03 February 2007

Quick Quiz

Government spending in the US -- Is it in deficit or surplus?


joe shropshire said...

Trick question, eh? Quarterly tax receipts have just been tallied, so I shall venture to guess that for January, the answer was "surplus."

David said...

It's a trick question, but that's not the trick. I'll rephrase: In 2006, was government spending in the US in deficit or surplus?

Hey Skipper said...

Surplus, if one includes Social Security taxes as receipts.

Oroborous said...

Deficit, since Social "Security" receipts can't be logically counted as current income, although they are surely spent as though they are.

Duck said...

Deficit, if you don't include Social Security taxes as receipts, which you shoudn't.

David said...

You absolutely should ignore the social security "trust fund" which doesn't exist, is a Big Lie and makes rational discussion of social security reform impossible. FICA money goes into general revenue and is spent just like any other tax revenue. The fact that the government issues itself special bonds certainly makes no economic difference and, I would argue, doesn't make any other kind of difference.

That being said, ignoring social security only gets you part of the way there. The US government still issued $186 billion in nonintragovernmental securities in 2006. Given that, was government spending in deficit or surplus?

erp said...

I'll stop by later for the answer. I'm guessing it's good news and would like to send it off to a friend who's about ready to convert to doubloons and bury them in his backyard. He's convinced that all the good news about unemployment, deficit reduction, etc. is contrived and the bottom is going to fall out even as we speak.

David said...

Well, the answer is that government spending is probably in deficit, by about $100 billion. The other trick, besides ignoring social security, is to look at total government spending, state and federal. Most states have to be in balance and, as a practical matter, run surpluses. Without 4th quarter data, it's hard to be sure, but in fiscal 06, the states as a whole ran a surplus of about $60 billion. Given very strong federal tax receipts in the 4th quarter (the December surplus was the largest ever, and on December 15 the federal government collected more money than ever on a single day) I expect that the states will do better for calendar 06.

David said...

Oh, I suppose it doesn't quite go without saying that a $100 billion deficit, on about $3.5 trillion of spending and GDP of $13 trillion, is an accounting error.

Oroborous said...

I would argue that spending FICA revenues like any other kind of revenues makes a BIG difference, since those revenues come with future obligations attached, which is why the bottom will fall out - but not for awhile.

We may well end up not paying out the SS and Medicare benefits that have been promised at 100% of face value, (a discounted payout is what Alan Greenspan has predicted will happen), but even so, the Feds are going to have to both increase revenues by a significant amount, and also borrow a boatload of money, in order to meet the demands of the retiring Boomers.

erp said...

So guys, is my friend right to bury his gold?

David said...

Let's talk about the nature of money.

Technically, the government doesn't have any money. "Money" is currency circulated by the government (let's ignore the Federal Reserve for a minute) and thus currency in the government's possession is not circulated and is, thus, not money. This is, in fact, reflected in the definition of the money supply:

[Money] consists of (1) currency outside the U.S. Treasury...; (3) demand deposits at commercial banks (excluding those amounts held by ... the U.S. government ... ).

So when we send our money to the government, it disappears. When the government spends (i.e., creates) money, a more or less corresponding amount of money reappears, but there is no actual connection between those two events. Economically, and leaving aside enforcement issues, it would be a perfectly sound system if we were to figure out our taxes on April 15, go get that amount of money from the bank, and burn it. The government could then just create new dollars when it needed to pay people or buy things.

Why then do we bother with taxation at all? Two reasons, tradition and fear of inflation. For the government to spend almost 20% of GDP a year without destroying a more or less equivalent amount of money would be incredibly inflationary. (Well, I say incredibly inflationary, but there is a school of thought that says that so long as government spending is predictable, it would be a workable system, amounting to a flat tax that caught wealth as well as income. I still think it would be disastrous.)

The fact that the government can't hold money has a couple of implications. The first is that the government can't save money. The second is that earmarking taxes for certain purposes is at best a budgetary convention and is usually a lie. The third is that, from an economic point of view, all taxes are general fund taxes. For the government to collect (i.e. destroy) a large amount of money without spending about as much would be as deflationary as spending without destroying would be inflationary.

It is theoretically possible for the government to invest money with private concerns, or to set up its own industries to compete with private concerns. I assume that we all realize that that would be disastrous, with the government now either controlling trillions of dollars worth of private industry or money being wasted left and right as legislators do favors for unions, constituents and lobbyists.

