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U.S. Debt Impasse: Fake and Real, The Republican Legacy

Politics / US Debt Aug 03, 2011 - 11:39 AM GMT

By: Gary_North


Diamond Rated - Best Financial Markets Analysis ArticleThe debt ceiling agreement that came over the weekend will raise the ceiling by $2.1 trillion – enough to get this issue off the political table until January 1, 2013, which was Obama's desire.

The House called the bill the Budget Control Act. It was the budget out of control act. It is 74 pages long. No one in Congress had time to read it. Typical.

There will be guaranteed spending cuts of under $1 trillion over the next decade, meaning under $100 billion a year, with most cuts coming late in the decade.

There will be a new bipartisan committee set up which will somehow find an additional $1.5 trillion in spending cuts over the next decade. That's a total of under $250 billion a year, all imposed late in the decade-long process, unless Congress changes its mind later, which is likely.

What if the committee fails to act, or Congress fails to act by late December? On January 1, 2013, cuts will begin: $1.2 trillion. They will be distributed 50-50 between defense and domestic spending. Untouchable will be Social Security, Medicaid, veterans' benefits, federal pensions, food stamps, and unemployment benefits. Medicare can be cut 2%, but health care providers must bear these cuts, not Medicare recipients.

If the fiscal committee took no action, the deal would automatically add nearly $500 billion in defense cuts on top of cuts already made, and, at the same time, it would cut critical programs like infrastructure or education. That outcome would be unacceptable to many Republicans and Democrats alike – creating pressure for a bipartisan agreement without requiring the threat of a default with unthinkable consequences for our economy.

The White House press release did not say that these cuts will come all at once. If they did, most of the Defense budget would disappear: $500 billion out of $700 billion. So, the cuts will come over ten years. The press release did not say this, but that is its implication. No one is about to shut down the Defense Department. The threat is not credible.

Republican leaders in the House caved in to the debt ceiling increase. Democrat leaders in the Senate caved in to a hike with no tax increases.

Lest we forget, a decade ago, the Federal government ran a surplus of $128 billion. It took Social Security revenues to accomplish this, but it still was an on-budget surplus. Beginning in fiscal 2010, as I had predicted, Social Security has been running an annual deficit. It makes the on-budget deficit look worse. This is more accurate than before.

Tea Party Republicans who are new to the affairs of the Washington Beltway have been handed a psychological setback. They had hoped that the House would stand firm. The House was in a position to force a Constitutional crisis, by forcing Obama to assert control over spending despite the debt ceiling. But this hope was almost sure to be betrayed. The capitulation of the House was an extension of Republican policy.


In fiscal 1971 and 1972, Richard Nixon ran back-to-back deficits of $23 billion. This was unprecedented. Nixon was overseeing the Vietnam War. He was trapped by the first recession since 1957. As he admitted, he had become a Keynesian. So, he took the nation off the international gold standard in 1971, as deficit spending increased. But then there was an economic recovery. The deficit fell. In 1973, it was $14 billion. In 1974, it was $6 billion.

Then the 1975 recession hit. A tipping point took place. In 1975, the deficit was $53 billion. In 1976, it was $74 billion. These were unprecedented deficits in peacetime.

I joined Ron Paul's staff in June of 1976. He was defeated by fewer than 300 votes out of 180,000 in November. But in my brief period in Washington, I became convinced that America had begun the transition from a creditor nation to a debtor nation. Without the remains of a gold standard, the last restraining force was the bond market. I did not think this would be enough to bring the Federal government back to anything resembling fiscal sanity.

In early 1977, I predicted in my newsletter, Remnant Review, that the annual Federal deficit would reach $200 billion in 1984. That was considered highly unlikely at the time. Yet I was too conservative. The 1983 deficit was $208 billion.


We can see what happened under Reagan. His first year was 1981. The deficits were in billions of dollars. We can see the transition: from Carter (1977-1980) to Reagan. Carter had a recession in 1980. Reagan's recession began in 1981 and extended into 1982. Then came Armageddon.

1977: 54
1978: 59
1979: 40
1980: 74
1981: 79
1982: 128
1983: 208
1984: 185
1985: 212
1986: 221
1987: 150
1988: 155

Reagan completed the undermining of the (undeserved) Republican tradition of being opposed to deficits. George H. W. Bush continued this tradition of record-breaking deficits.
1989: 153
1990: 221
1991: 269
1992: 290

George W. Bush did even more to undermine the Republicans' supposed tradition of fiscal responsibility. He had one year of surplus, a legacy of Clinton's economy, though of course bolstered by Social Security receipts, as all of these figures are.

