Laurence Kotlikoff: "The US Fiscal Gap Is $200 Trillion... Our Country
Is broke"
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While it is easy and often enjoyable to distract oneself with daily drudgery
such as who will bomb whom (if not so enjoyable for those on the receiving end
of said bombs), the key word in the sentence is just one:
"distract"
and as Kyle Bass pointed out correctly, the best, and most
"economy-boosting" of all distractions ends up with the proverbial
red
button being pushed. Sadly, with an economy which Boston University's
Larry Kotlikoff defines as "
arguably in worst fiscal shape than any
other developed country", there is much to be distrated by and is why
we
correctly
predicted in July that the Syrian false flag event is only weeks or months
away (turned out to be precisely one month). So for those who have no desire to
prove the axiom that ignorance is bliss, or to have their heads stuck in the
sand, here is a must read interview between Goldman's Hugo Scott-Gall and the
iconoclast economist who, in a vast minority, calls it like it is.
The highlights:
- I estimate the US
fiscal gap at US$200 tn, 17 times the reported US$12 tn in official debt
in the hands of the public. And this incorporates this year’s tax
increases and spending sequestration. What would it take to come up with
US$200 tn in present value? The answer is tax hikes or spending
cuts, or a combination of the two, amounting to 10 percent of GDP,
starting immediately and continuing indefinitely. To do so via spending
cuts, alone, would require an immediate and permanent 36% cut in all
non-interest spending. To do so via tax hikes, alone, would need
an immediate and permanent 55% increase in all federal taxes.
Hence, a description of the fiscal adjustments made over the last year
could be “too little too late.” In terms of generational
accounting, were we to leave our kids and future descendants to cover the
entire fiscal gap, they’d face tax rates over their lifetimes around twice
as high as those we face.
- The US is arguably in
worst fiscal shape than any other developed country. But Greece, the
UK, and Japan are close runner ups. As mentioned, our fiscal gap is 10% of
the present value of our future GDP. In Germany it’s around 5%, while
Canada, Australia and New Zealand are close to zero. Even Italy's
long-term fiscal gap is just half of the US’s, yet Italian government
bonds sell at a much lower price than US government bonds simply because
people don't understand the pension reforms that Italy has rolled out or
that Italy has much better control of its healthcare spending.
- Our country is broke.
It’s not broke in 50 years or 30 years or 10 years. It’s broke today. Six
decades of take as you go has led us to a precipice. That’s why almost the
entire economics profession is talking as one at www.theinformact.org.
Economists from all political persuasions are collectively sending our
government a warning about what is, effectively, a nuclear economic bomb.
I’ve been around economics for a long time. I’ve never seen such a strong
response to a proposed Congressional bill. This is the profession sending
a statement to the President and Congress that’s not unlike the warning
physicists sent via Einstein to Roosevelt about the bomb.
And with that, here is the full interview:
Laurence J. Kotlikoff is a William Fairfield Warren Professor at
Boston University, a Professor of Economics at Boston University, a Fellow of
the American Academy of Arts and Sciences, a Fellow of the Econometric Society,
a Research Associate of the National Bureau of Economic Research, and President
of Economic Security Planning, Inc., a company specializing in financial
planning software.
Hugo Scott-Gall: You argue that the official debts that countries
report are economically meaningless numbers. Please explain this?
Larry Kotlikoff: Every dollar the government takes
in or pays out can be labelled in economically arbitrary ways. For example, the
government can call our social security contributions “taxes” or “official
borrowing.” And it can call our social security benefits “transfer payments” or
“return of principal or principal plus interest.” There is nothing in the math
of economic theory that pins down the government’s word choice and each
labelling convention will produce a different reported time path of debt,
deficits, taxes, and spending. At their heart, these measures are linguistic
and convey nothing about a country’s underlying fiscal policy – only about what
the government decides to put on and keep off the books.
Uncle Sam is very powerful, but he has only one set of vocal cords. We are
all free to label past, present, and projected future government receipts and
outlays any way we want, as long as our labelling convention is internally
consistent (e.g., if we label government receipts as borrowing, we need to
label other outlays as debt service). Consequently, we can produce any past,
current, and projected future measure of the government’s debt and other fiscal
quantities. With the right past labelling,
we can say the current debt
to GDP ratio is miles higher than Rogoff-Reinhart’s critical 90 percent.
Or, we can argue that the debt to GDP ratio is hugely negative. The Economics
labelling problem tells us that what we measure as the size of standard fiscal
variables is language- or frame of reference-dependent. This is fundamentally
no different from physics. The measurement of time and distance is not uniquely
pinned down by the math. What time you report and how you measure the size of
physical objects depends on one’s frame of reference (direction and rate of
speed through space) or language, if you will.
Here’s another way to see my point. My mother gets checks from the US
Treasury all the time. They all look the same except for their amounts. Some
are for social security and some are for holding Treasury bonds. But Uncle Sam
is discounting the amounts coming on the Treasuries and including that in his
official debt measure, while ignoring the amounts coming for social security
benefits.
