These deficits will be added to a cumulative national debt—the total of annual deficits—of about $9 trillion, much of it compiled between 2001 (when it stood at $5.6 trillion) and 2007 through generous tax cuts, expanded federal programs, and a war in Iraq, the ultimate cost of which will certainly approach $2 trillion and may be closer to $3 trillion. A phrase often attributed to the Republican leader in the U.S. Senate in the 1960s, Everett M. Dirksen, in describing what he considered his colleagues’ profligate spending habits is appropriate in this context: “A billion here, a billion there, and pretty soon you’re talking about real money.” Even allowing for inflation, the government’s tendency to spend has grown dramatically since Dirksen’s time: a trillion is a thousand times a billion. In Dirksen’s day, however, the government was in the habit of paying for its expenditures with tax revenues. Since then it has done so through borrowing: in the forty-seven years before 2008, the federal budget was balanced—that is, government income matched or exceeded outlays—in only five of them.
Although payment is deferred, borrowing comes at a price. The interest charge on the national debt must be paid every year: the greater the debt, the higher will be the cost of servicing it. That cost will reach 10 percent of the total federal budget by 2011 and 17 percent of total revenues by 2019, by relatively conservative estimates. If interest rates rise sharply it could be more. What the country spends on interest on the national debt it cannot spend on anything else, including foreign policy. Moreover, if lenders lose confidence in the federal government’s ability to pay back what it borrows, the cost of its loans—the interest rate on government securities—will rise, further increasing the national debt. By the third decade of the twenty-first century the cost to American taxpayers of servicing the national debt is scheduled to exceed the entire defense budget.
Debt in and of itself is not a bad thing. To the contrary, households, firms, and countries routinely borrow money. Debt is the fuel on which any modern economy runs. But the pattern of borrowing in which the United States has engaged for almost half a century has three particular features that distinguish what America owes from normal, desirable, economically healthy debt, and those three differences make the American national debt a prospective drain on American foreign policy.
First, prudent debtors use what they borrow for investment, which enhances their incomes, from which they can then both pay off their debts and improve their net worth. Much of what the United States has borrowed over the years, however, has gone to consumption of one kind or another, not to investment.
Second, because the savings of citizens in the United States have been low, the government was forced to borrow a great deal from abroad. Indeed, American debt to other countries helped to sustain global consumption even as other countries, particularly China, saved a great deal. This arrangement underpinned an impressive rate of overall global economic growth for much of the first decade of the twenty-first century. China produced goods and sold them to the United States, which, in effect, paid for them by borrowing back from the Chinese what Americans had paid for those goods.
The arrangement suited all parties involved in the short term, but the dollars that flooded back into the United States from abroad helped to inflate the housing bubble whose bursting triggered the severe economic crisis of 2008. More damaging for American foreign policy is the fact that the arrangement cannot be sustained over the long term: China and other countries will not lend to the United States indefinitely and without limit. Americans will have to consume less and save more, and a dollar saved is a dollar not spent supporting the various foreign policies of the United States.
A third feature of the debt accumulated by the United States has the potential to affect American foreign policy. A highly indebted country is inevitably tempted to print the money it needs to pay its debts. In 2008 the Federal Reserve in fact created several trillion dollars to fund the measures it deemed necessary to prevent a financial collapse. The monetary authorities hope and expect to recoup these outlays by selling, at a propitious time, the assets, such as shares of large banks, that they created the money to acquire. That would withdraw money from the economy. Even in that case, however, the obligation to repay the money the government has borrowed will still remain. Using the printing presses to repay debt, an all too common pattern historically, leads to a devastating economic pathology: inflation. Severe inflation can produce a weak economy, a distracted and demoralized public, and a discredited government, all of which cripple the afflicted country’s capacity to act effectively in foreign affairs. The anticipation of inflation, moreover, causes purchasers of government bonds to demand higher interest rates, which further expands the national debt.
Inflation, debt, recession: these are the equivalents for a national economy of illnesses besetting an individual. And just as an individual afflicted with gout, or pneumonia, or heart disease will be less energetic than a fully healthy person, so a country suffering from economic ailments will be less vigorous in its collective pursuits, foreign policy among them. Still, none of these economic maladies is without precedent in American history. The United States encountered and overcame all of them in the past, as recently as during the Cold War, without seriously impairing its foreign policies. Indeed, by some measures the twenty-first-century afflictions are likely to be of historically modest severity. Indebted though the United States had become by 2008, as a percentage of its total output the country’s debt was only half what it had been in 1945, when the cost of waging World War II sent it soaring to 122 percent of the national gross domestic product (GDP). Even with another decade of large annual debts after 2008, the national debt-to-GDP ratio, by at least one calculation, would reach only 80 percent, which would still be lower than that of 1945.
