In the 2011 Forecast Edition of the The Sentinel Financial Report we discussed the word of the year for 2010, “austerity.” We thought the word quite appropriate given what we see in the Euro zone. Greece, Italy, and Spain are being asked to implement government austerity plans in light of investor loss of confidence in their sovereign debt. This loss of confidence is affecting European banks holding this debt. This brings to light the U.S. Super Committee.
The Super Committee in charge of reducing the budget deficit by $1.2 trillion over 10 years recently declared failure. Now that $1.2 trillion sounds quite impressive. Break that down over 10 years and you have an average of $120 billion a year, another impressive number. But consider this. The average yearly U.S. deficit is north of $1 trillion. So this committee was charged with reducing the yearly deficit by about 10%. That means that 90% of the deficit remains untouched. Failure of the committee means that automatic spending cuts come into play, but those spending cuts may be less than what the committee was supposed to trim. So the reality is that the Super Committee could fail knowing that mandatory budget cuts were forthcoming. Committee members uttered, “failure is not an option” during the negotiations but in fact it actually was an option. Politicians may not have the nerve to take any action given the upcoming election. The political crisis will not be in full view until after the 2012 election. At that point, the U.S. has a Congress and Executive branch under control of the GOP or it is split. Either way, the government taking office of 2013 will have the task of making the tough budgetary decisions or simply kicking the can down the road. The danger in kicking the can is a worse outcome that is less under our control. I do know this. The withdrawal of government from the economy (via less spending) will bring austerity to the U.S. like never before.
A question that is seldom posed to policymakers but one I raised in Escaping Oz is this. What makes the U.S. so different than Italy who has debt of 120% of GDP? The U.S. debt is north of 100% and if unfunded debt is included, the figure is in the multiple hundred percent of GDP. Organizations like the International Monetary Fund (IMF), mostly funded by the U.S., take aim at countries like Italy without regard to debt trimming in the U.S. Countries like China and Japan have debt to GDP ratios of 200% and yet we hear of no austerity for them. What happens when the world finds out the king has no clothes?
Jim is the editor of The Sentinel Financial Report and is the author of Escaping Oz: Protecting your wealth during the financial crisis.