February 2005
Introduction:
I have developed a practical alternative to the current proposals for Social Security reform. In the year 2018, it will be necessary to use money from the Social Security trust fund in order to pay the scheduled benefits. The problem is that the trust fund has already been used to help finance the national debt, and the government will need to issue new treasury bonds in order to pay back the trust fund. We are currently very dependent on China and other foreign countries to purchase our debt, and these additional lending requirements will force interest rates up to dangerous levels. My plan involves the creation of privatized add on accounts that would allow individuals to safely invest in government issued bonds. These accounts would provide the government with secure long term financing at reasonable interest rates. Given our recent budget deficits and other financial projections, this will be an absolutely necessary program. Our government simply cannot afford to place itself at the mercy of its creditors.
A listing for the Social Security trust fund may be found in the monthly statement on the public debt that is issued by the U.S. Treasury. The trust fund is listed under the category of “Nonmarketable - Government Account Series – Intragovernmental Holdings,” and it has been given the title of “Federal Old-Age and Survivors Insurance Trust Fund.” According to this report, the trust fund contains assets of slightly more than $1.5 trillion as of January 31, 2005.
The Social Security trust fund was established with excess payroll tax dollars. Therefore, workers were taxed in order to form the trust fund. This money was then lent to the government and Social Security was given “special issue” bonds that pay interest. However, the interest on government bonds is paid out of income tax revenue. Therefore, workers were again being taxed to pay the interest on their own “special issue” bonds. The problem is that the government spent all the money in the trust fund on various government programs. In order to pay the currently scheduled Social Security benefits, these “special issue” bonds must be redeemed starting in 2018. Since bonds are paid back out of income tax revenue, we will now require additional tax money in order to replenish the money in the trust fund. Therefore, the trust fund “investment” actually involves double taxation. The American people paid additional payroll taxes to establish the trust fund, and now they must pay additional income taxes in order to pay it back. The government must now decide whether it will raise taxes, issue new bonds, or cut benefits.
The most likely outcome is that the government will issue new bonds in order to pay back the trust fund. This means that the $1.5 trillion that is currently in the form of “special issue” bonds must now be converted to traditional bonds that are financed by the public. The only problem is that the government does not ultimately dictate interest rates. Interest rates are determined by supply and demand. Our government’s borrowing needs will create either a dramatic rise in interest rates or a precipitous decline in the dollar coupled with inflation.
It should be obvious that these government deficits are slowly exhausting the available money supply. Eventually a point will be reached when the available lenders will demand high interest rates. Therefore, a government that runs deficits is at the mercy of its creditors. However, there is no reason to lend this government money at the current low interest rates. The dollar situation alone will make bond returns almost nonexistent. Therefore, we can no longer depend on foreign governments to finance our debt at reasonable interest rates as long as our currency remains unstable.
The State Administration of Foreign Exchange (SAFE) now estimates that China holds approximately $610 billion in dollar reserves. Several foreign governments have made a tremendous effort to support our dollar for trade purposes, because a weak dollar creates an unfavorable rate of exchange for these countries. Our trade deficit with China was over $160 billion last year, and these continuing deficits allow China to easily accumulate massive dollar reserves for the purpose of manipulating the currency market. It is no coincidence that the governments who have made the largest individual investments in our debt are also our largest trading partners. These governments are investing in U.S. treasuries in order to receive interest payments on their dollar reserves. However, the recent dollar depreciation has made the return on these investments nonexistent. Therefore, these debt purchases are simply kickbacks on trade that are designed to compensate for relative losses in the foreign exchange market.
In October of 2001, the U.S. Treasury announced plans to discontinue use of the 30-year Treasury Bond as a financing instrument for the government. In a low interest rate environment, the government should be focused on arranging as much long term financing as possible. However, the government has instead been issuing debt with shorter maturities, such as the 10-year Treasury Note. It no longer makes sense for the government to act in such a manner, because shorter maturities increase the frequency at which debt must be reissued. When bonds are not redeemed, new bonds must then be issued at prevailing interest rates. Also, many foreign governments are currently buying our debt as a means of employing the excessive dollar reserves that they have accumulated due to recent foreign exchange considerations. We must not allow these foreign debt purchases to give us a false sense of security, because this capital will no longer be available for investment when our currency stabilizes. It is imperative for the government to acquire stable long term financing for our national debt.
