By George Noga

Many months have passed since I wrote about the US debt crisis. Inasmuch as this is the signal event of our time, an update is in order along with a few words about Europe’s crisis.

Alas Babylon is from the Book of Revelation (18:10) and predicts the destruction of the great, wealthy and mighty Babylon in atonement for its grotesque excesses. Readers also will recognize Alas Babylon as the title of a 1959 post-apocalyptic Pat Frank novel set in central Florida following a nuclear war. Whether from the Bible or the novel, the Alas Babylon metaphor is apt.

“They will with weeping and mourning cry out: Woe! Woe, O great city, where all became rich through her wealth! In one hour she has been brought to ruin.” (Revelation 18:19)

It is bien entendu that European leaders will continue to kick the can down the road until the road ends. Their immediate goal is to kick the can to at least the fall of 2013 after national elections in the USA, France and Germany and presumably when Obama, Sarkozy and Merkel are comfortably ensconced for another term in the White House, Elysee Palace and the Palais Schaumberg respectively.

Every significant action thus far has been directed at bailing out governments and banks rather than addressing the underlying causes of the crisis. That really is all you need to know about the European debt crisis. When there are massive riots and strikes, that will be your clue that meaningful actions have been taken to address the root causes of the crisis; until then, forget about it.

The Debt Crisis in Babylon – Err, the United States of America

According to the GAO for FY ended September 30, 2011, the US government had $2,364 billion ($2.4 trillion) of revenue. Expenses of $3,676 billion ($3.7 trillion) are approximated below by component. The deficit (revenue less spending) was $1,312 billion, or $1.3 trillion.

FY 2011 Government Spending

Medicare/Medicaid   $ 740
Social Security              782
Mandatory                      640
Interest (net)                  251
Total Mandatory      $2,413
Defense/Security         768
Discretionary                495
Total Spending       $3,676

One thing jumps out in the above summary. Total mandatory spending of $2,413 billion was higher than all government revenue of $2,364 billion by $49 billion. This means even if we cut 100% of defense, security and discretionary spending, we still would have a deficit of about $50 billion.

I urge readers to examine the numbers and see where you would cut $1.3 trillion to balance the budget. But wait, I’ll make it easier for you. To merely freeze the budget deficit at its current level of 100%, you need to cut only about $800 billion.

“Merely to temporarily freeze the deficit at 100% of GDP requires immediate cuts of 30% to Medicare, Medicaid and Social Security – with even more cuts required later.”

So, where do you cut $800 billion? I’ll provide one example. We begin by reducing defense and security by $100 billion; this is the maximum that can be cut given the huge cuts already made there. Next we cut discretionary spending in half, saving $250 billion. This still leaves us $450 billion short. Interest and mandatory (pensions) cannot be cut; this means we must reduce Medicare, Medicaid and Social Security by 30% each to arrive at our $800 billion.

Moreover, the demographics of Medicare and Social security get worse each year and even deeper cuts are needed in future years. Perhaps now you understand what a truly desperate situation we are in. Let’s look at some other alternatives.

Increase Taxes

Regular readers understand tax increases within the existing tax system may reallocate the tax burden but cannot raise more total tax revenue. This is, inter alia, because of Hauser’s Law which shows total tax revenues never exceed 18%-19% of GDP whether tax rates are 28% or above 90%. If we go outside the current system with a VAT (or similar) tax, it would wreck the economy. If we tried to raise $800 billion a year through a VAT, it would require a 20% rate that would take an average of $11,400 each year from every tax paying household.

There are 70 million taxpaying households in the USA and $800 billion in new taxes divided by 70 million works out to $11,400 each. As I said, this would bring about economic Armageddon. How much of a 20% VAT do you want and what would you do if your household income was reduced $11,400 every year? Now you see why this can’t work.

Inflation

There are those who advocate inflation. Putatively, 7% inflation for 10 years will halve the debt in real terms. Unless we also took simultaneous steps to slash the deficit, inflation would not work as we would continue adding to the deficit at a rate equal to or higher than the inflation was reducing the debt and we would be worse off.

Moreover, inflation would savage those on fixed incomes and create more problems than it ever could solve. Finally inflation would massively increase our interest on the debt as inflation is a big component of interest rates.

Is it Inevitable the US Suffers the Same Fate as Babylon?

There is only the slimmest reed of hope. The only way to avoid the fate of Babylon is through a decade of incredibly robust economic growth that can be brought about solely through Draconian budget cuts, entitlement reform, tax reform and regulatory reform. The solutions all are hanging out there but require immediate and bold political actions; they include ALL of the following:

• Discretionary spending cuts of the magnitude of 50% are required
• Cut Medicare and convert to individual, on-budget insurance supplements (Ryan plan)
• Medicaid must be reduced 30%, placed on-budget and block granted to the states
• Social Security reform including changing COLA, retirement age and partial privatization
• Repeal of Obama-Care
• Individual tax rates need to be lowered, flattened and deductions eliminated
• Corporate tax rates need to be cut to 10% flat with no deductions or corporate welfare
• Money kept abroad by corporations can be repatriated without tax
• Onerous regulations must be repealed and all future regulations voted on by Congress
• Domestic energy in its myriad forms is to be encouraged with no government roadblocks

If President Obama is reelected our fate is certain to be that of Babylon and sooner rather than later. Obama is an ideologue who will let nothing stand in the way of turning the USA into a European redistributive and socialistic state. In his mindset, an economic crisis is welcome because it may provide the only means for him to achieve his goal; a good crisis is never to be wasted. I shudder to think what Obama may do knowing he never again has to face voters.

“The debt crisis is ineluctable.”

We may be only marginally better off if Obama loses. Readers can assess for themselves the chances of all of the above-listed actions happening in 2013 assuming political power shifts in a new direction. Alas, even if the political landscape is more sanguine I can’t see much of a chance for immediate reform on the scale necessary to avoid Babylon’s fate – not to mention mustering the political will to stick with such an austere plan for ten or more years through several election cycles.

The debt crisis is ineluctable. You don’t need a weatherman to know which way the wind blows and you don’t need to be a whizbang economist to understand that we are staring Babylon in the face. All you need to do is look at the GAO FY 2011 results in this posting to understand how truly desperate is our situation. Taking some liberty with Revelation 14:8:

“Fallen! Fallen is Babylon the Great, which made all the nations drink the maddening wine of her insatiable debt.”

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