What’s Really Happening Here? – A Look From The Present Into The Future

By: William D. Truax

Once again, there’s substantial confusion in the economic arena. U.S. Treasury debt has been downgraded, the E.U. has got potential defaults on its hands; the rate of economic growth is slowing, stock and bond markets are roiled, etc. What’s really happening here?

What you’re seeing, unfortunately, are short-term symptoms of a long-term malady. The nature of the malady itself is simple; thinking about it and what might be done about it are not so easy.

We in America are in the midst of a long cycle which has, at its end, being reduced to a 2nd rate economic power, our people living with day-to-day uncertainties and beset by economic troubles. This cycle began about 50 years ago, and has maybe 5-20 years more to run before it “stabilizes” at a new and lower condition. The “stable” condition will be characterized by public and private corruption; a formal or de facto failure of many parts of the current social “safety net”; widespread joblessness and crime; and sporadic failures of goods- and service-distribution systems (e.g., spotty utility service, breakdowns in transport systems, failures in food production and distribution and intermittent unavailability of various goods or services). Other characteristics of this condition will be a general feeling that the currency and financial systems are partially worthless or manipulated, wide swings of regulation and an increasingly heavy hand by government.

Does this need to happen? No, but it will, given our current course. The solutions and programs which have been or are being advanced for the improvement of our economic condition have been proven to be unworkable. Don’t believe me or agree? Just take a look at our economic condition 30, 40 or 50 years ago and compare that with today – is there any substantive area (aside from the environment) in which our economic condition, as a society, is actually better? It stands to reason that, the “conventional wisdom” having shown itself to be unworkable, more of the same will be equally unworkable. What’s needed is not more of the same old same-old repackaged in the shiny fashions of the day or enforced with new ferocity. What’s needed first is a good idea of what actually has gone (and is going) wrong.

So, what’s really happening? Let’s look at it in terms of cause and effect.

The Cause

We, as a society, have lost track of the essential values of production and exchange. Without vibrant and increasing levels of genuine production, economic policy becomes a matter of rearranging the decks chairs on the Titanic. How did this happen and why?

For one, we have gotten this notion into our heads that somehow government can support us. It can pay for medical care for the retired, their pensions, food for the poor, medical care for the poor, stipends of various sorts to those who aren’t working or who won’t or can’t work, provide special subsidies and breaks to favored sectors, bail out failed businesses, and cover a host of other things such as defense, roads, a postal system, etc. Run the numbers for a bit, and it becomes clear that this cannot work. Right now, around 50% of the population of the U.S. receives some sort of government support and it’s clear that social security and Medicare will be bankrupt soon and stay that way. To those who advocate that we heavily tax the rich to help the poor, the sad facts are that: a) the top 10% of the income earners in this country already pay over 70% of the income tax; and b) even if you took all the income of the rich, it would only cover our current level of spending for a few weeks. Who pays the bill then?

The bottom line is not that our government is just broke, nor that it is running at a deficit. It’s running at deficits so huge that, at current rates of growth of government spending compared to growth rate in GDP (gross domestic product), it will only be a matter of some number of years before the Federal debt becomes greater than the entire production of the country. It’s obvious that this can’t continue on forever and something must change, but what and how?

As another point, we no longer give many of our children a workable education, rendering them largely unable to produce or exchange at anything more than the most basic levels. The people who run our schools seem (as a generalization) to be more interested in keeping the kids quiet and controlled than in seeing that they acquire the knowledge and ability to think sufficient to make them anything more than additional mouths to feed upon reaching adulthood. Unfortunately, widespread drugging of these kids has ended up as part of this program, and years of drug use only further damages their chances as adults.

As family units, we are losing our way as regards these children, too. Many adults are so busy that they hardly have time to feed and clothe their kids, and so have dropped out instilling basic values, such as some idea of personal responsibility, some sort of ethics or morality or insisting that they pull their weight as adults. The combination of these factors means we’re creating generations of dependents and potential criminals, rather than adults who can contribute to the overall wealth and well-being of society. It’s a simple but profound fact that, to the degree that we fail to instill a workable education and the values of a civilization into each generation, each generation will become that much more uncivilized than the last.

While this is going on, we’ve also been taxing the more productive members of society heavily enough that physical growth has been rendered impossible because money which otherwise would have gone to replacements and upgrades of plant and equipment now go to the government. Remember the Rust Belt? It became impossible to pay operating expenses, pay for new or upgraded physical plant, pay for the capital invested and pay the taxes too, so America’ manufacturing base has largely turned to rust.

This same taxation also impairs the willingness of many folks to produce at high levels. While there is indeed a rich class in our society who could afford to pay almost tax without materially impacting their lives, this class is numerically small; maybe no more than 1-2% of the populace. For the rest of the people who work or have businesses, the money gone to taxes is significant, and they start to wonder whether hard work is really worth it, or whether it might just be easier to slip down into the growing ranks of the dependent class and let someone else carry the burden.

Our “increases” of productivity over the past 50 years have been mostly the product of increased mechanization and computerization, all while more and more people are either rendered jobless or are reduced to lower paying jobs. This process only increases the demand for more “help” from the government while leading to stagnant real growth. What delusion leads us to believe that we can leave an increasing percentage of our population by the roadside jobless, dependent, possibly illiterate and maybe even morally clueless, and yet still imagine that we will somehow pull through as a society?