In the two decades after 1945 the government reduced its debt while carrying out a foreign policy of global scope. At the heart of that policy was the political and military contest with the Soviet Union, in which the share of the American GDP devoted to defense routinely reached an annual level twice as high as what it was in the first decade of the twenty-first century. Occasionally it was even three times higher. The effective Cold War combination of a prudent fiscal policy and an expansive foreign policy is unlikely to be repeated in the second and third decades of the present century, however, because of an economic condition of towering, indeed era-defining importance that was largely absent in the post–World War II era. That condition, which, combined with the impact of the economic downturn of 2008 and enormous debt amassed by the American government, will have a decisive impact on the foreign policy of the United States, is the very large bill that will confront the country for expenditures known as entitlements.
ENTITLEMENTS
In America, as in other countries, the government provides pensions and health care for its older citizens. Social Security and Medicare (and Medicaid, for indigent people) had become, by 2008, expensive programs. Added together, their benefits, to which every American age sixty-five or older is entitled (hence “entitlements”), commanded 40 percent of the federal budget. They far outstripped any other single federal expense, including the cost of what has historically been deemed to be every government’s first duty, national defense. What is spent on entitlements, like what is spent on debt service, cannot be spent on foreign policy.
Over the preceding half century the American government’s priorities, as revealed by the distribution of its expenditures, had undergone a basic shift—from guns to butter. For almost all of history, governments the world over had devoted their resources mainly to building and maintaining the military forces necessary to defend their countries and to pursue whatever military goals they set for themselves beyond their borders. By the first decade of the twenty-first century the federal government of the United States, judging by the pattern of its spending, was well on its way to becoming a giant domestic insurance company, albeit one with a sideline in foreign policy. As expensive as Social Security and Medicare had beco
me by 2008, however, they will be even more expensive in the years ahead. In 2008, all forms of government-supplied pensions and health care (including Medicaid) constituted about 4 percent of total American output; at present rates they will rise steadily for decades until, by 2050, they account for a full 18 percent of everything the United States produces. This growth will fundamentally transform the public life of the United States and therefore the country’s foreign policy. The costs of the developments the events of September 15, 2008, triggered, along with the massive increase in the costs of America’s entitlement programs, will claim an ever-increasing share of America’s national wealth, to the detriment of American foreign policy.
The massive increase will come about because of the eligibility for the benefits of these programs of the so-called baby-boom generation, the largest age cohort in American history. Between 1946 and 1964, 77 million Americans were born. The leading edge of that vast population wave will turn sixty-five, and qualify for most retirement and health care benefits, in 2011; the rest will follow. The government does not have the money needed to pay these benefits. Social Security and Medicare are “unfunded obligations.” By the estimate of the Congressional Budget Office, the total cost of these unfunded obligations—the gap between what the government owes and what, at existing levels of taxation, it can expect to collect exceeds $52 trillion—almost four times the output of the entire American economy in 2008. Some estimates are even higher.
The government does not have the money to pay for these programs because, since the inception of Social Security in 1937 and the beginning of Medicare in 1965, they have been funded on a “pay-as-you-go” basis: each generation of workers has paid for the benefits of those who have already retired. As long as the working population comfortably outnumbered retirees, paying for government-supplied pensions and health care was not unduly burdensome for the society as a whole. But the retirement of the baby boomers will turn the age structure of the American population upside down. The ratio of current workers to retirees will fall sharply. The burden on each worker of supporting the growing population of retirees will, accordingly, rise sharply. To meet these obligations, assuming that they do not change, taxes would have to increase by a politically impossible and economically ruinous 150 percent. To put the trend in America’s fiscal position in historical perspective, beginning in the second decade of the century the priorities and obligations of American society will, over time, change on a scale that, in the past hundred years, only the Great Depression and World War II produced. Those two monumental events led to dramatic changes in American foreign policy. So will this one.
The forecast of a transformation in American economic life and thus in American foreign policy depends in part on a prediction about the size and composition of the American population in the years ahead. Demographic predictions tend to be far more reliable than forecasts concerning other aspects of social life. Birth and death rates change slowly, not abruptly; and the predictions about the impact of demographics on the costs of entitlement programs are unusually reliable because the people who will lay claim to the tens of trillions of dollars in benefits have already been born. Moreover, their life expectancies, and thus the benefits they will collect, will only increase. All that is necessary for entitlement costs to soar, therefore, is the simple passage of time.
