Pat Allen: The View from Right Field

The Coming Crisis – And Almost Nobody Is Paying Attention

There was a fascinating article in The Wall Street Journal several weeks ago.*  Lawrence Goodman wrote about a recently released Federal Reserve report that showed who was buying the bonds and notes the US Treasury was issuing in 2011; i.e., who was lending money to the U.S. government so it could pay its bills.  Throughout most of the 2000s it was mainly foreign buyers who were lending to the Treasury, with the private sector and the Federal Reserve loaning small amounts (less than 0.5% of GDP in the case of the Fed).

When the financial crisis hit in 2008, foreign government lending to the US went up initially, as did private purchases of Treasury bonds and notes.  But in the middle of 2010 private purchases dropped like a rock.  Foreign financing of the deficit didn’t fall as much, but it decreased, too.  Foreign net purchases of Treasury securities, as a percentage of GDP, went from over 5.5% of GDP in early 2010 to 2% of GDP at the end of the 2011.

So who is funding our deficit if it isn’t foreign countries and it’s not the private sector?  It’s the Federal Reserve.  In 2011 the Federal Reserve purchased 61% of the total net issuance of debt by the U.S. Treasury.  In other words, our deficit is being financed, and paid for, by the Federal Reserve’s printing presses.  Foreign countries no longer want to lend to the U.S.  The private sector in the United States (banks, mutual funds, individuals, etc.) no longer wants to lend to the federal government.  So we are paying our bills (or, more appropriately, 61% of the bills that we have to borrow money to pay) by printing money.

Now it could be that, if interest rates go up, the private sector would buy more Treasury bonds and notes; i.e., lend more money to the federal government.  That seems likely.  Of course, higher interest rates will increase the deficit, but that is still better than just printing money.

But what about foreign buyers?  Are they staying away because of low interest rates – or because they do not want to lend us more money; i.e., because they are worried lending too much money to any one country.  If they are staying away because of low interest rates, then if rates go up, they’ll return.  On the other hand, if interest rates go up and foreign buyers don’t come back, then the Fed’s printing presses will have to continue turning out money so we can pay our bills.

The problem with economic crises is that you never know when they are going to come.  Well, that is not exactly correct.  Sometimes you can tell that a crisis will come if trends continue and people don’t start turning things around.  But you don’t know exactly when the crisis will hit – because you don’t know what will finally set it off.  In the fall of 2008, people knew that the economic system was shaky.  But did anybody realize what was going to happen when Lehman Brothers went bankrupt?  Obviously not or we wouldn’t have let Lehman Brothers go bankrupt.  If we had known what was going to happen, we would saved Lehman and immediately instituted a whole series of reforms.  But we didn’t know, so we waited, and we got slammed.

Our current situation with how we are financing our deficit seems to me to be a pre-Lehman Brothers situation.  It has been amazing how long we have been able to finance our federal deficit at such low rates.  But now, with foreign purchasers buying so much less of our debt, and the private sector buying less, too, how long can the Fed print money to finance the deficit – at least without a major surge of inflation?

At some point the United States is going to find that it can no longer finance hundreds of billions of dollars of debt at interest rates just a little above zero.  Either interest rates will go up in order to attract enough private and foreign lenders to lend us the money to pay our bills.  Or all the money the Fed is printing will spark some serious inflation, which will result in interest rates going up.

Once interest rates start going up, the deficit will get even bigger because of higher interest costs.**  And if that spooks lenders, what then?  Will we become Greece, where lenders just won’t lend and other countries get to tell them how to run their country?  Probably not – because we can print our own money.  But what happens if we have to continue using our printing presses to pay our bills?  I don’t think anybody knows for sure – but it can’t be good.  And that’s scary.

But the thing that scares me even more than that is how few people in Washington seem to be scared.  I don’t know how many of them realize how precarious things really are.  Representative Paul Ryan (R-WI), chairman of the House budget committee, gets it, and he is trying to design a budget and programs to start us down the road of dealing with it.  His plan isn’t perfect, but at least he’s trying.

