A Barrel of Troubles

There is no question that we have a 'Barrel of Troubles" from the Devil of The Twin Deficits (Trade & Budget) to the Deep Blue Sea of the Looming Bankruptcy of Social Security and Medicare/Medicaid. If that's not enough to worry about, we also have a suspect US dollar and either the threat of inflation, the fear of deflation or what was once called stagflation. Want more to worry about? We also have the threat of the potential bursting of the Real Estate, Stock market and Bond Market Bubbles Is there a way out of our dilemmas?

ALL OTHER THINGS BEING EQUAL is a concept that is always used when teaching first year students basic economic principles. For example, we study the effects on the equilibrium quantity of supply and demand due to a change in price, while we assume that all other factors, except price, remain unchanged. That's all well and good when teaching first year students, but it DOES NOT WORK when confronting real world situations. Unfortunately, that seems to be the only method used by all our politicians, economists, Wall Street analysts and of course, all of the media's talking heads. We will never solve any of our problems if we continue to isolate each problem (i.e. Trade Deficit) and then pick on one and only one potential factor (i.e. the currency exchange ratio) and then emphatically state that if we can only get China and/or Japan to float their currency, our huge trade deficits will be reversed and we could then bring back 5,000,000 jobs.; When any examination of either the historical or theoretical evidence tells us "it's just not so".

The EURO has appreciated 50% against the US dollar over the last three years and yet our trade deficit with Europe has doubled during that exact same period of time. Likewise, the Canadian dollar has also appreciated over 30% yet our trade deficit with Canada has risen by more than 60%. In economic parlance this is called "Causation" or confusing cause and effect. In spite of all the empirical evidence to the contrary, the politicians and media our still clamoring for us to get tough with China and force them to inflate their currency. Creating a trade war and a world wide DEPRESSION would definitely reduce our imports, but the cure would be worse than the disease?

CAUSE AND EFFECT

We are doing the exact same thing with each and every one of our other problems. Isolating the problem first and then promptly confusing "Cause and Effect". Take Social Security as an example. It's the first problem on Bush's agenda. He has isolated it and in spite of his whirlwind tours, the only thing that has happened is that it's being demagogue to death and at this rate nothing will happen. The problem will end up being pushed further and further into the future and grow larger and harder to fix.

The truth of the matter is; that in the not to distant future there will only be One worker paying FICA taxes for each retiree. In 2014 the average retiree will be collecting $20,000/year; that would mean that the average taxpayer would have to pay $20,000 just in Social Security Taxes. That's not counting all the other taxes he would still have to pay, such as Medicare/Medicaid, Defense and the rest of the Government's expenses. That, simply put, is just not feasible.

THE BIG PICTURE

It's time to wake up and realize that all of our economic problems are intertwined and that it's really much easier to solve them, if they are all taken together as being part of a whole and impossible to solve when each is isolated and then attempted to be fixed separately. Secondly, it is imperative that we stop confusing cause and effect. For example, wildly fluctuating exchange rates are an effect of large trade deficits, not the cause. Our almost complete lack of savings is probably the main causes of our trade deficits. How can we expect to be in balance with Japan or China when they have a savings rate of 40% and ours is only 1%? So what's to be done?

What's the plan Stan? No need to be coy Roy.

The BUSH State of The Union AGENDA encompassed:

#1 Social Security reform centered around private accounts
#2 Medicare/Medicaid reform
#3 Income tax Reform
#4 Tort Reform (perhaps the most pressing of all)
#5 Trade deficits
#6 Budget deficits.

Each one, if taken separately, will prove to be unsolvable; but if combined into one all inclusive package, taking into account sound economic theory, human nature and their interconnectivity, the problems though large are readily solvable. Let's start at the beginning and see if we can weave a web of interlocking solutions and see how each of the problems are so intertwined with the others that solving one contributes to the solving of all the rest.

# 1 Social Security: Simply stated, the problem is that when Social Security was first introduced, there were 66 workers supporting 1 retiree, who had a life expectancy of 67 years. In the not too distant future, there will only be 1 to 1 ½ workers supporting each retire who will then have a life expectancy of over 85 years. Common sense should tell us that there is NO WAY to maintain our current system, of "pay as you go".

Solution: Once you realize that $1000 per year invested at 8% a year compounded, grows to almost $500,000 in 50 years, personal accounts become the obvious solution. Not just minor additions to the existing system but in the long run, instead off of the existing program. Institute an immediate 2% or $1000, Forced Saving Plan. This money would be invested in a special 8% Government zero coupon bond that would be in the name of the individual and would mature when the individual reaches age 70. This $1,000 could be matched by companies and anyone 35 years old or younger, would not be entitled to any future social security benefits whatsoever. Within 50 years, the government would be completely out of the social security business. The FICA taxes now being collected, would be reduced slowly over the years until it is completely eliminated, as retiree's still collecting S/S under the existing plan die off.

