Band Aid Addictions for Fiscal Cancer

OPEN SALON

Of Debt Ceilings, Band Aids-Addictions, or Jerking Chains?

by Don Rich

In the debate about the debt ceiling, two styles of metaphors are likely come to mind about how to reign in what is as a factual matter a pretty serious American fiscal situation.

As a factual matter, the American fiscal situation is serious, because as it stands now given current government entitlement and other federal committments, the current American fiscal deficit is at a level (10 per cent of GDP) would imply nearly effectively unbounded growth in the total stock of federal debt, which would likely result in some sense in an American default, openly, or more likely via inflation.

"When national debts have once been accumulated to a certain degree, there is scarce, I believe, a single instance of their having been fairly and completely paid. The liberation of the public revenue, if it has ever been brought about at all, has always been brought about by a bankruptcy, sometimes an avowed one, but always by a real one, though frequently by a pretended payment." Adam Smith, The Wealth of Nations Book Five Chapter 3, page 1008. 1776 Remember the date.

Note the key phrases: "A certain degree/is at a level" and "a pretended payment," i.e. inflation. (Smith by the way is very humorous about the coin-clipping antics of the past, versus the printing presses of the day, but it is the same thing; plus ca change, c'etet la meme chose.)

If you plot out the American fiscal numbers as it stands, there is zero question that the current fiscal path will cause an American default in one way or another.

Fortunately, it is also clear that the American political class understands this too.

It could happen at any second actually, if foreign creditors just determine that they are better off bailing out now, rather than getting euthanized later.

Note, what foreign creditors think is potentially decisive, and so maintaining credibility with foreign creditors is vital.

That being said, certain analogies then come to mind: Band Aid-addiction, or a Jerking a Chain?

As to the former, if one has a Band Aid of an unsustainable fiscal deficit that has to be removed, you tear it off.

Ouch!

But then, it is over.

Similarly, if one thinks of an unsustainable debt issue as being similar to being addicted to drinking in and burping out big promises that one passes on to the taxpayers later that had to end someday, then one stops Cold Turkey, but, one could get delerium tremens from that Cold Turkey, and since delerium tremens can be fatal, like the old rum fits, and is definitely unpleasant, that is why now they usually give people librium-valium to overcome the GABBA-Glutamate receptor bounce back problem.

Or, you go Cold Turkey, if unlike our political class, you can't afford to have nice people in white suits take care of you for the four day valium stepdown, and just hope for the best.

The political classes normally prefer not to do either Bandaids, Cold Turkey, or even a nice Valium detox, because no one likes to have bring bad news.

"To relieve the present exigency is always the object which principally interests those immediately concerned in the administration of public affairs. The future liberation of the taxpayers, they leave to the care of posterity." Adam Smith, Wealth of Nations, Book Five, Chapter III, page 991. 1776 Plus ca change, c'etet la meme chose. Remember the date.

But, the good news is that the Britain of his time did adjust, although, France did not in 1776 or later, and lots of people in the political class died in revolutionary violence not too much after that.

Now, if ripping off a Band Aid or going Cold Turkey does maximize credibility with foreign creditors, it also has a problem that Adam Smith's successor David Riccardo hinted at that would mean a gradual, but definitely credible, approach is better.

Now we get to jerk on chains.

David Ricardo noted that borrowing money now meant higher taxes later, if the government was not going to default explicitly, or implicitly via the inflation tax Smith alluded too.

This is because an economy could be thought of like a chain hanging in space in the sense of what they call the "Calculus of Variations."

In modern economics, we get all fancy and whip out something known as a variation, think of a suspended chain, in which if I up the debt today, I have to pay back tommorow, but the path is unchanged in length for small jerks on the chain, and so therefore the chain doesn't snap.

That is only true for small jerks on the chain, however.

Arguing by analogy, with very large fiscal changes, like a huge jerk of the Band Aid on the recovering fiscal drunks that we have been becoming since FDR, you could snap the chain holding together the United States.

Careful jerking on chains, so you don't flush the country down the toilet would seem to be important, if and only if, the foreign creditors go along with that, and you still have to move the chain enough so that the built in tensions in the chain between taxing and spending, i.e. we keep hoping to spend money that the Chinese, Japanese and Russians and Arabs will lend ue, doesn't snap the chain anyway.

Moving back to the Cold Turkey approach, that would seem to argue giving people on both sides of the aisle a nice dose of Delerium Tremens prevention Valium, i.e. they get to pick one thing that they just always wanted under the Federal Christmas Tree, if and only if, it doesn't make Santa bankrupt.

I say space with Russia, and China, and Japan and the EU, because that is the kind of very long term public good that Adam Smith could see no individual would really pay for, and that yet might be the most important step for mankind we ever take, and certainly shows a demonstrable resolve that we are committed to builing for posterity.

finis