The Center Cannot Hold

The biggest single threat to U.S. finances is the future tab for providing Medicare health coverage to baby boomers. This group now represents about one-quarter of the U.S. population — 76 million of 300 million people. The oldest of them begin to age into Medicare eligibility in 2011.

The unprecedented retirement “tsunami” is putting the nation’s debt on track to overtake the size of the economy within decades, growing to six times GDP by 2080, Treasury predicted in the last issue of the Financial Report of the U.S. Government for Fiscal 2007. The 2008 report is due out Dec. 15.

“Current trends are not sustainable,” Treasury said in the 2007 report. “At some point before the debt reaches such unprecedented levels, the world’s financial markets would likely cease lending to the United States.”

‘Hamilton’s Blessing’

At this moment, that dire prediction may seem quite hard to believe.

Even as Democratic leaders see the need to inject hundred of billions quickly into the flailing economy, investors seem perhaps more hungry than ever for Treasury debt. They are willing to accept increasingly smaller returns on their investments in U.S. debt, still considered one of the safest places to park one’s money. Interest rates on four-week Treasury bills in fact fell to zero on Dec. 9. The average interest rate on U.S. Treasury bills fell by more about half from 6.3 percent in November 2000 to 4.2 percent in November 2007 — and then plunged by more than 70 percent to 1.2 percent in November 2008. And sales are still brisk.

“We have no trouble selling Treasury securities at this point,” said John Steele Gordon, author of the 1997 book, “Hamilton’s Blessing: The Extraordinary Life and Times of Our National Debt,” in an interview.

Indeed, some of the credit for the strength of U.S. Treasury debt today belongs to Alexander Hamilton, the nation’s first Treasury secretary (1789-95) and a Founding Father.

A self-made man, born on the British West Indian island of Nevis, Hamilton fought aristocratic Virginians to determine how the new nation would handle its finances. He did a little trading, too: he relinquished the right for New York, his adopted hometown, to be the U.S. capital. In return, he got Thomas Jefferson to finally agree to his plan for the federal government to assume the debts of states incurred during the Revolutionary War.

Jefferson would later characterize this battle as “the most bitter and angry contest ever known in Congress, before or since the Union of the States,” Federal Reserve Chairman Alan Greenspan said in a 1996 speech.

Hamilton’s most important contribution, however, may have been insisting on full payment on the new nation’s debt. His rivals sought to favor some lenders over others and scale their payments. “Hamilton recognized, and we should never forget, that investors have many choices on world markets,” Greenspan said. “Even the whiff of the possibility that the United States would not honor its debt would push up the cost of borrowing for years to come.”

The payoff for that pledge to honor debt came quickly, according to author Gordon. Within a few years, U.S. bonds were considered so safe they were selling above par in European markets.

“Brisk trading in government bonds brought capital markets into existence in this country for the first time, and both the New York and Philadelphia stock markets began in 1792,” he wrote in a September 2008 editorial for U.S. News and World Report.

Debt and Demographics

However, Hamilton probably never envisioned Medicare, Social Security or the baby boom. The oddly skewed U.S. population has helped pay the spiraling costs of health care for the nation’s elderly in recent decades, without requiring too much sacrifice from its citizens. In fact, the nation has been supplementing its budgets in recent years with surplus funds from Medicare and Social Security, money left over after the costs of these programs are covered.

These excess funds flow into the Treasury, which issues special debt securities to the trust funds for Social Security and Medicare. Known as intragovernmental holdings, this kind of borrowing within the federal bureaucracy accounts for about 40 percent of U.S. debt.

But the United States will lose that cushion of excess Social Security taxes by 2017, and is already paying more for hospital benefits under Medicare than is being collected in taxes. General revenues will be needed increasingly to support these programs: that almost certainly will lead to more borrowing, and increase the debt.

“This is an enormous burden to place on our children and reduces their ability to address the challenges their America will face,” said Charles Konigsberg, chief budget counsel for the Concord Coalition. “Additional deficit spending should be done with this sober reality in mind.”

Big Bills, No Savings

Even before the expected rise in debt to pay for the baby boomers’ Social Security and Medicare costs in the coming decades, the United States has been spending more — each month — on interest payments of the federal debt than it does on five federal departments combined: Education, Justice, Labor, State and Homeland Security.

The amount spent on interest on Treasury debt securities equaled 18 cents of each dollar in the $2.52 trillion in federal receipts in fiscal 2008, which ended Sept. 30. To put that in perspective: At least half of U.S. households earned $50,233 in 2007. If a married couple earning this median income handled money like the federal government does, they would pay $9,041.94 a year in interest on their debt.

Now, imagine this couple is just a few years from retirement , and add $350,000 in liabilities to the picture.

The Peter G. Peterson Foundation estimates each American’s share of the nation’s liabilities at $175,000, when future promises for retirement benefits are added to the current debt. Former Commerce Secretary and longtime debt hawk Peter Peterson last year created the foundation to try to rally the public into forcing Congress to address the expected bills to stem from retirement costs. He recruited former Government Accountability Office chief David M. Walker to lead it. Walker already had been working with the Concord Coalition, the Committee for a Responsible Federal Budget and others to make the general public more aware of these looming costs.

“The country has promised more than it can deliver and it is living beyond its means,” said Walker, whose work was featured in the documentary, “I.O.U.S.A.”

Other nations, including Germany, Canada and the United Kingdom, overhauled their entitlement programs in the 1990s, and that’s where this country is heading, agreed Carmen Reinhart, an economist at the University of Maryland. Such changes involved raising taxes and reducing future benefits. Canada beefed up payments into its national pension by about two-thirds, from 5.9 percent to 9.9 per cent, according to a GAO report.

“Take a good look at what the Canadians had to do in the mid-1990s. They had to do a lot of belt tightening across the board,” she said. “This is our neighbor to the north, I am not talking about an exotic place.”