Democrats (including President Obama) merely talk about higher tax rates on the rich and use Medicare scare tactics against the Republicans.  They like to claim that their proposals will cut the deficit more than Representative Ryan’s plan does for the next ten years.  What they don’t like to talk about is what projections of their proposals show after ten years:  A deficit and debt explosion.***

On the Republican side, there is Paul Ryan’s plan, which is a step in the right direction.  Unfortunately, too many other Republicans focus just on cutting taxes without explaining how they are going to pay our bills.  There is a solution: broadening the tax base (i.e., getting rid of a lot of the deductions and credits, many of them mere tax-breaks for special interest groups), which could increase tax revenues while allowing for some reductions in tax rates, but not enough Republicans are supporting it.****

The key thing is this:  If we don’t at least start doing something about this situation now, the crisis is going to come.  We just don’t know when it’s going to come or what will finally cause it.  But it will come.  And it could make the crisis after the Lehman Brothers bankruptcy look like the proverbial Sunday School picnic.

---------
* Lawrence Goodman, “Demand for U.S. Debt Is Not Limitless,” The Wall Street Journal, March 28, 2012.

** At least some of those saying we do not need to worry about the deficit, point to the low interest rates that the U.S. government is borrowing at to show there is no problem.  The only trouble with that reasoning is that it is true until, all of a sudden, it’s not true.  And that is the point I am making.  If things continue as they are, when the crisis comes, it will seem sudden and surprising, except in retrospect, where it will be obvious and not surprising in the least.

*** I have previously linked to this exchange between Treasury Secretary Geithner and Representative Ryan.  When Secretary Geithner talks about the “budget window,” he is talking about ten years.  But as for the long run, according to Secretary Geithner, the Administration doesn’t have a plan of its own.  It just knows it doesn’t like Representative Ryan’s plan.  In Secretary Geithner’s own words:  “We're not coming before you to say we have a definitive solution to our long-term problem. What we do know is we don't like yours.”

**** This was the proposal of President Obama’s National Commission on Fiscal Responsibility and Reform (the Simpson-Bowles Commission).  If you remember, during the 2010 campaign, when the question of the deficit, etc., came up, President Obama would say that he had appointed a commission and he was waiting for them to report.  They reported, after the election, according to the schedule he set, and he ignored their recommendations.  But it didn’t matter.  They had fulfilled their purpose: giving the President an excuse to not present a plan to deal with the deficit during the election campaign.

Paul Ryan’s Budget Plan – Such As It Is*

Last week Paul Ryan (R-WI), Chairman of the House Budget Committee, presented his proposed budget plan for fiscal year 2013, which starts October 1, 2012, and people in both parties are happy.  Republicans (or at least some of them) are happy because it gives them something to stand on, a program to get the budget under control and get/keep taxes down.

Lots of Democrats are happy too, perhaps even happier than some Republicans.  Of course, the Democrats aren’t happy because they think Representative Ryan’s plan is good one and they can to support it.  Rather, the Democrats like it because they think they will be able to use it against the Republicans in the fall (politics über alles, after all).**

I haven’t read enough about Representative Ryan’s plan to know all of the details.  I have a couple of concerns, and there are several things I really like.  First, the concerns.  I wish Representative Ryan, and other House Republicans, were not trying to set the cap for discretionary spending for fiscal year 2013 below the number that was agreed to last August.  The deal last August set a cap of $1.047 trillion for discretionary spending for fiscal year 2013.  Representative Ryan’s budget drops that number by $19 billion to $1.028 trillion.  Democrats call this a breach of faith, while the Republicans say the $1.047 trillion figure was a just maximum, not an agreed-upon number.  I’m not sure who is right, but I wonder if a fight over $19 billion, especially this way, is something we want to be doing in the middle of the presidential election this fall.

