Pete Peterson, Secretary of Commerce for Nixon, chairman of The Blackstone Group, chairman of the Institute for International Economics and chairman of the Council on Foreign Relations (How’s that for a CV?) has written an article in Foreign Affairs entitled Riding For A Fall, which is adapted from his book Running On Empty: How the Democratic and Republican Parties Are Bankrupting Our Future and What Americans Can Do About It.
It’s a pretty damning article. First he lays out all the nasty facts:
* In short, the stunning effectiveness of the U.S. armed forces has come with an equally stunning price tag. For most of U.S. history, going to war was like organizing a large federal jobs program, with most of the work done by inexpensive, quickly trained recruits. Today, it is more like a NASA moon launch, entailing a massive logistical tail supporting a professionally managed and swiftly depreciating body of high-tech physical capital.
The Congressional Budget Office recently recalculated the administration’s projections…The results are eye-opening: total defense outlays over the next decade may cost 18 percent more than the administration’s official projection. Including interest costs, this excess amounts to $1.1 trillion in new spending…Even this number does not reflect the cost of any new military operations abroad, which three of every four Americans believe are “very likely” in “the next few years,”…
* He then goes on list all the unfunded homeland security issues that almost certainly need to be addressed, including: properly equipping first responders, costs to improve health-care capabilities over the next five years for radiation or biowarfare attacks (about $36 billion), reducing the threat posed by cargo containers ($20 billion upfront, plus recurring costs), improving our ability to deal with immigrants of both the legal and illegal variety and safeguarding critical infrastructure.
He concludes that section by saying, “For the first time in the post-World War II era, the United States faces a future in which every major category of federal spending is projected to grow at least as fast as, or faster than, the economy for many years to come.”
He then has this to say about our ongoing budget deficit:
* The United States is now borrowing about $540 billion per year from the rest of the world to pay for the overall deficit funding Americans’ consumption of goods and services and U.S. foreign aid transfers. This unprecedented current account deficit is paid for through direct lending and the net sales of U.S. assets to foreign businesses or persons: everything from stocks and bonds to corporations and real estate. The United States imports roughly $4 billion of foreign capital each day, half of that to cover the current-account deficit and the other half to finance investments abroad.
And then makes these observations:
* If nothing else were to change, borrowing would continue until foreigners accumulated all the U.S. assets they cared to own, at which point a rise in interest rates (choking off investment) and a decline in the dollar (choking off imports and stimulating exports) would gradually close the current-account deficit.
* The next dollar run, should it happen, would likely lead to serious reverberations in the “real” economy, including a loss of consumer and investor confidence, a severe contraction, and ultimately a global recession.
* Virtually none of the policy leaders, financial traders, and economists interviewed by this author believes the U.S. current account deficit is sustainable at current levels for much longer than five more years. Many see a real risk of a crisis. Former Federal Reserve Chairman Paul Volcker says the odds of this happening are around 75 percent within the next five years; former Treasury Secretary Robert Rubin talks of “a day of serious reckoning.” What might trigger such a crisis? Almost anything: an act of terrorism, a bad day on Wall Street, a disappointing employment report, or even a testy remark by a central banker.
*With the substantial fall in the exchange value of the dollar since the beginning of 2002, global investors may be telling markets that a partial readjustment of the U.S. current account deficit is overdue.
Finally, he looks at the coming tidal wave of medical and age related spending as the Baby Boomers reach retirement age. Compounding the problem, our European partners and Japanese bankers are facing the same demographic issues, only worse, due to higher social spending and lower birth rates. In short, they can’t continue to fund our deficits since that money is going to be spent at home. Nor are they likely to be spending more on defense or antiterrorism measures.
He ends with this warning, “Leading nations cannot indefinitely borrow massively from those they intend to lead. As the economist Benjamin Friedman puts it, “World power and influence have historically accrued to creditor countries.” Equally, leading nations cannot subscribe to a foreign policy that has been aptly characterized by historian Niall Ferguson as based on “the Wal-Mart motto: Always low prices.” Global security has never been guaranteed on the cheap–and that is unlikely to change in an age of fanatical passions and hand-held WMD.”
“The United States would greatly benefit from a serious and realistic discussion of the total cost of its long-term security agenda. It is a discussion that would lend welcome urgency to efforts to control the federal deficit, and, in particular, to reform ballooning entitlement programs. It is a discussion that would reconnect the domestic and foreign policy communities by requiring every policymaker to make a tradeoff: ‘How much am I willing to pay in tax hikes or benefit cuts in order to fund my security priorities?’ Most of all, it is a discussion that ordinary Americans would welcome. People know in their personal and family lives that they cannot call for new sacrifices or promise new benefits without carefully considering the consequences. Why, they wonder, should things be any different in national life?”
I am not an economist. On the other hand, his credentials as an economic analyst seem impressive. Outside of the issue of the war in Iraq, the budget defecit seems to me to be the single biggest issue facing the United States. Unfortunately, we’re not facing it. For four years we’ve been spending money like drunken sailors right after making a massive tax cut. We’re looking at a confluence of events that are conspiring to produce what Peterson calls, “a perfect storm”.
If I were budget director, I would try to stabilize then reduce military spending and raise taxes. I’d shoot for a balanced budget in four years and surpluses for the following years. I’d probably close many European bases and reduce the the rest to skeleton staff. Ditto Korea. Ditto Japan. Ditto Turkey. I’d also open Social Security accounts to allow them to be partially (fully?) investable in 401k type plans. I’d do whatever it took.
So what do you think? What should we do? If you were budget director, what would you recommend?