Wednesday, May 9, 2012

US Government Debt Impact on Social Security

The staggering $15.6 trillion of government debt owed by the United States federal government can be viewed as two separate types of debt.  First, there is the public debt, which amounts to  two-thirds of total federal debt owed.  The U.S. government owes these obligations to businesses, the public, and governments of other nations who have purchased Treasury bonds, notes and bills.  The other one-third is the Government Account, which is essentially debt securities that the government owes it to itself.  

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Artificially Low Interest Rates

For years, the government was borrowing money from the Social Security Trust Fund during years it was running a surplus.  The government was able to borrow this as an interest-free loan, allowing for more deficit spending by the government.  As a result, Treasury Bond interest rates were kept artificially low. A substantial amount of government debt that is owed to the Social Security Trust Fund and will need to be repaid when the Baby Boomers retire.  This will create a sizeable funding need in the market, which could lead to higher interest rates through debt issuance or printing of money.
Since the US is one of the biggest customers of countries like Japan and China, these countries invest in Treasury Bills in an effort to improve their exports. Buying US government debt parks profits in U.S. dollars, keeping their own currency weaker, making their exports more attractive.  This has allowed the U.S. to run a huge tab.  Whether or not these countries believe in the U.S.'s ability to recover and pay back its debt is the question being ignored.  These parties are more interested in keeping the party going. As a result, U.S. government debt is the world's largest right now.

A Mountain of Debt

After the turn of the century, between 2000 and 2007, the US debt grew 50% from $6 trillion to $9 trillion. Since the start of the financial crisis, the federal government debt reached $10.5 trillion by the end of 2008, thanks in part to the $700 billion bailout of Wall Street.  Just the interest on the debt alone amounted to $454 billion in 2011, which was the highest ever, even with a drop in interest rates. 
Since the Reagan Administration, the Federal government has increased its spending while cutting taxes at the same time, leading to larger and larger budget deficits. The accumulation of these budget deficits over the years, due in part to annual military spending of $800 billion and the 2008 government bailout initiatives, not to mention the economic stimulus package have all contributed towards the growth of the debt.
Any hint of the government struggling with debt might trigger an increase in interest rates. While the government tries to contain the debt within a reasonable limits, the government has time and again increased its debt ceiling despite the negative consequences it could have on the government's ability to reign in spending. 

No Debt Relief In Sight

One fear that Baby Boomers face is the Social Security Trust Fund being exhausted during their retirement. This might result in higher taxes and/or a reduction in retirement benefits, including medical benefits for everyone. Without proper management, the government debt could exert significant pressure on the US and world economies, creating a second Great Depression.

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