America's Fiscal Constitution (2 page)
Read America's Fiscal Constitution Online
Authors: Bill White
22
G
ROWTH
, T
AXES, AND THE
F
EDERAL
R
ESERVE
23
R
EFORMING THE
P
OLITICAL
P
ARTIES
A.
US Treasury Debt, 1790–2013
B.
Unmonetized Debt Compared to National Income and Tax Revenues, 1790–2012
C.
Federal Funds Revenues, Outlays, and Surplus/Deficit, 1789–2013
D.
Foreign Holdings of US Debt, 1976–2011
E.
US State and Local Debt, 1970–2009
G.
Corporate Income Tax: Effective Rates and Share of National Income, 1960–2009
H.
Personal Income Tax: Effective Rates and Share of National Income, 1950–2010
T
HE ARCHITECT OF
the written Constitution, James Madison, hoped that federal leaders would limit debt with principles that would be clearly “visible to the naked eye of the ordinary politician.” For almost two centuries ordinary American politicians followed well-defined principles—an unwritten fiscal constitution—to make budget decisions that now seem extraordinary. They incurred debt for only four well-defined purposes. That achievement appears more remarkable every year, as the federal government now lurches from one budget crisis to another.
The size and nature of federal borrowing changed when the nation’s traditional limits on debt collapsed at the beginning of the twenty-first century. Never before had the federal government waged major wars without raising taxes. Never before had it so heavily relied on foreign creditors. Never before had the president and Congress financed a permanent new domestic program entirely with debt. Never before had progressives accepted, much less insisted on, the substitution of federal debt for payroll contributions supporting the Social Security trust fund. Never before had many conservatives organized the fight against a constitutional amendment requiring a balanced budget. Never before had so many leaders of each major political party claimed that balancing the budget—even with national income at an all-time high—would impair sustainable economic growth. After 2000 the federal government borrowed increasing amounts to pay for routine operating expenses in addition to debt incurred to pay for wars and recession-related stimulus.
The collapse of traditional budget practices occurred quietly, unaccompanied by some notable shift in public opinion or ideology. Americans did not wake up one morning and decide to mortgage their children’s future. No mandate to borrow arose from the photo-finish 2000 election. The federal government borrowed large amounts with a Republican president and Republican Congress, a Republican president and Democratic House, a Democratic president and Democratic Congress, and a Democratic president and Republican House.
The twenty-first century borrowing binge cannot simply be blamed on some defect in the character of federal elected officials. For two decades I have known our presidents and many congressional leaders in each party. They and others willing to endure the ordeal of elections care at least as much about their country’s future as do others who sit on the sidelines. In the 1990s, as a chief operating officer of a federal cabinet department, I found that leaders in both parties respected good faith efforts to balance budgets.
I am more optimistic than those cynics who doubt that the federal government can balance its budget once more. For much of the last decade I served as the mayor of Houston, the nation’s fourth largest city, with a population greater than that of many states. Like most other state and local governments, Houston cannot use debt to fund routine operating expenses. Almost daily I explained to citizens tradeoffs between various levels of taxation and spending. People with diverse backgrounds and beliefs were (and are) able to recognize the need to balance public obligations and tax revenues.
To understand what has recently gone wrong with federal debt, it helps to know what had once gone right. We can learn much from America’s exceptional history, which we often treat as almost a form of secular scripture. American elected officials limited debt when facing far harder budget trade-offs after the Revolution, the Civil War, and sixteen tough years of the Great Depression and World War II. Thomas Jefferson hoped that fiscal discipline would become “habitual” and that future voters would use the fiscal records of “different epochs” to hold officials accountable. This book’s description of historical limits on federal debt—the American Fiscal Tradition—is written with Jefferson’s vision in mind.
F
IFTY-FIVE CITIZENS OF TWELVE STATES GATHERED TO DECIDE HOW
to pay past due bills from the War of Independence. They solved that problem by creating a new nation, the United States of America.
George Washington worried about public debt that could grow “like a snowball . . . rolling.”
1
When leaving the presidency he cautioned his countrymen to avoid “throwing upon posterity the burden which we ourselves ought to bear.”
2
The first American citizens did not treat “posterity” as an abstraction. Most had endured the hardship of untamed wilderness in order to create a better future for their children. Farmers and merchants realized that private investment suffered when public debt absorbed more credit. Even Americans with little formal education understood that government paid for on an installment plan would ultimately cost more. Early Americans valued freedom, including national independence from foreign creditors. Their sacrifices transformed the world’s first modern democracy into the first major nation to become debt-free.
The Constitution required Congress to authorize any debt, but it did not prescribe the use of borrowed funds. Early federal leaders remedied that lack of clarity—and several others—by creating an informal constitution to supplement the written one. Great Britain had an unwritten constitution, and one of its principles—taxation imposed only by the consent of some body of taxpayers—had spawned the American Revolution.
By 1820 America’s unwritten fiscal constitution included principles for limiting debt. This book refers to those limits on debt as the American Fiscal Tradition. That tradition was more than a simple belief in balanced
budgets, since federal leaders were allowed to borrow for certain extraordinary purposes.