So the government has no real choice but to spend more or less what it "takes in." All these issues are why, in the end, privatization is the only way around the financial problems afflicting social security and Medicare and why, from an economics point-of-view we have to ignore the trust fund.

Two other quick notes about the supposed "obligation" that comes with collecting FICA taxes. First, social security is not a actuarially based program. There is no strong connection between age, time of service, income or life expectancy and social security benefits. Lured by the "surplus" (a concept completely at odds with any sort of actuarial pension or retirement plan) politicians have larded the program with "benefits" for non-participants. See for example, SSDI. It is only politically that social security is presented as an quasi-ERISA plan, and that presentation is used to block the reforms necessary to make social security actuarially sound.

Second, there is no "obligation" to pay social security. All Congress' are equal through time, which is just a way of saying that no past Congress can foreclose otherwise constitutional acts by the current Congress. In other words, any Congress is perfectly free to change or abolish social security. There is no enforceable "right" or "obligation" to receive or pay benefits except as Congress chooses.

There is, of course, a political reality that does force Congress to continue social security. But there are political realities that force all sorts of spending. For example, it is as predictable that we will continue military spending as that we will continue social security. But no one thinks that we need to have a military spending trust fund.

Hey Skipper said...

We may well end up not paying out the SS and Medicare benefits that have been promised at 100% of face value, (a discounted payout is what Alan Greenspan has predicted will happen)

My prediction is that SS will be means tested. So I fully expect that, despite my being poorer than I would have otherwise been due to FICA taxes reducing my ability to invest, that I will never see a SS dime, or at least lot fewer of them.

Which would make SS something more like an insurance plan, which is probably a smarter thing all around.

Unfortunately, dismantling a pyramid scheme is always going to be ugly somewhere. If my prediction is true, the ugliness will come at the price of penalizing virtue.


In one comment you have crammed far more information per sentence than it has been my pleasure to read for quite some time.

Why then do we bother with taxation at all?

In addition to what you have said, Bret mentioned another reason: to give money value, since the only way to pay taxes is through the government's specie.

Duck said...


That's an excellent explanation! I've never heard this topic put quite so succinctly or intelligibly.

I've become much less of a budget hawk the last two years - mostly because of the dollar and stock market collapses that didn't happen and the recession that didn't happen. It looks like the housing market has corrected without causing recession as well. Now Oro is the one who worries about the economy. What about the rest of us? Does anyone foresee recession in the next four years?

Oroborous said...


It depends entirely on what his timeframe is, and what he hopes to accomplish by burying the gold.

If it's a relatively small amount, and he's merely hedging against the collapse of purchasing power by nominal dollars, then yes, he's correct.

If he's hedging against the total collapse of the American or world economy, and he's converting all of his wealth to gold, and burying it, then he's almost certainly wrong.

Between now and 2050, it's my opinion that we'll see pretty strong inflation, for reasons that David included in his last comment - political pressures to fund Boomer retirements will force the Federal gov't to raise taxes, and higher inflation will ease the sting of paying those taxes, although it'll merely transfer pain to those on fixed incomes.

So if your friend can wait 30 years, then holding gold may very well turn out to be a great investment.

There is no enforceable "right" or "obligation" to receive or pay benefits except as Congress chooses.

There is, of course, a political reality that does force Congress to continue social security.

The first sentence is technically true, but it's a legalism, an analysis based on a useful model of reality. But models aren't the thing that they simplify, they're merely helpful in understanding what they symbolically depict.

The second sentence is reality where the rubber meets the road, at the Hobbsian interface between abstract and action.

Unfortunately, dismantling a pyramid scheme is always going to be ugly somewhere. If my prediction is true, the ugliness will come at the price of penalizing virtue.

That's what I see happening as well.


The housing market hasn't corrected. It's just starting to correct. That's why I worry about the economy.

M Ali said...

Yeah, JP Morgan has noticed a growing number of mortgage defaults. Some market correction is due.

Still, about ten years ago, SE Asia was in the toilet, Japan had a $1 trillion in bad loans and the US had just been through the LTCM hedge fund scare.

There's no real reason to be to be too pessimistic. Even the Boomer retirement is something that will gradually be adjusted to. International trade is set to grow and grow.

erp said...

Thanks all for sharing your wisdom. I'll pass it on.

M Ali, although our local real estate market may not perfectly reflect the greater one, the mortgage defaults here in central Florida are mostly among the greediest speculators who borrowed heavily to cash in on the boom. Now they're left with a dearth of buyers and plethora of mortgages.

The local banks, many of which sprouted up at about the same time as the housing market, are as much to blame as the speculators.