Tuesday, January 26, 2010

Spending Freeze is Going to Help, Right?

Well, Obama has finally come up with a marginally good idea, a spending freeze. Now before you get too excited lets go over some numbers. First, Federal spending is at about $3.6 trillion (or $3500 billion). Federal revenue (taxes) is at $2.3 trillion. What is being frozen is not the $3.6 trillion, no, that would be too easy. That $3.6 trillion is made up of a lot of mandatory spending: Interest on Debt, Social Security, Medicare, Pensions, Veterans Benefits, etc. None of that will be subject to the spending freeze. These account for more than $2 trillion of total spending.

Plus there is the biggest non-mandatory budget item of all: Military (odd how that is since unlike the mandatory spending above, the Constitution actually grants the government power to make war). That is around $700 billion. Which only leaves just under $700 billion of discretionary spending that could be frozen. Except that isn't even what is being frozen. There is some security spending (Homeland Security, etc.) which is also not subject to the freeze. So the only thing that is being frozen is about $450 billion in spending.

And this will save us $15 billion next year. To put this in perspective we are going to put a freeze on 13% of spending, and save 3% of that 13%, which makes a grand total of 0.4% of the total US budget. That is the equivalent of my family deciding to go to McDonald's instead of Applebee's 1 time next year.

Let's be honest, we really don't concern ourselves with 0.4% savings in our daily life. We make accounting mistakes bigger than this. We spend 0.4% of our income on lots of things throughout the year that we never planned on. That kind of money quickly evaporates when something unexpected like a parking ticket happens. Coincidentally, the US got a "parking ticket." Turns out the Stimulus Bill (which we're still waiting for those jobs to materialize) is going to cost $75 billion more. Uh-oh, that would put it over the $800 billion threshold that it had to be under to get the final votes to pass it. Does this mean we get a do over?

So, to sum it up. Obama's freeze (if it actually stayed in effect) would save $250 billion over the next 10 years. Before the freeze is even in place, we have chipped away $75 billion of it. Anybody have a guess as to how the economy is going to react to the tax increase that is happening next year (or as some would put it - the return of tax rates to normal)? According to the Budget Office's projections, everything looks rosy for the next 10 years! Oh yeah, and these discretionary programs got an increase of 10% last year so it is not like they are hurting for money. In the end, sure I support the freeze (as long as it really does result in less spending), it is just a hollow promise that won't do anything to affect the deficit.

This perfectly illustrates one of the problems that we have with Budgeting for the US. None of the projections are remotely realistic - even only going out 1 year. Somehow in 2011, the laws of economics (for both Keynesians and Austrians) are going to be suspended and tax rates will go up (substantially in some cases) thereby causing an increase in revenue to the government, and at the same time, business will be booming (as evidenced by an almost doubling of the corporate tax revenue from 2010 to 2011). Does anyone believe that all of the Bush tax cuts will be allowed to expire? In an election year? Does anyone believe that taxing people more causes business to grow?

America needs to grow up. If they really want to get rid of the deficit and the debt, some sacred cows are going to have to be touched. Either we need more tax revenue and/or we need less spending (and not on the order of 0.4%). Tax revenue can increase in two ways. 1) Raise taxes - not a popular idea, and economically it will produce an immediate increase, however over the long run, tax increases tend to depress the growth engine. 2) Enact policies that increase GDP (which may mean tax cuts) - these usually lead to lower tax revenue immediately (simple math if you make $100000 and I get 20% this year and 15% next year then I have less money next year), however in the long run, those extra funds in private hands will drive the economic engine to produce more - hence revenues will eventually rise.

Spending is the key. For one, it is something that the government actually has control over. If you are looking at cutting the deficit, then spending needs to be cut by $1 trillion. Simple math will tell you that if you only cut 100% of the frozen budget (i.e. $450 billion) you are still not even halfway to $1 trillion. So some of the other stuff needs to be cut. Cutting Social Security isn't going to do much. Currently SS taxes bring in almost enough to pay for the outlays (until 2014). So completely eliminating SS will be a net change of zero (although, I fully support eliminating it).

How about Medicare and Medicaid? Oh, I am such a heartless schmuck to even suggest it. Well, that would cut the deficit in 2011 by $500 billion. So between Medicare, Medicaid and non-security discretionary spending, we eliminate almost $1 trillion. Surely, we could find another $50 billion from the Pentagon's budget. What would this do for the working poor in America that politicians love to put on the pedestal. Well, just in the payroll taxes alone, they would get a 7.65% payraise if you don't count the employer contribution (adding in the employer contribution then you get 15%). Don't you think the poor (and every working American) could use a 15% pay raise?

But what about the people that depend on SS and Medicare? Tough, the government shouldn't be in the business of compassion. Let the private sector handle. It does it better and more efficiently. And when I give money to XYZ Charity, I usually don't have to worry about them taking me for a sucker. Someone has to make the hard decisions. Not a single politician today is going to do it. Medicare is already paying out more than it brings in, SS will be in 2014. If I were less than 50 years old, I would make sure that I had some other means of retirement, because these two programs will not be there when you retire. For those who are younger, put money into investments that are not subject to payroll taxes. You're going to need it.

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