On November 19, 2004, Congress approved an $800 billion increase in our national debt. Given that the U.S. population is approximately 300 million people, an $800 billion increase in the national debt will create an obligation of $2,666.67 for every person living in America. Not to mention the fact that an increase in debt was approved without any plan to pay it back. At the current average interest rate of 4.551%, this debt of $800 billion will create over $36 billion in interest payments each and every year. Therefore, each American will now need to come up with over $120 in additional tax money until this amount has been paid back.
The national debt is now over $7.6 trillion. While this may be difficult to comprehend, a trillion dollars is enough money to make one million people millionaires. For the fiscal year 2004, the interest expense on our national debt amounted to over $321 billion. These interest payments are made out of general revenue, which is a fancy way of saying tax money. Last year, each and every American had to come up with over $1,000 to pay the finance charges on this debt. Since children and the elderly typically do not meet their share, working Americans must make up the difference for them. Unfortunately, this $1,000 payment only covers the interest charges; it does nothing to pay back the outstanding debt.
The national debt breaks down to over $25,000 for every person living in America. In theory, the American government has issued all of us credit cards, but we are not allowed to use them. Instead, politicians spend this money for us. Each year we receive a bill for purchases that we did not authorize, but we are forced to make the payments anyway. The only problem is that we can barely afford to make the minimum payments, and the debt continues to increase. This is similar to using one credit card to make payments on another, and the net effect is an increase in debt. Unfortunately, politicians continue to request increases in our collective credit limits without first asking our permission.
Politicians often seem unconcerned with the national debt. While not every politician feels this way, there have always been politicians who have catered to the needs of a select few at the expense of the many. Politicians are often forced to create spending packages that are favorable for their campaign contributors. In order to support these lucrative contracts, the government must then issue interest-bearing debt. Further compounding the problem is the fact that if our country were not in debt, many wealthy Americans would have no safe place to invest their money. Approximately $4.4 trillion of our national debt is held by the public in the form of government issued bonds, and our government must pay an average interest rate of 8.001% on the Treasury Bonds that it has issued.
There are acceptable times for the accumulation of debt. Businesses often take loans in order to finance growth. This debt can help a business to gain increased profits, and a profitable business will be able to pay back its debts. Therefore, when used properly, debt is a powerful tool. However, when a business borrows money for the purpose of expansion, it always has a plan in place to pay this money back. If no acceptable plan is in place to repay the loan, the bank views this business as a poor investment risk. Therefore, debt may be either a powerful tool or a dangerous weapon, and those who are uneducated in firearm safety often end up shooting themselves.
There have been times in American history when debt played an instrumental role in the growth of our economy. Before World War II, our country was in the midst of the Great Depression. As part of the war effort, many bonds were sold to the public, and American citizens helped to finance our victory. The national debt allowed our country to escape the Great Depression and fully capitalize on the post war opportunities. Not only were we able to export weapons during the war, but our goods and services also helped many European countries rebuild afterwards. America was a net exporter, and large amounts of wealth flowed into our collective treasuries. Therefore, the national debt was a terrific investment in both freedom and capitalism.
However, recently America has shifted its focus from being a net exporter to a net importer. Since America is now a net importer, more money flows out of this country each year than flows into it. The national debt has increased at alarming rates, but this debt is no longer an investment in the future of America. Instead, it has become a line of credit to help us live an unsustainable lifestyle. The sons of Lady Liberty are prodigal indeed; they are wasting their inheritances on fleeting pleasures.