Also, I wish Representative Ryan could have been a little more specific on how he is going to get the necessary tax revenues to start cutting the deficit, especially with his proposed reductions in tax rates.  (The deficit is so big that cutting spending isn’t going to do the job by itself.  We need to increase tax collections, too.)  Representative Ryan said that that isn’t the job of the Budget Committee, and he is right.  Still it would be nice to see more specifics.  But then maybe identifying the necessary changes (i.e., the deductions we would have to get rid of, etc.) would just give Democrats political issues (remember, politics über alles) without accomplishing much of anything.

But there are good things in Representative Ryan’s budget.  First, even though there aren’t a lot of specifics, I like Representative Ryan’s idea of lowering rates and broadening the base for taxes.  That is the way we have to go.  It’s also what was suggested by President Obama’s own debt commission after the election in 2010.  As I said on Sunday, raising taxes rates on the rich, which is President Obama’s idea, isn’t going to work (because it won’t raise enough money), and it’s not a plan for the future.  Representative Ryan’s plan may be missing some detail, but he has the right idea, and his plan heads us in the right direction.

I also like Representative Ryan’s suggestions for Medicare.  The current system is not sustainable.  It can’t continue as it has.  There isn’t enough money.  President Obama’s plan is, apparently, to keep costs down by government rules and government experts.  While I won’t use the name, the Obama plan will have government experts and government committees telling us what treatments are okay and what drugs can be used (or at least paid for) based on their relative effectiveness (and their costs).  If your condition doesn’t respond to the “best” treatment (in the eyes of government experts), that will be unfortunate (for you), but at least costs will be controlled – in theory.

Most importantly, I like the fact that Representative Ryan is trying to restore the automatic cuts that are supposed to be made in defense spending cuts because the “supercommittee” failed to come up with a solution last fall.  I realize that Democrats will say that this, too, is breaking faith with the compromise reached last summer.  Maybe it is.  I don’t care.  As I have said before, we can afford the defense budget we need to protect ourselves and our interests.  Defense comes first.  The Constitution talks about “provid[ing] for the common defense,” not providing for solar subsidies or providing for federal aid to elementary education.  If the compromise made last summer doesn’t provide enough money for defense, then it needs to be changed.

Representative Ryan’s plan is not perfect.  But in the most important way, it is better than President Obama’s.  If you can’t all the way, at least go in the right direction.  Representative Ryan’s plan does that.  President Obama’s does not. 

------------
* I am using the same title I did on Sunday for my post on President Obama’s economic and budget plan.  Trying to be even-handed.

** The Democratic view of the politics of the budgeting process can be seen in this quote from an article in The New York Times a couple of weeks ago:

“Democrats say that if the House and Senate stick to that number [i.e., $1.047 trillion in discretionary spending – see the third paragraph of this post], Congress could devote much of its energy to working on a long-term deficit reduction plan that would be ready for a vote shortly after the November election.”

In other words, the Democrats aren’t interested in making any hard decisions or taking any positions that might be unpopular before the election.  If Paul Ryan wants to do that, they’ll take advantage of the situation to score political points.  But they’re not going to do it themselves.  It reminds you of what President Obama said to Russian President Medvedev yesterday: “After my election I have more flexibility.”

President Obama’s Economic and Budget Plan – Such As It Is

To the extent that President Obama has an economic plan, it is to spend more money and raise tax rates on the rich, which has basically been his preferred plan since he took office. (To the extent that I once wondered whether Barack Obama was “Very Liberal or Just a Moderate Democrat for Change,” I now know. He’s very liberal. And to the extent he hasn’t been very liberal, it has been because Congress wouldn’t go along or he was worried about getting re-elected.)

In any case, back to the President’s economic plan, especially the part about raising tax rates on the rich. There are two reasons to raise tax rates on the rich. One is to raise more tax revenue. The other is that it feels fairer to make the rich pay a higher tax rate even if the government doesn’t wind up collecting more money in taxes. I realize the latter seems a little bizarre, but in 2008 Barack Obama did say that “fairness” was a reason for raising the tax rate on capital gains even if the increase did not collect more tax revenue. (See the 18th paragraph of this post.)