Using economically meaningless fiscal indicators to guide
fiscal policy is like driving in NY with a map of LA. If you aren’t careful,
you’ll drive into the East River.
Hugo Scott-Gall: If conventional fiscal measures are, as you say,
content free, what should we measure?
Larry Kotlikoff: Every dynamic mathematical model of
the economy that economists write down (and thousands are being constructed
each year) includes what’s called the
government’s intertemporal budget
constraint. This constraint simply requires that the present value of
government outlays, no matter how labelled, equals the present value of
government receipts, no matter how labelled. In this over-time government
balance sheet, the outlays represent the liabilities and the receipts represent
the assets. If the value in the present of the liabilities exceeds the value in
the present of the receipts, the government’s balance sheet isn’t balanced,
with the difference between the liabilities and assets call the fiscal gap. The
fiscal gap doesn’t suffer from an economics labelling problem for a simple
reason - it puts everything on the books. The fiscal gap is the true measure of
a government’s debt. And once one determines its size, one can assess the
impact on our children of paying it off if it’s all dumped into their laps.
This is part of a companion analysis, called Generational Accounting, which I
initiated in the late 80s together with my co-author, UC Berkeley economist
Alan Auerbach and my then student, Jagaadesh Gokhale (now at the Cato
Institute).
Hugo Scott-Gall: How big is the US fiscal gap and what does US
generational accounting show?
Larry Kotlikoff: The CBO will release its 2013 long-term
fiscal projection, called the Alternative Fiscal Forecast (an alternative to
the Extended Budget Forecast produced for Congress) this Fall. But
I
estimate the US fiscal gap at US$200 tn, 17 times the reported US$12 tn in
official debt in the hands of the public. And this incorporates this
year’s tax increases and spending sequestration. What would it take to come up
with US$200 tn in present value?
The answer is tax hikes or spending
cuts, or a combination of the two, amounting to 10 percent of GDP, starting
immediately and continuing indefinitely. To do so via spending cuts, alone,
would require an immediate and permanent 36% cut in all non-interest spending. To
do so via tax hikes, alone, would need an
immediate and permanent 55%
increase in all federal taxes. Hence, a description of the fiscal
adjustments made over the last year could be “too little too late.”
In
terms of generational accounting, were we to leave our kids and future
descendants to cover the entire fiscal gap, they’d face tax rates over their
lifetimes around twice as high as those we face.
Hugo Scott-Gall: How do we get better fiscal book keeping?
Larry Kotlikoff: At my encouragement and that of The
Can Kicks Back – a non-profit in DC run by twenty-somethings fighting for
generational equity, Senators Kaine and Coons – two Democrats – and Senators
Thune and Portman – two Republicans – have just co-introduced THE INFORM ACT.
The Bill, which I largely drafted in consultation with Alan Auerbach, will
require three agencies in the US government (the CBO, the OMB and the GAO) to
do fiscal gap analysis as well as generational accounting on an ongoing basis.
To date, 12 Nobel Laureates in economics, over 500 of the nation’s other
leading economists, George Shultz, the Former Secretary of the Treasury, State
and Labor and the OMB Director, and other prominent government officials, and
thousands of non-economists have endorsed the bill at
www.theinformact.org.
I’m hoping everyone in the country will go to the site, endorse the bill, and
spread the word.
Hugo Scott-Gall: How do you recommend solving this issue?
Larry Kotlikoff: Measuring our fiscal gap and
disclosing its implications for ourselves and our children is just step one in
addressing our fiscal issues. What’s really needed is the adoption of radical,
but generationally fair reforms to our tax, social security, and healthcare
system. Maintaining the status quo is not an option. When a patient needs heart
surgery, radical surgery is often the safe option. America needs radical policy
surgery. I lay out postcard length reforms of out tax, social security,
healthcare, and banking systems at
www.thepurpleplans.org. Many of these plans
have been endorsed by the economics’ profession’s top economists.
Let me lay out just one of these plans - the Purple Health Plan. The costs
of Medicare, Medicaid, the new health exchanges, and employer-paid healthcare
(here the costs entail loss of revenue because premiums are exempt from taxes)
constitute 60% of the fiscal gap. The Purple Health Plan would eliminate these
four systems and start with a clean slate. Under the plan, each US citizen gets
a voucher each year, the size of which is determined by his pre-existing
medical condition. The voucher is used to purchase, in full, the Basic Health
Plan from an insurance provider. The Basic Health Plan’s coverages are
established by a panel of doctors subject to the constraint that the costs of
all the vouchers never exceeds 10% of GDP. Those who could afford it would be
free to buy supplemental policies. No insurer could turn anyone away, but since
each voucher is individually rated, insurers would have no incentive to cheery
pick. This simple reform, in essence, the healthcare system of Germany, Israel,
Holland, Switzerland, and Japan, retains private provision, turns the Basic
Health Plan into a commodity with insurance providers competing to attract and
retain participants. A very large share – roughly 60% – of America’s fiscal gap
can be eliminated via this reform alone. Adopting the other purple plans would
eliminate the rest of the fiscal gap without visiting untoward hardship on
anyone.
