Balancing the U.S. budget: pay up now, or pay a lot more, later

By Money Matters Editors

Most Americans, perhaps even most U.S. investors, are not aware of the seriousness of the U.S. budget deficit situation.

They’ve been lulled into a sort of trance – encouraged by one political party – that a simple cut in federal spending will get the budget back in balance.

Nothing could be further from the truth. In fact, unless the conservatives want to abolish Social Security (not a politically smart move) or turn both Medicaid and Medicare entirely over to the states, no amount of nip-and-tuck spending cuts will balance the budget.

Taxes have to go up, and in particular, they have to be raised on upper-income groups. The middle and working classes will pay slightly more too, but the bulk of the tax increase has to fall on the upper income groups. The tax burden shifted from upper income citizens to middle and working class Americans via a series of tax cuts from 1981 to 2001 that substantially reduced upper income tax rates and total taxes paid by the upper tier. Most upper income Americans think they’re taxed too much already. Get real: when they see the tax increase that’s coming in the years ahead, they’ll realize then just how low their taxes have been…for decades.

The tax increase will pay for: 1) the unnecessary Bush tax cut of 2001, which turned a federal budget surplus of the President Clinton’s administration immediately into a budget deficit; 2) the defense spending for the Iraq and Afghanistan wars – both unpaid for, with a bill approaching $900 billion, not counting interest, and 3) the senior citizen prescription drug program – again passed but not paid for.

And if the U.S. does not raise taxes, along with cutting spending, to bring budget in balance, what happened then? Well, the nation may be in for a rude awakening: China, among other nations, continues to finance the U.S.’s massive deficit, but if the day ever arrives that China believes the U.S. is not serious about getting its fiscal house in order, China may start withdrawing funds – refusing to rollover its investment – and instantaneously U.S. interest rates would rocket higher – jeopardizing commercial activity in the U.S., and without question, pushing debt service payments to unprecedented levels. The U.S. would then have to pass an emergency tax increase and spending cut plan to calm what would likely be other jittery investors in U.S. debt. The nation’s credit rating would also take a hit.

Given the above, doesn’t it make sense to start raising taxes as soon as the economic recovery takes hold, so that the nation can avoid what is likely to be a fiscal crisis when China starts to balk? Quite simply, it’s a case of pay up now, or pay up a lot more, later.