Entitlement costs will rise for technological as well as demographic reasons. New and better methods of diagnosing and treating diseases are constantly being developed: the United States and other countries spend billions of dollars each year to do exactly that. These new therapies tend to be more expensive than those they replace, driving up the price of health care. Even as more people qualify for government-provided medical benefits, therefore, the price of treatment for each individual will rise. By 2030, by one estimate, public and private spending on health care will reach 41 percent of the income of the average American household. Under these circumstances Americans will seek to reduce spending on other things, including on their support for the nation’s foreign policies.
The United States is not the only country that will have to cope with the consequences of an aging society. What is known as the demographic transition—the combination of falling birthrates and longer life expectancies, leading to an older population—is already taking place all over the world. For most rich countries, in fact, the consequences of this transition will be more pronounced than for the United States. Their birthrates are lower, so not only will their societies age more rapidly, but their total populations will actually shrink, even as America’s continues to grow because of higher rates of both fertility and immigration. The dependency burden—the ratio of retirees to active workers—will rise more rapidly in other countries than in the United States, imposing a heavier economic burden on their taxpayers. Many of these countries already have bigger debts, measured as proportions of total annual output. But the United States differs from its fellow wealthy countries in two major ways that aggravate the problems an aging population presents.
First, the impact on foreign policy will be far greater, because the United States conducts a much more expansive foreign policy and shoulders considerably greater global responsibilities than do the Europeans or the Japanese. Second, in the first decade of the twenty-first century income and wealth came to be more unevenly distributed in the United States than in other wealthy countries. By one estimate, in the three decades after 1970 the inflation-adjusted income of the top fifth of American earners rose by 60 percent, while it fell by 10 percent for all others. The reasons for this inequality, which had increased over the course of four decades, are complicated and controversial. The most often cited causes are technological change and globalization—the broadening of international trade and capital flows and the shift of jobs from rich countries, such as the United States, to poorer ones where wages are lower. The fact of inequality, combined with the insecurity about jobs and income that globalization has engendered in the United States as in other countries, creates political pressure on the American government to counteract these two trends.
The obvious way to counteract them is to make entitlement programs more rather than less generous. The health care reform measure passed by the Congress and signed by the president in March 2010 testifies to the widely felt impulse for greater public generosity. But the passage of that bill will probably not eliminate public pressure for more extensive (and therefore more expensive) social programs and will certainly not reduce the ever-rising costs of medical care in the United States. The bill will not avoid, and may even increase, further pressure on the nation’s non-entitlement expenditures, including foreign policy.
The ways that the aging of the population, in combination with the economic crisis of 2008 and the increase in the country’s indebtedness, will affect the public policy of the United States are not foreordained, but two consequences are virtually certain. One is that, in response to the surge in claims on the American government, commitments to retirees will eventually be modified. Americans will have to pay more to fulfill the obligations that the country has assumed. Taxation will ultimately increase, but since fulfilling the nation’s obligations, as they stood in 2008, to the letter would raise taxes to a level that would crush the American economy, entitlement programs will also be modified. Twenty-first-century Americans who are sixty-five or older will receive fewer benefits from the government than they have been promised.
Of the two major entitlement programs, Social Security will be the easier to modify—by some combination of raising the retirement age, changing the formula for cost-of-living increases in the stipend, and perhaps taxing the benefits provided to recipients with high incomes. If a group of people knowledgeable about the issue were to convene in a single room, it has been said, it would take them only ten minutes to agree on a formula for restructuring the Social Security program, and it would take that long only because the first seven minutes would be devoted to exchanging pleasantries.
Medicare
presents greater economic, political, and indeed moral difficulties: to restrict the growth of its costs will require rationing health care, which will mean denying payment for some therapies to some people, which will cause some of them to die sooner than they would have if the government had paid for all possible treatments. To say that such measures will be controversial is an understatement, and the controversy will unfold where issues of public policy are decided: in the political arena. This leads to the second predictable consequence of the tidal wave of economic obligations that will engulf the United States: it will transform American politics.
Ever since the late nineteenth century, economic policy has played a central and often a defining role in American political life. The Democratic candidate for president in 1896, William Jennings Bryan, who denounced American adherence to the gold standard because it injured western farmers, could easily have adopted the motto of Bill Clinton’s campaign slogan almost a hundred years later: “It’s the economy, stupid.” From 1961 to 1981 the politics of economic policy was dominated by an allegiance to a version of the teachings of John Maynard Keynes, the great English economist of the first half of the twentieth century. According to the then-dominant interpretation of Keynes, downturns in economic output can be prevented, or at least cushioned, by deficit spending by the government. (This strategy was revived by the Obama administration to deal with the economic crisis that began in 2008.) From 1981 to 2008 a different orthodoxy governed economic policy, one that holds that tax cuts are always good for the economy because they always lead to increased production.
The Frugal Superpower Page 2