The trade deficit was approximately $600 billion last year. This means that America lost $600 billion of its collective wealth, and these losses are simply unsustainable over the long term. However, the trade deficit is not the only cause of wealth depreciation in America. The weak dollar has made equity returns virtually nonexistent for foreign investors, and consequently, foreign money continues to flow out of our capital markets. As the dollar weakens, stocks will need to increase in order to maintain their same overall value. Since March of 2003, the S&P 500 stock index has enjoyed a gain of approximately 50%. However, since March of 2003, the U.S. dollar index has experienced a loss of approximately 33%. Therefore, from a mathematical standpoint, the S&P 500 has gained 0% over the past two years in relation to the dollar. American stock investors did not experience a gain of 50% over the last two years; they simply sheltered themselves from the 33% dollar depreciation that will soon begin to affect everyone else. In other words, the stock market provided investors with a means to escape the dollar devaluation, and a large percentage of recent market gains should be attributed to this fact.
One of the reasons for the recent dollar depreciation is uncertainty about the economic health of our country. Stocks and bonds are dollar denominated assets, and are therefore affected by a dollar devaluation. To see the true reality of the dollar situation, a global viewpoint must be taken. If a foreign government is uncertain about our financial health, it may not be able to sell its dollar denominated assets. Therefore, these illiquid or nonmarketable investments must be hedged in the currency markets. By taking a short dollar position, foreign investors may compensate themselves for the losses they are enduring in U.S. securities or hedge themselves against future economic risks. This practice is similar to corporate bonds that trade at a discount due to unfavorable risks. Since our government has made it clear that it has few intentions of supporting the dollar, these short dollar positions have little perceived risk. Therefore, much of the world has already begun to discount America’s future. The true effects of a weak dollar are delayed in appearance because they are only calculated on currency conversions.
If the American economy were not so dependent on foreign producers and consumers, our currency fluctuations would be largely inconsequential. However, we are heavily dependent on international commerce, and our country is a net importer of goods. Each international trade is subject to a currency conversion. While American exporters have been taking advantage of this favorable rate of exchange, foreign importers have been at a disadvantage. Foreign economies are heavily dependent on American trade, and they have been absorbing these inefficiencies and selling at a relative loss in order to remain competitive. However, they have recently been forced to start raising the prices for our imports. At this point, the true crisis in the dollar will become painfully evident. America must adopt a strong dollar policy; it is vital to our long-term economic health. America has been entranced by the mirage of a weak dollar, however, a net importer cannot possibly benefit from currency devaluation over the long term. Unfortunately, the average American family does not release a quarterly earnings report. While American corporations have been experiencing profits on exports, American citizens have been experiencing losses on imports. We must act now to avert a potential inflation crisis.
Social Security is currently under-funded by approximately $3.1 trillion. This means that the current Social Security system will need cash inflows of $3.1 trillion over the next 75 years in order to sustain the current promised benefits. While this is definitely a cause for great concern, it does not mean that Social Security is facing bankruptcy. There will always be American workers paying into the system, so there will always be a steady cash flow into Social Security. However, if no action is soon taken, benefits will need to be dramatically cut. The problem is that many retired persons can barely afford to live on their current Social Security checks, and a benefit cut will only increase poverty among the elderly. Social Security was implemented for the purpose of reducing poverty among the elderly, and this goal should continue to be its guiding force.
Social Security has been described as a “pay-as-you-go” system. Politicians would like people to believe that this means the system is inherently flawed, but in reality, the entire U.S. government is a “pay-as-you-go” system. Each year, Congress must make a budget based on the amount of money that was received that year in the form of taxes. This means that the Department of Defense is a “pay-as-you-go” system. In order to avoid “going bankrupt,” the Department of Defense requires additional tax money each year. Since the Department of Defense does not actually pay for itself by generating revenue, the Department of Defense will generate “large and ongoing deficits” in future years. However, that does not mean that the American people do not benefit from the defense of our country. In the same way, Social Security provides a benefit that cannot simply be measured in dollars and cents.