But even the first reason, raising tax rates to raise tax revenue, won’t work in the range President Obama is talking about. In England the Conservative-Liberal Democrat coalition is lowering the top rate on the income tax from 50% to 45%. Why? This excerpt from an article in this week’s Economist, entitled: “The 50% tax rate: Falling flat: Why the higher rate of income tax yielded so little,” explains:

“‘No Chancellor can justify a tax rate that damages our economy and raises next to nothing,’ said George Osborne as he announced the passing of the 50% higher rate of personal tax. His assertion that the tax reaped little revenue was founded on analysis by tax-office wonks, published alongside the budget. The study is based on a single year’s tax returns, but is nonetheless compelling.

It shows that the combined incomes of the taxpayers liable to pay the 50% rate (ie, those with earnings above £150,000, or $238,000) fell by a quarter, from £116 billion to £87 billion, in 2010-11, the first year in which the tax applied. This sharp drop means either that the well-paid did a lot less work in Britain or that they shielded their income from the higher tax rate. A closer look suggests the latter. The tax wonks find that up to £18 billion of income was brought forward to the previous tax year to avoid the top rate. …

The Treasury’s estimate of a £100m revenue loss from cutting the top rate of tax to 45% is based in part on the analysis of 2009-10 tax receipts. The results suggest that the tax take from incomes over £150,000 is little different whether you set the tax rate at 45% or 50%. Setting the rate much higher than 45% is pointless; beyond 50% it is self-defeating.”

President Obama can raise tax rates as much as he wants (if he gets enough Democrats in Congress to vote for it), but he won’t get the tax revenue he expects because the people will rearrange things so as little as possible of their income is subject to the new, higher tax rate. I don’t know if he doesn’t understand this or can’t understand it (because it is so contrary to the liberal Democratic/progressive belief system), but if you raise tax rates, people will do their best to figure out how to avoid the higher taxes. It’s not just the rich (anybody can buy on Amazon to avoid sales taxes or buy their cigarettes in a neighboring state with lower tobacco taxes), but the rich have more at stake – and more money to pay accountants and tax lawyers to help them figure out how to do it.

So what is President Obama going to do if he is re-elected and the tax revenues from his increased tax rates on the rich don’t raise enough money for all the spending he wants to do? He can spend less, continue to borrow trillions, or raise taxes on the middle class. My guess is that he’ll start with number two. But he will only be able to do that as long as the world is willing to lend to us, at which point we will be forced to do both one and three. Because number two can’t go on forever. We just don’t know when it will end.

----------
* Before you say that either one of those rates is a lot higher than the top rate in the United States, consider that President Obama wants to raise the top income tax rate to 39.6%, as well as add other, extra taxes on the rich. Plus add in state income taxes, which are 10% or more in some states, and you’re right up there.

President Obama’s Budget: “It’s Not How Much You Cut the Deficit; It’s How Much You Increase the Debt”

President Obama is talking about how much his budget plan will, through increased taxes and supposed savings in federal spending, reduce the deficits in the next few years.  But his claims miss the real point. 

Even with the U.S. out of Iraq and leaving Afghanistan, and assuming the Bush tax cuts are allowed to expire for the “rich,” the three things which Democrats have said were the main cause for the huge deficits since President Obama took office, the Obama budget plan for the next ten years would increase the national debt from $15.3 trillion to $25.9 trillion.

In other words:  It’s not how much you cut the deficit; it’s how much you increase the debt.

Tim Geithner to Paul Ryan: We Don’t Have a Plan. “What We Do Know Is We Don’t Like Yours.”