Hugo Scott-Gall: Will society be able to hold current demographic
fiscal systems together where young people are heavily taxed...
Larry Kotlikoff: Our country is broke. It’s not
broke in 50 years or 30 years or 10 years. It’s broke today. Six decades of
take as you go has led us to a precipice. That’s why almost the entire
economics profession is talking as one at www.theinformact.org. Economists from all
political persuasions are collectively sending our government a warning about
what is, effectively, a nuclear economic bomb. I’ve been around economics for a
long time. I’ve never seen such a strong response to a proposed Congressional
bill. This is the profession sending a statement to the President and Congress
that’s not unlike the warning physicists sent via Einstein to Roosevelt about
the bomb.
Hugo Scott-Gall: What does all of this mean for overall consumption
and savings in the US?
Larry Kotlikoff: Our huge off-the-books fiscal
problems were created as a result of the take-as-you-go policies of the post
war periods that passed on benefits to older people at the expense of younger
people. This systematic intergenerational redistribution produced a massive
increase in the absolute and relative consumption of the elderly and a massive
decline in our net national saving rate, from 15% in 1950 to 1% now. The ratio of
the consumption of a 70-year-old compared to a 35-year-old is about 2.5 times
larger today than it was back in 1950. And the reason they’re consuming so much
more is that they get the entire set of benefits, from healthcare and social
security to tax cuts. National saving finances most domestic investment, so as
we’re saving next to nothing means we’re also investing next to nothing. Last
year’s net domestic investment rate was 5%, only a third of the 1950 level. And
less domestic investment means slower real wage growth, as workers have less
capital with which to operate. Finally, since we Americans aren’t saving, we
can’t invest in our country. So $4 out of every $5 of investment in the US is
now by foreigners. In the late 1970s, Alan Auerbach and I pioneered the
development of large-scale computable general equilibrium life-cycle models
that we could simulate on a computer. In this and subsequent research, we were
able to simulate the impact of take-as-you-go fiscal policy. What we see from
these increasingly sophisticated computer models matches exactly what you see
in the country, less saving, less investment, less growth, and stagnant wages.
While generational policy is not the sole driver of post-war secular economic
trends, it’s likely the biggest.
Hugo Scott-Gall: How do other countries compare to the US when you
look at their fiscal gaps?
Larry Kotlikoff: The US is arguably in worst
fiscal shape than any other developed country. But Greece, the UK, and
Japan are close runner ups. As mentioned, our fiscal gap is 10% of the present
value of our future GDP. In Germany it’s around 5%, while Canada, Australia and
New Zealand are close to zero. Even Italy's long-term fiscal gap is just half
of the US’s, yet Italian government bonds sell at a much lower price than US
government bonds simply because people don't understand the pension reforms
that Italy has rolled out or that Italy has much better control of its
healthcare spending.
The case of Norway is also very interesting. I conducted generational
accounting with a Norwegian economist named Erling Steigum back in the mid-90s,
which proved that while Norway was reporting a huge surplus because of how it
was labelling its transactions, in reality the country was spending at far too
high a rate. To its credit, the government went ahead and continued carrying
out this analysis on a regular basis, and as a result, created a generational
trust fund, where some of the North Sea oil revenue is set aside for future
generations. This has left them in a much better position today. Chile, another
resource-dominated economy, has also got a similar trust fund in effect. The
Canadians have also been very careful about their long-term liabilities. So,
some countries are acting more responsibly.
Hugo Scott-Gall: Have you considered the impact of fewer jobs,
driven by rising automation, in your analysis?
Larry Kotlikoff: Automation and the structural loss
of jobs is a very important issue. In fact, Jeff Sachs and I have together
written about the implications of smart machines, machines that today can
substitute almost perfectly, if not more than perfectly for people, and
constitute, effectively, competing robots. We’re not far from the day when
machines will drive cars too. While that sounds great, the other side of the
coin is that younger people are earning less and saving less, and so, they
bring much less wealth into old age than previous generations did. Owing to
this vicious cycle, these youngsters, who as a group are not the prime owners
of capital, aren't going to reap the benefits from this new technology. The
beneficiaries are instead going to be a small number of people who are either
the inventors, or older people who have the capital to help get the invented
technology in place. So, we’re going to see wealth redistributed further, from
young workers to older people, with yet direr implications for national saving,
domestic investment and growth. Indeed, technological change can, through these
general equilibrium feedback effects, end up making all of society worse off in
the long run, unless one is careful to redistribute to the young losers from
the old winners.
