Can the Federal Government Avoid Bankruptcy?

The ultimate economic catastrophe for citizens of the United States of America would be a default by the Federal government. As far as I know, the government of the U.S. has never defaulted, not even during the Great Depression. Scenarios leading to default are unlikely. However, given the current situation I think we should consider the possibility in a serious manner, if only to avoid the eventuality.

The federal government is deeply in debt. Despite a fair degree of economic growth from 2002 until 2007, the debt expanded rapidly during this period. As of today the debt clock puts that debt at about $9.4 trillion (That is 9.4 thousand billions. Billions are thousand millions). That is about $31,000 per person living in the United States.

Instead of increasing taxes (or decreasing expenses) this year to get the budget in balance, Congress in its election year desire to get re-elected decided to send every adult taxpayer in the U.S. a $600 refund, plus some more dough for child dependents.

Now the really scary part. This is going according to plan. Only the plan was made by Osama Bin Laden. It might seem ludicrous that a 2 bit terrorist made up a plan in the 1990's that could make the U.S. default on its debt at some point in the future, so before I detail that story we should look at what it takes to make a national government go bankrupt. Because national governments have gone bankrupt in the past, and it could happen here.

Suppose the U.S. continues to run up debt, only interest rates on the debt rise. They would rise if confidence were shaken enough. Suppose they rise to a scary (but not unprecedented) level, say 10%. Suddenly the government would need a trillion a year just to cover interest.

Now suppose that at the same time the economy tanked. We'll call a 25% tank extremely serious, but not impossible. In fiscal 2007 the federal government collected $2.4 billion in revenue. Reduce that by 25% and you have $1.8 billion. So, in our doomsday 10% interest with 25% revenue reduction scenario, if the budget were balanced and the interest were paid only $0.8 billion would be left for everything else, from the Pentagon to federal earmarked projects that use tax dollars to buy votes for incumbent congressmen.

But federal policy since FDR is to spend, spend, spend the nation out of recessions and depressions, because otherwise a political party's goose would be as cooked as Herbert Hoover. Since taxes would not be raised, the money would have to be borrowed. At 10% interest. In a year or two the full faith and credit of the U.S. government would be finished. Kaput. Zero.

Wait a minute, did I not say the feds did not default even during the Great Depression? That's right, but then was then and now is different. The Federal Government entered the Great Depression almost debt free (most of its debt in 1929 was from World War I expenses).

Any way, at that (currently imaginary) point something has to give, and all options are bad. Raising taxes would hurt the economy, although it might restore investor confidence in U.S. bonds. The Fed could print money, and that might not even cause very much inflation in a depression economy, but it might just give the country depression plus inflation, as happened in Germany after World War II and to a lesser extent in the U.S. after the Vietnam War ended. At some point Congress will have to choose between defaulting on bonds, raising taxes, and cutting domestic and military spending to the bone.

And Al-Qaeda wins. Cutting back military spending means that the U.S. global military empire falls apart. Keeping up military spending would mean defaulting on bonds, and the U.S. global economic empire would collapse. Raising taxes would be the least best option for Al-Qaeda, but would make Americans really angry and could kill what was left of the economy. Al-Qaeda wins.

So let's just review how Al-Qaeda sees the world. Islamic militant fanaticism is not something new. What is new is that these guys can read more than the Koran. After the army of the U.S.S.R. withdrew from Afghanistan (where it had supported a secular, non-Islamic government) Western analysts said the real cause was economic. Not that Osama and crew were not fierce fighters, or that the advanced technologies the CIA equipped them with weren't a bother for the Soviet army. When the Soviet Union later collapsed, its emphasis on military rather than consumer spending was given (by Western analysts) as a leading cause.

So the guys at Al-Qaeda, enjoying war and wanting an excuse to continue their lifestyles, picked a new enemy. But they re-used the plan from the prior war, because it worked.

They wanted the U.S. out of Saudi Arabia. They wanted the U.S. to stop backing the governments of Egypt, Pakistan and Israel. They were aware that the U.S. economy was far larger than the Soviet one. So if the Afghanistan war took years to win, the War Against the Christian Imperialist Dogs (what we call the War on Terror) might take a couple of decades to win. And it did not require them to conquer the U.S. Just as they did not conquer the Soviet Union.

All they needed to do was bankrupt the U.S.

Which is what has been happening with the U.S. wars against Afghanistan and Iraq.

Al-qaeda has no better friend than George W. Bush. He decreased taxes and greatly increased military spending. The very things that could still lead, eventually, to a default on U.S. government issued bonds.

America's long-term economic and military strength depend on keeping the federal debt at a manageable level. And while many variables go into that equation, the most important thing to restore confidence in the economy is to get the U.S. military out of Iraq and Afghanistan ASAP.