The whole exchange is here, but to sum it up, Treasury Secretary Geithner makes it very clear that the Obama budget plan only stabilizes the budget deficit for the next ten years (assuming everything goes according to plan, which it often doesn’t*).  After that, the deficit and the debt takes off like crazy, and Secretary Geithner, in speaking to Budget Committee chairman Paul Ryan, admits that the Obama administration does not have a plan for dealing with it:

“We're not coming before you to say we have a definitive solution to our long-term problem. What we do know is we don't like yours.”

--------
* And it “stabilizes” the deficit at too high a level, in my opinion.

President Obama Wants to Cut American Jobs - In the Army

Last year President Obama was pushing his American Jobs Act that he said would create or protect hundreds of thousands of jobs.  In 2009 his $800 billion stimulus plan was supposed to create or save millions of jobs.  President Obama is always talking about jobs – and criticizing Republicans for not caring about them.

So why is President Obama proposing to cut 100,000 government jobs and thousands of more jobs at government contractors?  Because that is what he proposed yesterday when he went to the Pentagon to outline his plans to cut Defense Department spending way beyond what has already been agreed with Congress and way beyond what then-Defense Secretary Gates proposed last year.

President Obama is proposing to cut the Army by 80,000 men and women and the Marine Corps by 20,000.  And cuts in Defense procurement will result in thousands more of job losses. 

President Obama and his administration say that we have to cut defense spending because we can’t afford it.  But he is proposing billions in subsidies for companies like Solyndra and other “green energy” initiatives.  How many jobs did Solyndra create (other than for bankruptcy lawyers)?  He also wants to spend billions for high speed rail, like between Bakersfield, California and Merced, California.*  But soldiers we can’t afford.

This actually fits in with the stimulus plan that Nancy Pelosi and the House Democrats wrote for President in 2009.  They spent hundreds of billions of dollars looking to create jobs.  They spent money for all kinds of things – except for the one thing where they could have ramped up spending quickly and gotten people hired: defense.  What with the wars in Iraq and Afghanistan, our stores of certain weapons were down.  We needed to build up inventories.  It would have been good to do it, and we could have done it – and we would have created jobs in doing so.  But the Democrats didn’t give any of that stimulus money to the Defense Department.

And now President, who claims we need to spend more money for jobs for Americans, is cutting the Army and the Marines because we can’t afford defense – even though we can afford Solyndra and high speed rail from Bakersfield to Merced.

--------
* "Solyndra on Rails," The Wall Street Journal, January 5, 2012.

Update (1/6/12 5:05 pm): Corrected a typo in the fourth paragraph.

Is Illinois Like Greece – Or Worse?

In a recent article in The Washington Post, Matt Miller, in the process of trying to explain what is happening in Europe – and why – said this:

"Politicians in places like Greece found they could stay in office by giving people public-sector jobs or by letting workers retire at 50 with hefty pensions, while not collecting enough taxes to pay for this. They spent lots more than they took in, borrowed the rest and lied about it. Government debt went through the roof without anyone knowing."

As I read this, I said to myself:  That’s Illinois!  With one exception:  It was pretty obvious what the politicians were doing in Springfield, and we re-elected them anyway.  Including Rod Blagojevich in 2006.  So we really only have ourselves to blame.  Which is actually even worse.

The Cost of Deficits – Part 2

Ten days I wrote a post worrying about a call by French President Nicolas Sarkozy for China to support the European Financial Stability Facility.  A couple of days ago, there as an even scarier story on Reuters.  Here is an excerpt:

“Without directly referring to the euro zone's bailout fund [i.e., the European Financial Stability Fund], [Russian] Foreign Minister Sergei Lavrov made it clear that Russia would not be willing to lend directly to it, preferring to channel any support through the IMF.

Lavrov added that this was the joint position of the so-called BRICS* caucus of emerging markets nations that have accumulated trillions of dollars in foreign reserves to insure against external shocks.

‘Our countries are ready to take part in joint efforts, including the provision of credits, under those rules and channels that exist in the International Monetary Fund,’ Lavrov told a news briefing in Moscow.”