Budget practices instituted by the Founding Fathers helped generations of federal leaders resist the temptation to borrow excessively. Those practices included clear accounting, “pay as you go” budget planning, and the use of trust funds with spending confined to the level of tax revenues dedicated for a particular purpose. Congress clearly defined the amount and use of each debt incurred.
Limits on debt strengthened democracy itself. “Pay as you go” budgets helped voters to weigh the benefits of each new federal financial commitment against the palpable price paid in the form of taxes.
The role of political parties would, in time, also become embedded in the nation’s unwritten constitution. The original Democratic and Republican parties incorporated traditional budget principles into their early platforms. Each party tried to persuade voters that it was the most trustworthy steward of the public purse. The competitive pressure to balance budgets forced party leaders to resolve conflicts among the varied priorities of their constituencies.
In the first year of the Washington administration, two Founding Fathers considered how to prevent government officials from using debt to provide services that were more costly than available tax revenue. Thomas Jefferson feared that public officials might try to use debt to hide the actual cost of government. He asked James Madison to minimize that risk by drafting a constitutional amendment that would limit debt, but Madison suggested that principles based on experience—rather than abstract philosophy—would yield more effective restraints.
3
Budget experiences in the nation’s first several decades helped define only four acceptable uses of debt.
The United States
borrowed to preserve the union
when it assumed state debts from the Revolution and brought states back into the Union after the Civil War.
The nation
borrowed to expand and connect the nation’s borders
with the Louisiana Purchase. The United States later incurred modest debts to extend its boundaries to the South and the West and to better link its territory with intercontinental railroads and the Panama Canal.
The United States
borrowed to wage war
beginning with the War of 1812. In that war, the Civil War, World War I, and World War II, the federal government incurred debt and adopted extensive new tax systems that
facilitated debt service after the wars. The federal government used debt to finance wars with Mexico, Spain, North Korea, and North Vietnam. Only after the collapse of the American Fiscal Tradition in the twenty-first century did the United States finance prolonged wars solely with debt.
The federal government
borrowed during severe economic downturns
beginning with the Panic of 1819
.
The United States also incurred debt during three major depressions and severe recessions. Federal debt plugged holes in budgets occasioned by sharp drops in forecasted revenue, and it helped pay for some expenditures directly related to the downturns.
The federal government promptly balanced its budget after each temporary use of debt. Until the Cold War, federal leaders used surpluses to steadily retire debt after its emergency use. Occasionally they did borrow when revenues fell short of mistaken estimates. But for almost two centuries the president and Congress never planned to incur debt simply to reduce taxes or to pay for routine annual spending.
Generations of Americans took the American fiscal constitution for granted. President John F. Kennedy did not have to spell out its details in a 1962 commencement address challenging young Americans to adapt the nation’s fiscal tradition to the modern economy. Weeks after that speech, a poll showed that three out of four Americans preferred to be taxed at high rates during the Cold War rather than have the nation incur debt. The most powerful member of Congress in the late twentieth century, Wilbur Mills, told Kennedy that voters adhered to “this old concept that they’ve grown up with: if you’re gonna cut taxes . . . you better cut your spending.”
4
The American Fiscal Tradition collapsed in 2001. Afterwards the federal government regularly borrowed a third or more of its expenses. Only part of the debt was used for the traditional purposes during war and a severe downturn. By 2014 federal debt had soared to almost $120,000 per working American.
5
Debt now casts a dark shadow over the nation’s economy. After 2008 debt was nine times greater than revenues available to pay for the debt, a level higher than in any multiyear period of time before Thomas Jefferson became president in 1801.
6
Bankers commonly use such a similar “debt coverage ratio” to evaluate the creditworthiness of debtors. A business typically considers bankruptcy before its debt rises to nine times annual revenues. Few people would feel comfortable incurring home equity debt with an existing mortgage nine times their annual income.
Many Americans and foreign leaders question the capacity of the nation’s current political system to restore fiscal discipline. As interest rates rise and the federal government begins to pay the Medicare bills of the vast Baby Boom generation, the United States continues to borrow. After each of the nation’s five prior spikes in debt—following the Revolution, the War of 1812, the Civil War, World War I, and World War II—borrowing ceased entirely once the emergency ended. Today debt funds much of the federal government’s routine costs, even with national income at an all-time high.
Events during two pivotal years in budget history, 1950 and 2003, illustrate the triumph and collapse of the American Fiscal Tradition. In 1950 the requirements of the unwritten fiscal constitution forced federal leaders to weigh spending and taxes for global security and minimum pensions for older Americans. In 2003 debt helped disguise the costs of tax reduction, reconstruction of foreign nations, and a vast expansion of federal medical services. The battle in each milestone budget year began with a State of the Union address delivered by a president often underestimated by his political opponents.
1950: T
HE
P
OWER OF THE
A
MERICAN
F
ISCAL
T
RADITION