Debt nation, post two

This is the second post in a ten part series on the excessive debt our nation has.

The first economic problem I want to discuss is the amount of money the Federal Government owes on a cash basis.

The media and the Federal government like to talk about the National Debt on a cash basis rather than an accrual basis.  Cash basis accounting tracks the actual money spent and does not take into account future liabilities.  Small businesses often use the cash basis of accounting; however, the Federal Government forces most larger businesses to use the accrual basis of accounting. 

On a cash basis of accounting the current Federal debt is just over 10.2 trillion dollars.  You can see the exact Federal debt at the below link:

http://www.brillig.com/debt_clock/

The Congress recently raised the National debt ceiling to 11.3 trillion dollars; they expect the National Debt to increase significantly due to the recent Wall Street “bailout” package.

What this means is that the Federal Government currently owes just over 10.2 trillion dollars and has financed this debt with US Treasury notes.  The US Government has sold these Treasury notes and we will pay these notes back with interest. 

These numbers are so large that some comparisons are in order.  If each person living in the US were required to pay an equal share of the Federal debt on a cash basis each of us would be forced to pay almost $33,500.  This would have to be paid by every man, woman, child, convicted felon, etc.  If each American had $33,500 and immediately paid that $33,500 to the Federal Government than the Federal Debt on a cash basis would be zero.  (Obviously this will not happen, I am just trying to illustrate the size of the problem.)   

Another way to pay off the current Federal Debt would be for the Federal Government to immediately seize every American home, sell it, and use the proceeds to pay off the Federal debt.  Numbers for 2008 are not yet available; so I will use the numbers from 2007; however, I think we all realize that these numbers are too high given the real estate market of 2008.  Last year the total value of all of the houses in the US was just over 20 trillion dollars.  Last year Americans had slightly less than 48% equity in their house (Meaning they on average owed 52% to the bank on mortgages).  So in 2007 if the Government seized every home in America and paid off the bank loans on each house and if they actually could sell all of these houses for last years fair market value without incurring any expenses they would raise 9.6 trillion dollars; however, all home owners would lose their house and the equity they had in their house.  This would pay off 94% of the Federal debt on a cash basis.  (Obviously this will not happen, I am just trying to illustrate the size of the problem.)   

Another way to pay off the Federal debt would be to cut Federal spending in half and use this money to pay off the Federal debt.  At current tax rates we could pay off the Federal debt in a little over 7 years if the Country did not descend into absolute chaos.  What this means is that if we fired ½ of all the Federal employees, cancelled ½ of the current Federal contracts, immediately cut all Social Security payments, welfare payments, and Medicare payments in half, etc. we would be able to pay off the Federal Debt on a cash basis in 7 years.  Of course we would have ½ of our current military, ½ the number of embassies, ½ the National Parks, etc.  (Obviously this will not happen, I am just trying to illustrate the size of the problem.)   

None of the three examples cited above will ever happen; however, they should illustrate the size of the problem that we have with the Federal Debt on a cash basis.  The Federal Debt is massive on a cash basis and can only be handled responsibly in two ways.  First we can cut Federal spending.  Second we can increase taxes.  These are the only two options available to us unless the Federal Government sells the lands it owns and is responsible for (National Parks, etc) and/or military assets to other nations.  The United States has 1.6 trillion in assets on its balance sheet in addition to 650 million acres of Stewardship Land that it owns.  If the Stewardship Land were sold at $10,000 per acre that would add another 6.5 trillion in assets for a total of 8.1 trillion dollars in assets.

The only way to handle the Federal Debt on a cash basis in a fiscally responsible way is to cut spending significantly while at the same time increasing taxes as much as possible without effecting future economic growth. 

Neither major political Party advocates this stance.

The Republicans advocate increased Federal spending while maintaining tax rates at current levels or lowering tax rates further.

The Democrats advocate increased Federal spending while increasing current tax rates on the wealthy while further subsidizing the poor. 

The first option is to decrease Federal spending.  I personally think we could easily cut Federal spending by 20%; however, neither major political Party has been willing to cut overall Federal spending in a long, long time.  I decided to analyze Federal spending over the last 50 years.  Over the last 50 years overall Federal spending decreased one time.  Federal spending in 1964 was 118.528 billion dollars and in 1965 it decreased to 118.228 billion dollars.  So from 1964 to 1965 Federal spending decreased by three hundred million dollars or by one quarter of one percent.  The other 49 years Federal spending increased each and every year.  In fact, over the last 50 years Federal spending has increased by an average of 6.93% per year. 

Based on the current political rhetoric from the Democrats and Republicans there is no chance of overall Federal spending decreasing in the near future; if at all.

The second option is to increase Federal revenues.  This can be done either by growing the economy or by increasing tax rates (without effecting the growth in the economy).  Over the last 50 years Federal revenues decreased six times.  Federal revenues decreased from 1959 – 1960, 1970 – 1971, 1982 – 1983, 2000 – 2001, 2001 – 2002, and 2002 – 2003.  Federal revenues increased each of the other 44 years.  On average Federal revenues increased by 6.49% per year.  Federal revenues are determined by Federal tax policy and the overall size of the tax base (economy). 

Over the past 50 years Federal revenues have overall increased by 6.49% per year and the Federal debt has skyrocketed over that same period due to the interest payments necessary to service the debt and out of control Federal spending.  I think that Federal revenues will likely remain steady or more likely slightly drop over the next couple of years due to the coming recession.  I am certain that tax rates are going to increase over the long term; however, taxes can only be raised so far before the tax increase will negatively effect the overall growth of the economy. 

Based on the current political rhetoric I think it is likely that overall tax rates will increase somewhat; however, I do not think they will increase enough to affect National Debt on a cash basis by a material amount since if taxes are increased by too much the economy will not grow as fast as it otherwise would.  I feel that it is possible that increasing taxes could slightly affect the National Debt in a positive way if done correctly.

After reading this post you should realize that there is only one possible way that the US Government will be able to handle its future financial obligations and that is to print more money.  By printing more money the value of the dollar will fall dramatically and inflation will rise dramatically.

I hope that you are frightened after reading this post.

Please realize that my next several posts will illustrate several factors that make our financial situation even worse than this post illustrates.

The next post will discuss the Federal debt on an accrual basis.  Please realize that on an accrual basis the Federal debt is almost six times as high as the Federal debt on a cash basis.

Mike Sylvester, CPA/ABV “accredited in business valuation”

NEWSLETTER SIGN-UP

Keep up with
whats “NEW” at the
SBS CPA GROUP