Europe and the IMF are looking to borrow from Russia?  China might lend, at least in part, to help keep its markets in Europe from collapsing going, but Russia is run by Vladimir Putin, who called the dissolution of the Soviet Union “the greatest geopolitical catastrophe of the [twentieth] century.”  And: “As for the Russian people, it became a genuine tragedy. Tens of millions of our fellow citizens and countrymen found themselves beyond the fringes of Russian territory.”

We need to get our budget and our deficit under control.  We need to spend less and we need to collect more taxes.  Republicans who won’t collect more taxes (by getting rid of special interest deductions and credits and corporate welfare, among other things) are wrong.  Democrats who won’t cut back on spending (to levels of just a few years ago) are wrong.  And all of them are risking our future.

Because being indebted to a Vladimir Putin-led Russia is scary.  Very scary.

-------
* Brazil, Russia, India, China, South Africa

The Cost of Deficits May Be More Than the Interest On the Debt

While the news media and some of our politicians are focused on Occupy Wherever, a bigger story is occurring under the radar in Europe and the United States.  While Europe may have solved the Eurozone/Greek debt crisis for now – and hopefully for longer, look at one of the parts of the solution: a call by French President Nicolas Sarkozy for China to support the European Financial Stability Facility.   Europe needs money (to support its economy, including importing goods from China), and China has trillions in reserves, so it seems like a match made in heaven – except.  Except that the cost of those loans to Europe may be more than just the interest charged.

The United States is in a similar situation.  While President Obama talks about how we need another stimulus plan (though it’s not called that), the fact is that we already have a huge federal deficit, and that deficit has to be financed by somebody.  In the past, part of the deficit was financed by loans from the Social Security Trust Fund.  But with the Trust Fund now paying out more than it takes in, Treasury can no longer borrow from Social Security.  Fortunately (I guess), the economic turmoil around the world has made the United States seem relatively secure, even with our S&P credit rating downgrade.  But we still need to borrow a lot of money and much of that borrowing has to come from overseas.  Once again, the concern is what might come with those loans, especially if they are from China.

But instead of talking generalities, let’s look back a little over 20 years.  With the 20th anniversary of the fall of the Berlin Wall, the 20th anniversary of the reunification of Germany and the 50th anniversary of the building of the Wall, I have been reading books on the end of East Germany and the reunification of Germany.  There are some lessons to be learned here about over-borrowing, if we want to see them.

First, consider East Germany.  By the 1980s East Germany was supporting its lifestyle, and its “really existing socialism,” by borrowing money from the West, including West Germany.  In fact, in 1976 East Germany stopped publishing separate totals for its exports and imports and reported only aggregate numbers in order to hide its true situation.  By the mid-to-late 1980s, East Germany’s debt was huge.  According to one report, the West German government was buying East German debt “in order to put greater pressure on the SED [i.e., the East German communist party] in the future.”  By 1988, “[t]he GDR had been living beyond its means for years, and the only way out, [planning chief Gerhard] Schürer implied [in a report to Erich Honecker], was a drastic cut in living standards for most East Germans.”* 

We never found out what the political effects of this debt would have been on East Germany because once the Wall was opened on November 9, 1989, the GDR was doomed.  Either East Germany was going to go away or the East German people were.  The Germans were going to re-unite.  It was just a matter of whether East Germany and West Germany were going to become one country or a very large percentage of the East German population was going to move to West Germany.

While we don’t know what would have happened in East Germany, we do know the effect that the Soviet Union’s need for money had on the Soviets’ policies toward German re-unification.  In the late 1980s Mikhail Gorbachev was pursing glasnost and perestroika.  But he needed money and loans to pursue those policies.  And where could he get that money?  West Germany.  Here is an excerpt from Dissolution: The Crisis of Communism and the End of East Germany by Charles S. Maier:

“The Soviet ambassador in Bonn, [Yuly] Kvitsinsky, returning home after the two plus four [talks] to become deputy foreign minister, was unhappy about the concessions that had been made but also aware that his government’s confusions left little to rescue.  Increasingly crucial was the financial calculation.  Since earlier calculations of a profitable Soviet, FRG, and GDR ‘triangle’ had been overtaken by events, West German economic assistance seemed increasingly necessary. 

