In California Dreamin’ I wrote:
The U.S. as a whole will almost certainly face [California's structural deficit] problem before the end of Barack Obamaâ€™s administration in 2012. Social Security obligations were due to exceed collections in 2013; even before Obama quadrupled the federal deficit this meant a giant blazing meteorite was already hurtling straight at the heart of the Fedsâ€™ dinosaurian finances.
It turns out the end is coming even sooner than I thought. The Congressional Budget Office now says Social Security will start running a deficit in 2010. And there is no money in Social Security’s so-called “trust fund” just bonds issued by the Federal Government itself. This means that in 2010, the Obama administration is going to face tough choices. It can (a) cut SS benefits, (b) raise taxes, or (c) kick the can down the road by borrowing more money to keep paying them.
I think we can rule out cutting SS benefits; given that even Republicans couldn’t muster the political will for that when they were in power, it’s certainly not going to happen under an administration as ideologically wedded to redistributionism as Obama’s is. I have no doubt that Obama’s preferred solution would be to raise taxes – but this choice runs headlong into two serious problems. The more obvious one is that raising taxes during a recession will prolong the recession by suppressing employment and investment, handing the 2010 midterms to the Republicans.
The less obvious one is that raising taxes might not raise revenues even if it could be sold politically. There are several reasons to suspect this, one of which is the extremely skewed distribution of who pays taxes. Turns out that, as in California, the Federal budget has become disproportionately dependent on soaking the rich; taxpayers below median income supply only 3% of federal revenues, and the top 1% supply a whopping 38%. Soak-the-rich taxation is winning politics in a democracy because it means over 50% of the population gets to vote that the cost of government will be mostly paid by somebody else, but recent events in California demonstrate with brutal force how vulnerable this policy is to economic downturns. California’s tax revenues have crashed, and Federal tax revenues are headed in the same direction. Tinkering with rates won’t address this problem, and may well make it worse.
This leaves borrowing money – and that well has nearly run dry. There are already whispers that the soundness rating of U.S. Treasury bonds may be downgraded from AAA, and government borrowing is now so obviously unsustainable that it has triggered a populist insurgency of a kind never before seen in the U.S.
In Timing the Entitlements Crash I wrote:
At some point, the U.S. government is going to lose both the ability to increase revenues and the ability to sell bonds. At that point the entitlements system will crash. Transfer checks will either stop issuing or become meaningless because the government has, like some banana republic, hyperinflated the currency in order to get out from under its debt obligations.
I’m now evaluating over a 50% chance that this point will be reached before the end of the first Obama administration in 2012.