invest in the “new” Russia got burned very badly when they discovered that what was new was old. Same with China…China  has its own ticking economic time bombs and I suspect that many Western investors in the “new” China will also get burned. China, in the end, is all about and only about China.

  13. SADIE says

    I admit near-total ignorance of international finance

    Tonestaple, do you actually think anybody understands it. If they did, would the economic crisis that exists here and in the EU would have knocked our socks off and would China be holding our dollars. I hope the ‘pros’ are clueless. If they’re not and they knowingly … (((shudder))) let’s not go there right now.
     
    I read a little about the World Bank and  the IMF (a loose affiliate of the UN and another bad sign). Me, I am thoroughly confused, because these banks make ‘social justice’ decisions (gag. gag. and more gagging). The current head honcho, is a GWB appointee. I really can’t stand the term ‘emerging’. How long is the ‘emergence’ process? 10 years? 50? Forever?
     
    Zoellick announced in October, 2007 that his priorities for the World Bank included increasing efforts to reduce poverty in the world’s poorest countries, increasing support for neglected Arab countries, increasing support for countries emerging from violent conflicts, addressing poverty in “emerging” economies like India and China, increasing emphasis on environmental issues (especially global warming), and improving access to treatments for HIV and malaria.

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