As President Bush prepared to invade Iraq in September 2002, the head of his economic policy council, Lawrence Lindsey publicly estimated such a war could cost $100 billion to $200 billion.The only objection I can raise to the Buchanan-Lindsey argument is that interest rates are not going back to the average of the last two decades of 5.7 percent. Rates are going to climb to the double-digit rates of the early 1980's, and it is not going to take until the year 2020 to get there. At best, we have three years, but I suspect within a year, by mid-2012, everyone is going to understand that government finances are in real trouble. Investors won't want to own short-term Treasury securities paying less than 7 percent to 10 percent (The 6 month yield is currently only one-tenth of a percent) . At some point after that things will move very rapidly and the United States government will be paying interest rates comparable to those paid by banana republics.
Lindsey had committed candor, and the stunned Bushites came down on him with both feet.
"Baloney," said Donald Rumsfeld. The likely cost would be $60 billion, said Mitch Daniels of the Office of Management and Budget. We can finance the war with Iraqi oil, said Paul Wolfowitz.
By year's end, Lindsey was gone, back, in Ronald Reagan's phrase, "testing the magic of the marketplace."
And the cost of the Iraq War? It has passed $1 trillion.
So Lindsey is worth listening to. And he is now saving that the Obamaites may be wildly underestimating the deficits America is going to run in this decade. Here is why.
The average rate of interest the Fed has had to pay to borrow for the last two decades has been 5.7 percent. However, President Obama is projecting the cost of money at only 2.5 percent.
A return to the normal Fed rate would, by 2020, add $4.9 trillion to the cumulative deficit, says Lindsey, more than twice the $2 trillion in savings being discussed in Joe Biden's debt-ceiling deal.
Second, Obama is estimating growth in 2012, 2013 and 2014 at 4, 4.5 and 4.1 percent. But the normal rate for a mature economy recovering from recession is 2.5 percent.
Hence, if we return to a normal rate of growth, rather than rise to Obama's projected rate, says Lindsey, that would add $700 billion to the deficit over the next three years and $4 trillion by 2020.
Taken together, a U.S. return to a normal rate of growth of 2.5 percent, higher than today, and a normal rate of interest for the Fed could add as much as $9 trillion to the deficits between now and 2020.
New taxes on millionaires and billionaires who ride around in corporate jets can't cover a tenth of 1 percent of these deficits.
Writes Lindsey, "Only serious long-term spending reduction in the entitlement area can begin to address the nation's deficit and debt problems."
His conclusion is logical, but seems impossible to achieve when both parties are talking of taking Medicare and Social Security off the table. Which makes his final point all the more compelling:
"Under current government policies and economic projections, (bondholders) should be far more concerned about a return of their principal in 10 years than about any short-term delay in interest payments in August."
Lindsey is saying that the probability of U.S. bonds losing face value through inflation or default is high, given the size of the deficits we will be running and the improbability that any deficit-reduction plan now out there can significantly reduce them.
Interest rates are already starting to climb. Price inflation is continuing to accelerate, and as soon as the debt limit is increased by Congress (As it will after more posturing), it will result in even more pressure on interest rates, as the Treasury expands its borrowings. The gig is just about up. No way does the financial structure of the United States government survive in its present form until the year 2020. As Buchanan says it is either default or huge money printing by the Fed. Bet on big time money printing, and bet on the money printing to start before the end of the year.(And it won't be phony quantitative easing). By the time it ends, years later, we may have our first, in nominal dollars, quadrillion deficit (That's what comes after 999 trillion dollars)becasue of the amount of money the Fed will print.
If you forgot, or weren't around to see what interest rates were like in the early-1980's, here's a CBS news clip from 1980:
The prime rate peaked in 1981 at 20.50 percent.