The problem with Social Security is not that it is a “pay-as-you-go” system, but that it will start paying out more than it takes in. Right now, the entire “pay-as-you-go” U.S. government pays out more than it takes in, and this occurrence is called a deficit. The problem is that the Social Security deficits will grow to unsustainable levels given current projections. However, because Social Security is a “pay-as-you-go” system, all of the projections for Social Security sustainability rely on one simple premise: the economy. If we continue to lose American jobs and wages continue to deteriorate, Social Security will become insolvent much sooner than anticipated. The best way to fix Social Security is to fix the economy. If American workers have better jobs that pay higher incomes, they will pay higher income taxes and higher payroll taxes. Therefore, the solution is not to raise taxes, but to raise incomes. Our country must promote strong American industrial production.
America needs to decide whether it will provide good incomes for all, or vast riches for a select few. The problem is that the American people are overly focused on corporate earnings. Americans are literally obsessed with the stock market, and stock market returns are largely dependent on growth. Therefore, corporations must do whatever it takes to ensure that they continue to deliver increased profits. The problem is that a corporation cannot continue to grow forever, and there comes a time when maintaining profits should become the primary focus. Nevertheless, instead of continuing to produce steady profits, corporations will attempt to extract additional profits in the pursuit of greed. This typically involves moving the manufacturing base overseas in order to capitalize on cheap foreign labor. Unfortunately, other corporations are then forced to adopt similar practices in order to remain competitive in the marketplace. Consequently, many American workers lost and will continue to lose good paying jobs, and they will no longer have the purchasing power that they once did. The end result is that these consumers must now be even more price conscious, and this continues to drive down profit margins and force corporations to outsource even more jobs. Therefore, many of these profit driven initiatives are actually shortsighted and cannibalistic in nature. What is beneficial for corporations is not necessarily beneficial for the American people.
Even Mother Nature has been trying to teach America a lesson about sound fiscal policy. The ring-necked pheasant did not originate in America; it is a Chinese immigrant bird. The problem with pheasants is that they engage in parasitic egg dumping. This means that a pheasant often lays its eggs in another bird’s nest and allows that bird to unknowingly incubate the pheasant eggs. The principal target of this parasitic practice is the American prairie chicken. The average incubation period for a prairie chicken egg is 25 days, while a pheasant egg takes only 23 days to hatch. A prairie chicken typically abandons its nest immediately after the hatch in order to take the baby chicks to a safer location. Since the pheasant eggs hatch before her own do, the prairie chicken unknowingly leaves her unborn chicks behind to die. This mother hen is tricked into raising the pheasants instead of caring for her own young. Because of these scheming pheasants, those poor prairie chicken eggs never even had a chance. As a result, the greater prairie chicken is now virtually extinct in Illinois. While other factors did contribute to the decline, the prairie chicken population was not completely decimated until the introduction of these immigrant pheasants.
I hope that the American people will not fall victim to the same practices that wiped out the prairie chicken. Americans already know that many of the goods we purchase are being manufactured in China. However, most Americans will be shocked to learn that China also holds a significant portion of our national debt. The U.S. Treasury has recently estimated that Mainland China holds almost $200 billion worth of treasury securities. Our forefathers would be extremely disappointed to know that the American Democracy that they built with their blood, sweat, and tears now owes a Communist country over $200 billion. This means that every single person living in America owes almost $666.00 to a country that does not value personal freedoms. Once certain issues have been addressed, our countries will be able to peacefully coexist. However, the American government cannot continue to cater to the needs of the Chinese people at the expense of the American people. As previously mentioned, the average annual percentage rate for Treasury Bonds is 8.001%. It makes absolutely no sense for our taxpayers to pay 8.001% interest on these bonds when elderly Americans on fixed incomes are barely getting 3% on their certificates of deposit. Americans need to realize that foreigners are placing their eggs in our nests. Our own nest eggs are being destroyed while other nations grow rich at our expense. It cheapens the value of the American Democracy to be so heavily dependent on foreign governments. The time has come for Americans to stand strongly on their own two feet instead of using the rest of the world as a crutch.
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