Sunday, July 31, 2011

Two Hundred Trillion Dollars

There are some silly songs on Youtube about the $46,000 debt we're giving each new child at birth; the songs are supposed to make you feel guilty about what we're doing to our children, and I think they're supposed to energize you against the debt-ceiling rise and for the balanced budget amendment. Well, the debt ceiling is stupid, and the balanced budget amendment is a really bad idea, and $46,000 is a ludicrous figure; the correct figure, the figure that the average kid needs to pay (or pay interest on, or pass on with accrued interest to the next generation,) is probably well over half a million. Nobody can know exactly; it depends on future growth of expenses and revenues and population, but $46,000 is a very small fraction of the total.

In April 2010, after the health-care bill's passage, I wrote a "One Hundred Trillion Dollars" context post in which I quoted the Dallas Fed:

Add together the unfunded liabilities from Medicare and Social Security, and it comes to $99.2 trillion over the infinite horizon. Traditional Medicare composes about 69 percent, the new drug benefit roughly 17 percent and Social Security the remaining 14 percent. ... all we would have to do to fully fund our nation’s entitlement programs would be to cut discretionary spending by 97 percent....defense and national security, education, the environment ... All of them [forever]
Today I noticed on Yahoo a more up-to-date and more complete and therefore more scary view of the same concept, from BusinessWeek, in Why the Debt Crisis Is Even Worse Than You Think:
A more revealing calculation is the CBO’s measurement of what’s called the fiscal gap. That figure is conceptually cleaner than the national debt—and consequently more alarming. Boston University’s Kotlikoff has extended the agency’s analysis from 2085 out to the infinite horizon, which he says is the only method that’s invulnerable to the frame-of-reference problem. It’s an approach used by actuaries to make sure that a pension system doesn’t contain an instability that will manifest itself just past the last year studied. Years far in the future carry very little weight, converging toward zero, because they are discounted by the time value of money. Even so, Kotlikoff concluded that the fiscal gap—i.e., the net present value of all future expenses minus all future revenue—amounts to $211 trillion.

How does that work? Well, let's think about the Smith family and the Jones family, each expecting the same future expenses spread out over time. Joe Jones intends to pay as he goes; he hasn't borrowed anything. Sam Smith has borrowed enough money from a bank to fund an investment account which will pay exactly the same expenses. In fact, aside from the issue of bank profit, he had to borrow exactly the net present value of those future expenses. (He has a triple-A rating, of course. For now.) You can think of various ways that they're in different situations, but the Smith and Jones families are basically comparable: the payments on Smith's loan will not over time be appreciably different from Jones' direct expenses. So we can think of both of them as having the same financial future: if one is in trouble, they both are. And right now, the US has the same financial future as if it had made no unfunded promises but had borrowed a grand total of $211,000,000,000,000.00. So far.

Is that exact? No, of course not. Things might not be quite that bad, they could be even worse: as the article says, the calculation is quite sensitive to assumptions about future events and policy. But it's accurate enough to say that the "debt" is not what we should worry about; we should worry about the "fiscal gap".

Of course, if you worry about the debt, then it makes sense to talk about the deficit: $850 billion dollars last year. What if you're worried about the fiscal gap? Does the deficit become irrelevant? Yes, really; as Kotlikoff says:

The gap was $205 trillion last year, measured in today’s dollars. That’s an increase of $6 trillion. ... Hence, the real deficit we should be worrying about is more than six times larger than the $850 billion official deficit capturing all the attention.
In other words, Congress and the president’s administration could agree to run a balanced budget, making this year’s official deficit zero, and the nation’s true indebtedness would still rise by $5.15 trillion!... the main reason is that we are one year closer to having to pay 78 million baby boomers roughly $40,000, on average, per year in Social Security, Medicare and Medicaid benefits. Because the fiscal gap is a discounted present value, one year makes a big difference.

If you think back to the Smith and Jones family, and imagine the fiscal gap as an implicit debt, then the $5 trillion is mainly the result of our failure to pay even the interest on the $206 trillion we owed last year -- we do have a really good interest rate as long as we keep the AAA rating, but it's not zero.

So, should we balance the budget anyway, even if it's inadequate to do so? No -- not in years with high unemployment. I'd agree with Calculated Risk: Debt Ceiling Update

A politician can say "We should have a balanced budget". It sounds good, but why aren't they challenged about operating vs. capital budgets? And about business cycle spending (obviously revenue falls during a recession - and spending increases)?
What they really want is a balanced operating budget over the business cycle. You can't put that in the Constitution. It requires effective government and constant vigilance.
But even capital vs. operating budget doesn't quite do it for me: I want the fiscal gap, over the business cycle, to remain a limited multiple of GDP. Fifteen times GDP? Okay, fifteen times GDP. (It would be nice to shrink it.) But don't let it keep growing (as a multiple of GDP) from one business-cycle peak to the next.

And with all that, should my taxes be raised? Yes, emphatically so -- my taxes should be raised as part of a plan to deal with the fiscal gap. I can and should pay more taxes than most people; that part's understood. I'm not in Kerry's league for lifetime income, not even in Obama's, but I can pay more taxes than I do -- it won't even cut my consumption until taxes get quite a lot higher. What I don't think most raise-taxes people understand is that even though a fairly substantial tax hike won't be a "hardship", won't seriously cut my consumption, it will cut my reinvestment. It has to. So it will reduce the money available to future generations of taxers; in fact a dollar of tax revenue increase now is somewhat more than a dollar of tax revenue decrease later, because you'll have spent the money before it grew. So it's crucial, when you take my money, to take it as part of a plan to deal with the fiscal gap--otherwise the gap grows and you've taken some of the resources we'll need to deal with it. (I tried to go over this in the aforelinked One Hundred Trillion Dollars post.) In any case, if you actually want to fix things, focus on consumption, not income. (I'll still pay more than average, I promise.)

And is it hopeless? Not at all. We still see, e.g. Foxconn to replace workers with 1 million robots in 3 years. We still see Sarcos Exoskeleton Bringing Iron Man Suit Closer To Reality and the beautiful Watch Festo's SmartBird Robot Soar Over TED Conference. We still see Loss of memory due to aging may be reversible and, for young and old, How Khan Academy Is Changing the Rules of Education. We may even see Could 100 Kilometer high towers usher in the next space age?

The SpaceShaft concept isn't as ambitious as the space elevator but it is much more feasible. For 130 million Euros we could design and construct a 100 kilometer tall SpaceShaft within a decade. Once we have SpaceShafts up and running, the frontier of space will finally be open to humanity.

Or then again.... maybe not.

update: Fixed silly typo which had billions instead of trillions.

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