Soviet military leaders were scornful of the compromises [Mikhail Gorbachev had made] on Germany, but their pressure was countered by the acute financial realities.  Just as it had constrained the GDR and Poland, indebtedness to the West now cut deeply into Soviet options. …

Shevardnadze had been delegated to plead for credits from Kohl on the eve of the two-plus-four meeting of Mary 5: perestroika could not be carried through if the ruble collapsed: might not the Germans therefore, so he had to plead, guarantee loans of DM 20 billion?  Kvitsinsky had deep misgivings about undermining the foreign minister’s leverage by making him play the role of mendicant – but the financial plight seemed determinative. …

Less than two weeks later, on May 16, Kohl proposed to Bush that the United Stated join him in economic credits [to the Soviet Union] ….  But the president refused in view of the Lithuanian situation and congressional unhappiness with the Soviet pressure on the small emerging nation. …

It was up to the Germans to become the Russians’ bankers.  It would not be easy, Bush pointed out, for the Russian supplicants to shut the door on German national aspirations if they hoped to open the purses of the Federal Republic.”**

We know how this turned out: Germany was reunited, it stayed in NATO, and it all happened peacefully.  It was an incredibly good result.  But in 1990 it was the good people who had the financial leverage.  And they were using it for good purposes.

But what about today?  Will what China demand from Europe in return for the help President Sarkozy is seeking?

And what about the United States?  We need loans, too.  In March of 2009, I said that borrowing from China might not affect us too much domestically but that Taiwan should worry (see here and here).  Our reliance on Chinese loans might also mean that we cannot support the Tibetans or the Uyghurs if China cracks down on them.  Our ability to influence what China does with respect to North Korea and its nuclear arsenal could be reduced.  And any chance of our standing up for human rights in China will be gone.

Please understand I am not saying we should isolate ourselves economically from China.  Trade and investment are great.  What I am worried about is dependence on loans from China.  Because the cost of these loans may be more than the interest we have to pay.  It may also be the self-respect we have to give up to get them.

----------
* Jeffrey Kopstein, The Politics of Economic Decline in East Germany, 1945-1989 (1997), p. 84, 101-103, 224.

** Charles S. Maier, Dissolution: The Crisis of Communism and the End of East Germany (1997), p. 271-72.  Note that in the book itself, this excerpt was part of one long paragraph.  I have divided it into separate paragraphs here to increase its readability on a computer.

     Interestingly, Spiegel, a German news magazine, recently reported that, in 1963, then-Chancellor Ludwig Erhard was seriously considering trying to “buy” East Germany from the Soviet Union in exchange for loans of 100,000,000,000 deutsche marks that would never be repaid.  In 1963, Nikita Khrushchev was still in power, and the Soviet Union was suffering one of its worst crises, as well as facing a new rival in Mao Tse-tung’s China.  But President Kennedy was assassinated before Chancellor Erhard would mention the idea to him, and Lyndon Johnson wasn’t interested.  By 1965, Chancellor Erhard decided the plan was no longer possible.  Khrushchev was out, and the Soviets’ need for loans was being met by other lenders.

     Also with respect to the effects of foreign indebtedness, see this excerpt from In Europe’s Name: Germany and the Divided Continent (1993) by Timothy Garton Ash:

“In fact, Brezhnev was constantly warning Honecker, and other East European leaders, of the dangers of becoming too indebted to the West.  The great lesson of what had happened in Poland, he told the Czechoslovak Politburo in spring 1981, was that they should all make sure that their foreign debt ‘did not reach a dangerous level’.” (p.157)

Washington Budgeting: Adventure in Fantasy Land

Here is a story about how they do budget numbers in Washington, D.C.  It’s something to keep in mind when the people there start talking about deficits and savings and all those things.