I could go into many further details, but the message is clear. Just like a household, a society cannot be made up of dependents; it cannot consume in excess of what it produces for extended periods of time. Financing this excess consumption requires lots of borrowing and interest, and if production (and the ability and willingness to produce) are not increased substantially, the debt continues to grow until something breaks down. Right now, the ratio of debt to GDP in the U.S. (including social security) is somewhere near 80%. When a household has a debt burden equalling 80% of all the money makes in a year, that break down results in the loss of a house or other assets, or bankruptcy. What happens in a society like ours?

The Effect

You, your financial stability, your ability to predict financial events, and eventually the economy itself will eventually all be subordinated to the need for government to service and/or control this debt load. You may say something to the effect of, “well, I know one way in which a household is different from our government – a household can’t print money”. So, can’t the government just print its way out of debt?

Unfortunately, it can to some degree, and will try to do so. However, the degree to which it can just print money is limited (see the recent debates about raising the debt ceiling and the downgrade of U.S. Treasury debt as examples of limiting factors), so there will be other factors which will come into play.

It’s obvious that our government is dysfunctional. Assuming that the boys and girls in Washington actually had some clue about what to do (a mammoth, and probably baseless assumption), then they have chosen to subordinate the good of the country to political games and the imperatives of getting elected and maintaining power. In doing this, they prove themselves either criminal or incompetent, or both.

Knowing this, you can bet they won’t have the political will to address the problem head-on. This means they will instead lean strongly toward covert means and/or tricks for servicing and/or controlling this debt.

The most important such method of debt control is real inflation rates in excess of real interest rates. Print money, let costs go up, but use monetary, fiscal and regulatory policy keep a lid on interest rates. The net effect of all of these policies (or techniques) if handled properly, would be to create an inflation rate about 3-4% in excess of interest rates. Compounded over a period of some years, this could easily take as much as 1/3 of the purchasing power out of a currency (and out of a society) and put it quietly into government hands. That goes a long way toward keeping the debt somewhat under control. And you wondered why you felt like, no matter what you did, you were slowly but surely getting poorer.

There are several main techniques of keeping interest rates low while allowing inflation to run. They are:

* One could “cook” the raw data to show artificially low CPI (Consumer Price Index) increases, or just cook up a whole new “special” CPI rate;

* Insist that banks purchase or maintain large amounts of capital in certain types of government debt securities, either through regulation or direct or indirect ownership of banks;

* Inject money into the banking system in the name of stimulus to keep rates low;

* Impose real or effective currency controls to make it difficult or impossible to convert your depreciating currency for another currency or hold other currencies;

* Require that pension funds invest in certain types of government debt securities;

* Impose taxes or other methods of making trading in stocks or other assets more expensive, thereby encouraging the purchase of government debt securities.The overall purpose of these activities is to keep interest rates lower than they otherwise would be, thus reducing the overall interest cost on the debt, as well as allowing the government to pay off some of that debt with depreciated/depreciating dollars.

Also coming into use will be various methods of increasing government revenues, while reducing expenses. Lacking political will, we’ll probably be looking at items such as:

* Vigorous collection of existing taxes using computerized systems and data collection (Big Brother);

* Broad application of higher penalties for major and minor tax infractions, using the general rationale that “scofflaws should pay”;

* Targeted tax increases or disallowances of currently-allowable deductions, generally under the heading of “tax the rich”;

* Changing the qualifications for government benefits and/or changing the index to which they’re tied to something “less inflationary”;

* Some sort of entitlement reform, trimming benefits for certain targeted classes containing less than a critical mass of voters.

While not long-term solutions, these techniques do allow things to continue as they are for a while longer, all while gradually rendering the population poorer, less powerful and more dependent on government because of accumulating economic stagnation. They will also gradually devalue the currency, tie up wealth inside this country, drive business and jobs overseas, create an ever-expanding and regulatory government and strip some of the value out of savings, insurance, pensions and (probably) the stock market. Real assets will probably swing into ascendency, as will successful small or closely-held businesses. As this occurs, the blame will be placed on foreign powers, out-of-control markets, greed, etc.

It’s hard to say if, or when nominal interest rates will really start to increase substantially. It’s possible that they might not ever go sky-high, but the odds are that eventually rates will increase a lot.

Notice that we have no real solutions here at all; just more of the same hocus-pocus which got us here in the first place and will gradually lead to a general national impoverishment, and that could act as the justification for more repressive regimes in order to address the widespread troubles which will occur. If it’s real solutions you’re looking for, it’s going to be up to you to find and support genuine education, the preservation of the culture, the ideas of production and exchange and workable systems of taxation, all while trying to send someone other than the current batch of thieves, hypocrites and/or amoral fools back to Congress and the White House. You’re also going to have to understand enough of what’s going on in order get ahead of the eight-ball economically so that you might be able to maintain some position of freedom and influence. All in all, it’s up to us.

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William D. Truax, E.A., a tax practitioner & financial consultant for over thirty years, is founder of William D. Truax, E.A. Tax Advisors (www.truax.net), in Glendale , CA. They are experts at tax prep, planning & representation.

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