A newly published paper by a researcher for the Federal Reserve Bank of St. Louis warns that a ballooning budget deficit and pension and welfare timebomb is growing into a $65.9 trillion fiscal gap that will force the United States into bankruptcy.

Prof. Laurence Kotlikoff

In the view of Prof. Laurence Kotlikoff of Boston University, the U.S. is already bankrupt – at least the government is.

“The U.S. government is, indeed, bankrupt,” he writes, “insofar as it will be unable to pay its creditors, who, in this context, are current and future generations to whom it has explicitly or implicitly promised future net payments of various kinds.”

While the U.S. budget deficit, currently forecast to be 2.3 percent of the gross domestic product this year, is smaller than that of most European states, Kotlikoff argues the much debated number is not a particularly useful measure of U.S. economic health.

“The proper way to consider a country’s solvency is to examine the lifetime fiscal burdens facing current and future generations. If these burdens exceed the resources of those generations, get close to doing so, or simply get so high as to preclude their full collection, the country’s policy will be unsustainable and can constitute or lead to national bankruptcy.”

The number that has Kotlikoff’s attention is the U.S.’ long-term “fiscal gap” – the difference between all future government spending and all future receipts. Not only is the number immense, it will grow wider as the Baby Boom generation leaves the work world – and the burden of paying taxes on earned income – and stakes its claim on government health care and pensions. According to one study, the total fiscal gap could be $65.9 trillion.

“There are 77 million baby boomers now ranging from age 41 to age 59,” Kotlikoff writes. “All are hoping to collect tens of thousands of dollars in pension and health-care benefits from the next generation. These claimants aren’t going away. In three years, the oldest boomers will be eligible for early Social Security benefits. In six years, the boomer vanguard will start collecting Medicare. Our nation has done nothing to prepare for this onslaught of obligation. Instead, it has continued to focus on a completely meaningless fiscal metric – ‘the’ federal deficit – censored and studiously ignored long-term fiscal analyses that are scientifically coherent, and dramatically expanded the benefit levels being explicitly or implicitly promised to the baby boomers.”

How much is $65.9 trillion dollars?

“This figure is more than five times U.S. GDP and almost twice the size of national wealth,” writes Kotlikoff.

“One way to wrap one’s head around $65.9 trillion is to ask what fiscal adjustments are needed to eliminate this red hole. The answers are terrifying. One solution is an immediate and permanent doubling of personal and corporate income taxes. Another is an immediate and permanent two-thirds cut in Social Security and Medicare benefits. A third alternative, were it feasible, would be to immediately and permanently cut all federal discretionary spending by 143 percent.

“Leaving our $65.9 trillion bill for today’s and tomorrow’s children to pay will roughly double their average lifetime net tax rates.”

Given “the fiscal irresponsibility of both political parties,” the professor sees the most likely scenario for maintaining solvency as the government simply printing money to pay its bills.

Kotlikoff explains: “This could arise in the context of the Federal Reserve ‘being forced’ to buy Treasury bills and bonds to reduce interest rates. Specifically, once the financial markets begin to understand the depth and extent of the country’s financial insolvency, they will start worrying about inflation and about being paid back in watered-down dollars. This concern will lead them to start dumping their holdings of U.S. Treasuries. In so doing, they’ll drive up interest rates, which will lead the Fed to print money to buy up those bonds. The consequence will be more money creation – exactly what the bond traders will have come to fear. This could lead to spiraling expectations of higher inflation, with the process eventuating in hyperinflation.”

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