2001: +128
2002: 157
2003: 378
2004: 413
2005: 318
2006: 248
2007: 160
2008: 459

Reagan's deficits made it clear that Ford's deficits had indeed been the tipping point for the government. There was no longer any threat of foreign governments demanding gold as a way to protect themselves against the decline of the dollar due to Federal Reserve inflation to purchase a growing portion of the rising Treasury debt.

When the 1982 Mexican banking crisis hit on Friday, August 13, 1982, Volcker over the weekend reversed the Federal Reserve's tighter-money policy, which had begun in the fall of 1979. That was the beginning of a new era of Federal Reserve inflation, which was accompanied by a decline in the purchasing power of currencies worldwide.

In 2004, Harry Browne summarized Reagan's legacy on Federal spending.

Few people may remember that when Ronald Reagan took office, the federal budget was only $678 billion. During his 8-year tenure, the budget grew by 69% – on its way to today's $2.3 trillion budget.

The annual average increase in government during Reagan's administration was 6.8%, compared with "big government" Bill Clinton's average annual increase of 3.6%.

Reagan promised to balance the budget within his first term. Instead, the annual deficit rose from $79 billion to $212 billion in that first term – and the Reagan years added $1.9 trillion to the federal debt.

Reagan is known as a tax-cutter, and the term "Reaganomics" implies dramatic cuts in tax rates. But after pushing through a tax cut to be implemented over three years, he cooperated during the second year in the largest tax increase in American history up to that time. The nation's annual tax load increased by 65% during his time in office.

The Republicans after Nixon could no longer be taken seriously as defenders of fiscal responsibility. That reputation was not deserved anyway. Bipartisan spending became a way of political life on December 8, 1941. But political rhetoric is important, and Republican rhetoric until Nixon was in favor of balanced budgets. Then came his admission of Keynesian views.

What we have seen ever since is the Republicans' capitulation on spending. The 1995 attempt to resist the debt ceiling deadline ended in a complete surrender to Clinton. It has ended even earlier this year. The House's 1995 holdout did last a few days after the ceiling was hit. This time, it did not.

So, we should not regard the enormous hike in the debt ceiling as anything but business as usual. Under Reagan, the debt ceiling was hiked 18 times. People forget.


The media blamed the Republicans in the House for brinksmanship. It was, indeed, but not in the way that the media wanted the public to understand.

The phrase "brinksmanship" was applied by the media to the foreign policy of the Eisenhower Administration. The media reported that Secretary of State John Foster Dulles was using strong rhetoric against the USSR, thereby moving America to the brink of nuclear war. It was all fake. Dulles was in fact a one-worlder.

He was a one-worlder from his days as Woodrow Wilson's legal counsel at the 1919 Versailles peace conference.

He was a one-worlder in religion: a liberal Presbyterian, as was his father, who taught theology in a liberal Presbyterian seminary. He was the defense attorney for John D. Rockefeller, Jr.'s favorite minister, America's most famous liberal preacher, Harry Emerson Fosdick, at Fosdick's 1924 trial for heresy. Dulles won.

He was a founder of the World Council of Churches in 1948. He had begun working on this project in 1937.

He was a one-worlder in his profession: a fabulously wealthy international lawyer, who did deals with the Nazis in the 1930s until his staff finally revolted. Even after this revolt, he continued to do it on the sly. (For the real story of the Dulles brothers, read John Loftis' book, America's Nazi Secret.)

He was a one-worlder when he was chairman of the Carnegie Endowment for International Peace in 1946. He had demanded the appointment of Alger Hiss as president. Hiss had been a Soviet spy. Dulles in 1946 had been warned about Hiss's Soviet connection, but he ignored this. (The best book on this is Alan Stang's The Actor.)

He was a trustee of the Rockefeller Foundation, 1935-53.

He agreed entirely with Truman's Secretary of State, Dean Acheson. He wrote in his 1950 book, War or Peace, this stirring call to action: "The United Nations represents not a final stage in the development of world order, but only a primitive stage. Therefore its primary task is to create the conditions which will make possible a more highly developed organization."

But the mainstream media love to create kabuki theater. So, they invented the myth of Dulles' brinksmanship.

The same media game goes on today. The rhetorical battles in Congress over the last few weeks have centered, not on the deficit itself, but on issues beloved by the two parties. The Republicans want reduced tax rates for the rich. The Democrats want increased taxes imposed on the rich. Both parties claim that their policy will be good for the middle class.

