This results in hyperinflation and a total collapse of the US economy

Let’s assume, for the moment, that we make no changes to our current healthcare system and that future growth in Medicare and Medicaid spending accords with the Congressional Budget Office’s projections. Under this highly optimistic scenario, the country is, as we know, short today— not tomorrow—$70 trillion. It’s hard to wrap one’s brain around $70 trillion. But let’s try. The following are four ways to come up with $70 trillion in present value without cutting future growth in Medicare and Medicaid. Each of these policies would need to be implemented immediately and permanently. Raise personal and corporate federal income taxes by 70 percent. Raise payroll tax rates by 109 percent. Cut all federal purchases of goods and service— from buying air force jets to paying the salaries of Supreme Court Justices— by 91 percent. Cut social security benefits by 90 percent. Adopting any one of these policies or some combination would be incredibly painful. But waiting is no alternative. It just makes the requisite adjustments larger and more difficult. Another option is to implement each of the four policies partially; for example, we could implement each policy at one-fourth strength. But implementing one-fourth of four terribly painful policies still adds up to one terribly painful course of action. The reality is that no American politician would endorse any of these policies or, for that matter, any combination of them that produces $70 trillion in present value. So what exactly will happen if we don’t radically reform the healthcare system and simply let Medicare and Medicaid expenditures continue to grow? The answer is that the government will need to make money by printing it. This practice dates to at least the third century a.d. when the Romans ran a tremendous hyperinflation. In the twentieth century, twenty countries ran hyperinflations (monthly inflation rates exceeding 20 percent) by printing money to pay their bills. The most famous (or infamous) example is the hyperinflation in the early 1920s in Weimar Germany. Prices rose so fast that workers were paid in wheelbarrows full of cash, which they immediately used to purchase goods so their money wouldn’t be worthless by the next day.14 The United States is hardly immune to hyperinflation. This is why David M. Walker, comptroller general of the United States, and Ben Bernanke, chairman of the U.S. Federal Reserve, are pulling out their remaining hairs worrying about our long-run fiscal situation. 15 They realize that financial markets can turn on a dime when they start to smell a problem. Doing so in this context means that both foreign and domestic investors would lose confidence in the dollar and attempt to unload their holdings of U.S. securities, particularly long-term U.S. Treasury bonds. This would lead to a crash of both the U.S. bond and stock markets, drive up nominal and real interest rates, and force the Federal Reserve to try to lower interest rates by buying up U.S. bonds. That would require the Fed to create (print) money— precisely what the financial markets will come to fear because they know it fuels inflation. The point of describing this process is to indicate that when fiscal policy gets sufficiently out of control (the U.S. situation), central banks start to lose control of their monetary independence and are forced to accommodate the inflationary process. How high would inflation get in the United States? Very high. Most federal government expenditures are explicitly or implicitly indexed to inflation, so to really make money by making (that is, printing) money, the government will have to beat the indexation, which means running ever higher levels of inflation. Running a high inflation, let alone a hyperinflation, would mean dramatic increases in not just nominal but also real interest rates, which would severely damage the economy and its revenue-generating capacity. I and many other academics, business leaders, and government officials have been sounding this fiscal siren for years. Yet the precipitous crisis we’ve predicted has not developed. As a result, concern over the fiscal gap appears overblown to many observers. It’s not. Our fiscal problem is real and very serious. The best way to grasp what’s going on is to think of a very slowly growing, untreated cancer, which is barely detectable for many years. Then, virtually from one day to the next, it spreads rapidly and alters the functioning of a major organ in a fully perceptible manner. Ex post the cancer is obvious; ex ante no one saw it coming. Speaking of seeing things coming, how many people saw Argentina’s fiscal crisis coming before it hit? How many realized the Russians were in deep trouble in the late 1990s? How many predicted the East Asian crisis or the Mexican peso crisis? And how many foresaw each of the past century’s twenty hyperinflations? The answer is not many. And the common factor here is that almost all of these financial and economic collapses were rooted in a tremendous fiscal gap. The fact that the collapses were missed by most observers is not surprising. It takes a long time to run a well-functioning economy down the tubes. It also takes careful eyes and reliable data to really understand a country’s true long-term fiscal position. And it takes international consensus, notoriously slow to form, that an economy is really underwater and can’t be rescued by better fiscal policies or improvements in productivity or technology for the alarm to sound. The best indicator that a country’s fiscal policy is out of control and leading an economy to live beyond its means is its national saving rate. Whether the government directly spends an increasing share of a nation’s income or arranges its fiscal affairs so that the public does so, the result is higher total consumption relative to national income and a lower ratio of national saving to national income— the national saving rate. In the U.S. case, it’s taken almost five decades of intergenerational redistribution from young savers to old spenders to lower the U.S. national saving rate from its 1960 value of 12.6 percent to its current value of 2.9 percent. 16 And because the United States is saving so little, we can’t keep up with our country’s demand for investment. Today’s difference between domestic investment and national saving— called the current account deficit —is huge. Indeed, for every dollar we Americans are investing in our country, foreigners are investing close to three dollars. Much of this foreign investment in the United States is in the form of foreigners purchasing claims to U.S. financial assets. For example, the Chinese government now holds upward of $1.3 trillion in U.S. government bonds. Suppose the Chinese were to wake up tomorrow and say, “Gee, we’re getting really worried about the U.S. long-term fiscal position. We’re getting concerned that the U.S. government will start to print money to pay its bills and cause inflation. We don’t want to be sitting here holding claims to worthless dollars. We should sell our U.S. bonds and hold other assets that are more secure.” If the Chinese do pursue this line of thought and decide to sell their U.S. bonds, en masse or even in a significant part, there is no question that it would precipitate a U.S. financial crisis of the first order. There are simply too many bond traders around the world eyeing the Chinese-U.S. bond position nervously for this not to happen. The Japanese and the Koreans hold lots of U.S. bonds as well. They too could jump ship at any time and tip the boat, if not sink it, in the process. Surely they and the Chinese are aware of the fact that the U.S. dollar has declined relative to the euro by more than 30 percent in recent years. This depreciation of the dollar has, by itself, represented a form of default on their U.S. bond holdings, since these bonds now can only buy roughly 70 percent of the European goods and services they could formerly purchase. How concerned are world investors about America’s fiscal finances? How closely are they examining the huge recent rise in federal discretionary spending? How much does Medicaid’s huge expansion matter to their thinking? Are they fully aware of the costs of Medicare Part D? How tired are they getting of holding U.S. securities while the dollar continues to sink? The answer is we don’t know. What we do know is that the United States has been pumping more and more air into an already overinflated tire and that there is a point at which it will burst unless the pressure, particularly in the area of healthcare spending, is released.