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U.S. panic over potential debt default well-founded

The U.S. government maintains hundreds of trust funds, all designed to set aside and protect tax revenues collected for dedicated purposes. In practice, though, the government spends these revenues indiscriminately and deposits equivalent IOUs in the trust funds as debt. Impeccably, the Treasury (as required by law) pays interest on this debt - even paying one day's interest when trust-fund money is collected one day and spent the next. The Treasury finances the interest payments by borrowing from itself. As a result, the Social Security trust fund contains IOUs for $2.6-trillion (U.S.). The civil service pension fund contains IOUs for $798-billion. The Medicare trust fund contains IOUs for $160-billion. The nuclear wastes trust fund contains IOUs for $47.8-billion. And so on, ad absurdum.

These trust funds contain the debt that the U.S. government owes to itself, as distinct from the "public debt" that it owes to others - individuals, companies and foreign governments. At the end of 2010, the government owed $4.6-trillion to itself, $9.3-trillion to the public, for a grand total of $13.9-trillion (since increased, January through May, to a grander total of $14.3-trillion). This is an increase of $3.7-trillion in the first 2½ years of the Barack Obama presidency.

The trust-fund debt is informative. With few exceptions (such as nuclear waste disposal), it tracks spending on entitlement programs: old-age pensions, civil service pensions, health care for people over 65, and so on. The 20 biggest trust funds hold 98 per cent of the IOUs. Trust-fund debt does not track spending on more controversial purposes as war, an expense commonly associated - to a large degree justifiably - with the debt increases incurred by George W. Bush in his eight-year presidency.

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The fact of the matter is that government spending - public debt and trust-fund debt combined - stood at 65.2 per cent of GDP at the end of the Bush presidency, precisely the same level as 1996, mid-way through Bill Clinton's presidency. In the same period, U.S. public debt (including the cost of two wars) fell to 36.5 per cent of GDP from 47.4 per cent - even as U.S. entitlement debt increased to 28.7 per cent of GDP from 18.3 per cent. U.S. public debt (again including Mr. Bush's war debt) rose in this period to $5-trillion from $3.7-trillion, an increase of $1.3-trillion. U.S. entitlement debt increased to $3.9-trillion from $1.4-trillion, a jump of $2.5-trillion.

The U.S. government is progressively more vulnerable, in other words, to entitlement debt than to general-expenditure debt - and all the more so because trust-fund debt, for the most part, is exempt from the infamous "debt ceiling" that Mr. Obama wants urgently to lift. The government supposedly needs to borrow another $2-trillion to get through the presidential elections in November, 2012.

In a report issued in May, the Congressional Research Service noted that trust-fund debt is harder to manage than public debt. As opposed to the government's public debt, trust-fund debt cannot be bought and sold on the open market, can't be off-loaded onto other people. The government assumes 100 per cent of the risk. The government can redeem this debt only by buying back the accumulated IOUs - either by spending less or by taxing more.

From the White House comes strident warnings these days of an impending catastrophe: a default on the national debt. Congress must raise the debt ceiling, now at $14.9-trillion, by $2-trillion before Aug. 2 - or else. Congress has dutifully increased debt ceilings many times since 1917, when the practice began, and now dutifully does so once a year (and, occasionally, twice a year). For many years, the House of Representatives invoked the infamous "Gephardt rule" - which automatically "deemed" the ceiling lifted whenever necessary and without any recorded votes. The Republicans repealed the Gephardt rule earlier this year; hence the panic.

When he took office, Mr. Obama inherited a national debt of $10.6-trillion. He will end his term with a national debt, give or take, of $17-trillion - a debt equal to 115 per cent of GDP (now $14.7-trillion). By way of comparison, Canada's debt (provincial debt included) equals 65 per cent of GDP - almost precisely the ratio that Mr. Bush passed along, wars and all, to Mr. Obama.

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About the Author
Neil Reynolds

Neil Reynolds is an Ottawa writer whose columns on national economic issues appear in Wednesday's and Friday's Globe and Mail. He is the former editor-in-chief of The Vancouver Sun and the Ottawa Citizen. More

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