Note: The Retirement age should be gradually increased to age 70 as our life expectancy continues to expand. Strict anti-age discrimination laws would have to be enforced. This may not even be necessary once a complete restructuring of Medical Plans are introduced since there would no longer be a need to discriminate against older workers] (see Medicare/Medicaid) This would also open a huge supply of experienced workers should the economy need them, raise our standard of living, as the countries Production Possibility Curve shifts to the right. (see Tort and tax reform) NOTE, Unlike the last FICA tax increase of 1984, (which was really nothing more than a disguised Income Tax increase) this time the 2% would go to buy a special 8% zero coupon US savings bond that would go directly into the hands of each individual that could not be touched for any reason until retirement. Anyone 35 years old or younger would forfeit any and all future claims to social security. The 2% paid by people older than 35 would be entitled the same 8% savings bond and would go to supplant future Social Security increases. Current retirees are all still guaranteed NO Decreases in their current plan benefits. In 25-35 years, as the baby boomers die out, the government would be almost completely out of the social security business. Anyone 35 or younger would no longer be entitled to any Social security benefits as he would now own his own retirement trust fund, which would be a great deal larger than anything he could have hoped for from Social Security. Anyone 35 to 55 would be guaranteed to receive the amount that is now being paid but no increases, since they too would get the 8 % savings bond with their 2% per year contribution. Anyone 55 or older would continue on with the exact same plan as there exists right now.

Just a few of the side benefits of this plan would be:

1. In less than 50 years, the Government would be virtually out of the retirement business
2. The 2% Forced Savings would raise our national savings rate from 1% to 3% and go a long way in reducing our trade deficits, while contributing to keeping our interest rates low
3. The amount of taxes needed to be collected would slowly be reduced instead of increased
4. The increased savings would lower interest rates which would do wonders in increasing employment, productivity and wealth of America.
5. Due to the ownership aspect of Private Accounts, poverty would be virtually eliminated within 50 years, something that President Johnson and $7 TRILLION could not accomplish.

NOTE: PLEASE Reserve your arguments against the plan until you finish reading the rest of it, where all your objections will hopefully be answered.

#2 Health Care Reform. Medicare/Medicaid is in even worse shape than Social Security is; at the current rate, it will be bankrupt in 5 to 7 years. As part of the overall package to save our economy, there would also be an additional forced savings plan of 2% ($1000) for Medical care. This, like the Social Security 2%, would go into a personal Medical Savings Accounts in conjunction with a reformed medical insurance plan. This Plan would revolve around a life time 100% catastrophic coverage, with a $5000 annual deduction and would be available to all citizens and taxpayers with valid Social security numbers. It would be portable (Not tied to any Employers). Its total cost to the individual, including the 2% forced savings, would end up being less than is now being paid for medical insurance alone. Additional benefits coverage could be obtained in a competitive environment through private insurance companies; The 2% increase would, like the Social Security increase, NOT be considered as a TAX since the individual would be keeping all this money from day one. Any monies not spent on health care would accumulate in 8%Government savings Bonds and go towards future health care needs and/or their estate. It too would be a savings plan which the Government could not touch. In this way, the 20 million 18 to 34 year olds, who are now part of the 43 million uninsured, who choose not to buy insurance, even though it is available to them at a very low cost, would then become part of the total medical insurance pool, reducing the pools over all risks and costs.

They would also be contributing to the nation's overall savings rate as well as their future health care and retirement. This would become the second part of the complete package. It too, like the Social Security 2%, would work towards reducing the trade deficit. This 2%, as with Social Security, could easily be paid for or added to by the corporations. ( See Tax Reform) NOTE: This 2% could easily be paid for by the individual because once the revised health insurance coverage is implemented, the savings to each individual would amount to much more than 2 %( $1,000), which would mean a net decrease in costs to each individual.

N.B. It would also eliminate the evils of a third party payer system and go a long way towards reducing the Total overall costs of our Nations Health Care (See also Tort reform)

Our National Savings rate would now be increased to 5% making an even bigger dent in our trade Deficit.