The Republicans say that reduced taxes on the rich will lead to increased capital formation, which will bring down unemployment. The Democrats' electoral base is perceived by Democratic leader as responding to appeals against the fat cats.

The winners, as always, are the big banks, which are cleaning up with short-term interest rates (T-bills and Federal Funds) at well under 0.25%. They can borrow short and lend long. So, profits of the large banks are high. The carry trade is once again alive and well.

Meanwhile, Main Street is still in crisis mode. Unemployment is rising. Uncertainty regarding medical insurance costs is widespread. The safest thing for a small business to do is either avoid hiring or hire temps.

There was never any danger of an actual default on the debt, which is why stock and bond markets did not tank, and why Treasury rates went down on Friday, July 29. Mid-term and long-term rates fell in July. Sophisticated investors knew that the gridlock was for show, that the two houses of Congress would work out a compromise, and if they somehow failed to do so by August 2, they would within a short time.

The central economic issue is the Federal debt, not the debt ceiling. The size of the increase indicates that Congress and the President have no intention of cutting spending. They were under siege from constituents. Politicians were receiving letters from constituents on Medicare. The ratio was 100 to one against cutting Medicare payments. This was what nine Senators told John Mauldin, when Mauldin spoke to them informally for 90 minutes on the debt problem. Here is his summary.

They made it clear that getting it done is going to be very hard, and it will take real commitment from men and women like them to get us through this. They all noted that their mail was running 100 to 1 against cutting Medicare. Every one of them. They know that they cannot close the deficit gap just with the elimination of the Bush tax cuts. And I think I convinced any who weren't already, that not getting the deficit under control means Depression 2.0 and a disaster.

The debate in 2012-13 will be, how much Medicare do we want and how do we want to pay for it? Sadly, I think the only way is with a VAT (value-added tax), since less than 50% of citizens pay any income taxes now. Want to run on a program of taxing the "middle class?" Didn't think so. Want to run on a platform of cutting Medicare? That is not a winner either. We are at an impasse.

He is correct. We are at an impasse. We are not facing gridlock. We are facing the steady decline in the Treasury's credit rating. We are facing a crisis in the financing of the deficit. We are ultimately facing a test of the solvency of the welfare-warfare state. But this will not play out in 2012. I think it will be much clearer in 2016.


That is Larry the Cable Guy's mantra. It has been the mantra of voters all through this political posturing over the debt ceiling.

Americans think there is a way for Congress to settle the debt issue. They saw through the parties' kabuki theater positioning on the debt ceiling. The House voted overwhelmingly for the compromise bill: 269 to 161. So did the Senate: 74 to 26.

What Congress cannot work out is the debt crisis. It really is a crisis, but it is not perceived as a crisis by voters. So, it is not yet a political crisis.

The magnitude of the debt ceiling settlement points to the politically inescapable nature of the impasse. The voters believe that the impasse is political, in the sense of partisan, in the sense of Washington partisan. They are wrong. The impasse is fundamental. It is political in the sense of rival demands by the same voters. The voters all want the bankrupting welfare programs: Medicare, Medicaid, and Social Security. Republican voters also demand a large defense budget, and a majority of Democrats in Washington always vote with the Republicans on this.

The political impasse has to do with voters' expectations. The politicians ever since 1965 have made promises that cannot be met: stable prices, Medicare benefits, and a solvent government. This is true throughout the West, including Japan. The bills are now coming due. The voters demand that the promises be fulfilled by the government at pain-free tax rates. This cannot be done if Treasury interest rates rise. Ultimately, it cannot be done even at low rates. Social Security and Medicare are both in negative cash flow conditions.

The voters think deals can be worked out to deliver on the promises at low prices. At some point, reality will set in. Then the real political battles will begin.

There will be a default. It is not clear who will win, i.e., who will lose less.


The ease of the weekend resolution of the debt ceiling mini-crisis will reinforce the voters' belief that there are always pain-free ways to get out of a seeming impasse. This is misleading. It will lead most Americans to make very bad investment decisions and retirement decisions.

Be prepared.

Gary North [send him mail ] is the author of Mises on Money . Visit . He is also the author of a free 20-volume series, An Economic Commentary on the Bible .

© 2011 Copyright Gary North / - All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

© 2005-2019 - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


14 Aug 11, 20:35
The economy

The only answer to the economic problem, is to mirror that of National Socialist Germany. They turned their economy around in four years!!! The Democrat and Republican parties can't fix it, .... they CREATED IT!!!!

14 Aug 11, 21:30
4 to 14 years

and in 14 years destroyed not just the economy but the whole country and much of Europe.

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