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The Budget Deficit

Less than two years ago the Congressional Budget Office (CBO) was forecasting cumulative surpluses between $4.5 trillion and $5.8 trillion between 2001 and 2010 This almost would have been enough to eliminate the federal debt that is currently "on the books", while it would take untold trillions to eliminate of the books debt like social security and medicare, GSE liabilities etc. All-Wall Street Economist like Ed Hyman were also predicting surpluses well into the future. The confidence in the Federal Reserve to maintain a stable growing economy was so strong amongst most people in our country that it was nearly taboo to suggest otherwise.

People were willing to overlook the incentive structure that our politicians "work" under and assume that they would be able to restrain their spending. People were slapping Clinton and Greenspan on the back for the tremendous surpluses that were surely accruing to the bottom line of the People's balance sheet. There was a big bull market in confidence for the modern welfare state. Now you can still hear democrats and republicans blaming each other for not maintaining the surpluses that each party was deciding how to dole out in order to maximize their votes in the next election . It is as if they think repeating the word "surplus" often enough will convince people that there has been a surplus since in our federal budget since 1959. According to the official web site at the US treasury there hasn't been an annual surplus since Eisenhower was in office. Not once since Kennedy started saber rattling in Vietnam and LBJ started the "Great Society" has the US government ran a surplus. All of the data is here on the US Department of Treasury Web page.

US

As you can see, the debt peddle has now been slammed to the floor, since the rulers voted to extend our debt limit pass the $5.95 trillion mark earlier this year. In the month of August the debt increased by 51 billion. This extrapolates out to over 600 billion USD/Year if the debt keeps piling up at this rate. As of 9/11/2002 the total federal debt was 6.212 trillion USD. This is 6 billion more than it was on 9/10/2002 according to the Treasury web site. That extrapolates out to 1.8 trillion USD/Yr of additional debt to service. Admittedly, there is probably some seasonally going on here so yesterdays debt increase cannot realistically be extrapolated. However, the point remains that the federal debt is going much more rapidly than economist and the media thought only a couple years ago.

More importantly, it was only last year that Paul O'Neil and the Bush administration decided to discontinue the 30 yr bond in order to try and make longer term rates fall and entice people to refinance and continue pouring money into the housing market. This means that a greater percentage of the government debt is short term debt than ever before. That works out great right now as the Treasury can roll over debt at the lowest rates in 40 years. However, the government budget is now becoming much more susceptible to changes in interest rates. If rates rise then debt service portion of our budget gets larger at a very quick rate. This makes it even more difficult to keep the annual deficits at a reasonable level. The US is particularly vulnerable here, because foreigners own a greater portion of US debt than they due Japanese debt. They are particularly sensitive to the risk that the dollar will decrease in value. So what? So if the foreigners decide to protect an investment they see depreciating and flee to someplace they perceive as being more stable(like maybe gold), then it would force US interest rates up much quicker than our government is prepared for. I see this as a non-trivial risk.

Today we get these remarks from Greenspan: "History suggests that an abandonment of fiscal discipline will eventually push up interest rates, crowd out capital spending, lower productivity growth and force harder choices upon us in the future,". The wild optimism of naive observers who believe that government officials care about the long term growth prospects of our economy or "fiscal discipline" are going to continue to be surprised. The coming deficits will be piled onto the backs of the boomer generation's children and they will get to choose between doing the even worse to their prodigy or ending the treacherous cycle.

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