Politicians in Washington almost always support their positions on budget issues by claiming that their numbers are supported or verified by the Congressional Budget Office.  For example, when Congress passed Obamacare in 2010, its supporters claimed that it would save money, and they claimed that the CBO agreed.  One of the reasons that Obamacare was going to “save” money was a new program called CLASS, which was short for Community Living Assistance Services and Support.  CLASS was a voluntary government insurance program that was supposed to cover home health care services for older or disabled adults.  Of course, the reason that the CBO said CLASS was going to save money was that it was going to start collecting premiums right away, but it wasn’t going to pay benefits for five years. 

The important thing to understand about the Congressional Budget Office is that when the CBO “scores” proposals for budget purposes, they only look at the costs and income for the first ten years.  Those are their rules.  (They may even be the law; I don’t know.)  Since the CLASS program was going to collect premiums for ten years and only pay out benefits for five years, it was going to have more money coming in than it would have going out over the first ten years.  Voilá!  It was going to save money – under the rules that the CBO has to operate under.  The fact that the program would be a budgetary disaster later on was irrelevant to the way that CBO counts things.

In fact, even though the program was a long-term budget-buster, since the CBO only looks at the first ten years, and since that is how things are calculated for Congressional budgeting purposes, when some Republicans were talking about repealing the CLASS program earlier this year (because it is unsustainable on a long-term basis), under CBO rules the Republicans would have had to either raise taxes or cut other spending to balance the loss of budget savings from repealing the program.*  Mind-boggling.

But finally, earlier this month, the Obama administration admitted that they couldn’t come up with a way to make the numbers work for the CLASS program, and they shut it down.  (The Senate had included in the original Obamacare legislation a provision requiring the Department of Health and Human Services to certify that the program had an actuarially-sound premium before they could start it up.  When they couldn’t certify that, the program had to be shelved.)

This is where it gets interesting – and really bizarre.  Once the Obama administration finally admitted what everybody already knew (i.e., that the program didn’t work financially) and said that they were shutting it down, the head of the CBO said this:

“Following longstanding procedures, CBO takes new administrative actions into account when analyzing legislation being considered by the Congress – even if it has not published new baseline projections.  Beginning immediately, therefore, legislation to repeal the CLASS provisions in current law would be estimated as having no budgetary impact.”

In other words, if Congress had passed a bill cancelling the CLASS program before HHS acted, then the cancellation would have counted, for CBO purposes, as an $86 million increase in the 10-year deficit calculation.  But a month later, after the Administration decided to shut the program down, repealing it wouldn’t count toward the 10-year budget projections.

While I am sure that this makes sense in the strange world of federal government budgeting rules, it obviously doesn’t sense to anybody who lives in the real world.  And that is something to remember the next time you hear somebody say that their budget numbers have been confirmed by the Congressional Budget Office.

One final point, not on budgeting but on the Obama administration:  Even though the Administration has admitted that it could not come up with a way to make the CLASS program work financially, President Obama still opposes repealing it.  Why?  According to a White House spokesperson:

“We do not support repeal.  Repealing the CLASS Act isn’t necessary or productive. What we should be doing is working together to address the long-term care challenges we face in this country.”

Which is gobbledygook.  Maybe I am being cynical, but I think the reason that President Obama doesn’t want to repeal the program is because, if the President gets re-elected and doesn’t have a Democratic Congress, he wants the ability to be able to have his new person at HHS look at the CLASS program and come up with a new theory on why it does work and start implementing it – without needing any kind Congressional approval.**

----------
* “The Definition of Insanity,” The Wall Street Journal, October 4, 2011.

** Some health care “experts” have already criticized the President for shutting the program down, saying that it actually could work (see here).  After the election, there is no reason to believe that the President wouldn’t decide they were right after all and start it up again.

Update (10/23/11 9:25 am):  For a prior comment on the CLASS Act, see here.