#3 Income Tax Reform: Now look at what happens to Social Security and Medicare if we were to first replace our current income tax with a revenue neutral Consumption Tax of 20%, We could also include a 10% flat tax on all incomes above $250,000 and an additional 10% flat tax on all incomes above $1,000,000, as part of the revamped income tax system. To make it fair and help the poor and to make up for the fact that, at this time, most Americans pay no federal income tax at all, as well as to facilitate the implementation of the Medicare/Medicaid and Social Security reforms, we would also institute a Negative Income Tax, to be paid to all legal residents with valid Social Security Numbers, of $12,000 per adult 21 years of age and over and $6,000 to all minor children. This would also go a long way in solving our illegal immigrant problem without the use of coercion of any kind; since only legal immigrants would be eligible to receive the negative income tax, yet everybody would have to pay the consumption tax. Everyone would be obliged to have a National ID card and # (with a picture, Thumb and Eye Print) but only if you want to receive your benefits. This would also be very helpful in our campaign against terrorists as well as illegal immigrants.

For the first time in our nation's history, we would no longer be penalizing savers; this alone should cause our national savings rate to increase from the present 1% to a minimum of 10%. To that we would add the 2% savings from both Social Security and Medicare, for a total of a 14% minimum national savings rate. In one legal fell swoop it would mean an immediate decrease in our imports and consequently a decrease in our trade deficit without resorting to illegal trade sanction or risking a Trade War.

Other benefits would accrue as follows: Interest rates will be lower than they would otherwise have been due to our increased savings rate. It would bring about an increase in investment, capital formation and our economies rate of growth by at least an additional 1 1/2% to 2 ½ %. This would of course, increase employment. Foreign companies would now contribute equally with our domestic industry. The budget deficit would begin to decrease rapidly and we could now easily grow our way out of debt. The economy would also save an easy $50 to $100 Billion due to tax collection simplification. By reducing our domestic Corporations overall cost structure, we would dramatically increase their world wide competitiveness. I'll let you figure what that would mean There is more, but I think you get the drift.

WELFARE: SIDE BENEFIT not originally contemplated but, except for a couple of special programs designed especially for people that fall through the cracks, the government would essentially be out of the welfare business. The negative income tax would replace a myriad of welfare programs releasing a great many highly qualified people into the labor force, which would then be available for productive employment...

#4 Tort Reform. It is estimated that our present Tort system places an additional cost burden on every product and service in the country of anywhere between 10% to 20%. A decent comprehensive Tort Reform should save at least half of that, which would mean an across the board 10% cost reduction.

1. Just think what that would do to American companies' competitive position in the world and what affect that would have on our balance of trade and employment (unemployment insurance).
2. That would also mean a minimum 10% cut in our total medical costs, which in and of itself would go a long way towards fixing Medicare/Medicaid problem. It would further improve the competitiveness of our domestic companies, which in conjunction with our medical reform package would increase their willingness to provide medical insurance to their workers and eliminate their reluctance to hire older workers.

#5 Trade Deficits: As already discussed, we could fix our trade deficits without the necessity of illegal and/or unwise trade policies that could bring about a Trade War where everybody looses, as happened in the 1930's. The increase in our nation's savings rate in conjunction with our domestic companies increased competitiveness due to their reduced overall costs and lower interest rates would go a long way towards reducing our trade deficits.

#6 Budget Deficits: Like the trade deficits, here to this problem would be completely eliminated, over a very short period of time, without the necessity of raising taxes or employing any specific policies that would not work anyway, since in getting rid of our four biggest problems, the budget deficits get taken care of automatically by the increased Tax revenue due to the increases in Investment and Productivity as well as the reduction in the Gov. Interest costs.

Conclusion:

Instead of trotting out all the "Old Tried and always Failed" policies, it's time to use a little "Uncommon Common Sense". The world economy and especially our economy is highly complex and there are no simple one on one relationships, whereby fixing one factor solves every thing. However, by looking at the economy as one unified intertwined force and examining the inter-relationships of the problems and their potential remedies it can give us the solutions that an ever expanding government can never do.

"A Government that Governs Least, Governs Best"

HISTORY REPEATS

Unless Bush and the Republicans get with the program in a hurry we will be well into Recession by Nov. 2006 and the Democrats will win at least one of the houses of congress if not both; That would set the stage for Hillary, the FDR of the 21st century, to take over as President in 2009. History will then repeat; as New Deal type policies are instituted to end the Recession/Depression, what should be a simple two year Depression to correct the imbalance created by 18 years of easy money, will turn into a 15 to 20 year DEPRESSION. Since our modern time Bubbles are larger than were the bubbles of the 20's, then our modern world wide depression will also be more severe than was the last one. (We will leave that analysis for a later date)

Aubie Baltin CFA, CTA, CFP, Phd. (retired)
Palm Beach Gardens, FL
[email protected]
561-840-9767

22 August 2005