Tuesday, May 20, 2008

Memo to the President: Spend all you want to!

Dear President,

Your federal expenditures are expanding, and the budget growth has no end in sight, with the projected explosion of social security payments. I know that you've been worrying about how you'll pay for all of this, since tax revenues haven't been rising as fast as federal spending.

Some people say you should raise taxes. Don't listen to them, because if you do, everyone else will unelect you. Instead, instruct the Treasury to keep selling bonds, which is a way to take out loans from the public. Then you can spend as much as you want to without raising taxes. Right now the Treasury is borrowing about $9.3 trillion from people and institutions all around the world. Another trillion won't hurt.

Other people say that you better watch out: if the Chinese stop buying the national debt, we'll be in trouble. Don't listen to them. You can always get your loans (sell your bonds) no matter what. If you sell the bonds cheap enough people will buy them. Selling a bond at a low price is like paying a high interest rate on your loan, but that doesn't matter. You can pay for the high interest rates by selling even more bonds.

Now, Mr/Mrs President, I know you are a smart person. Surely you are asking, "Where will this end? This sounds too much like a free lunch." Excellent question! Indeed, someone must pay for the federal spending.

Federal spending might look like just a bunch of money, but it also involves stuff. Whenever you spend federal money, you are paying workers to stop producing things for the private sector and instead start producing things for the government. Government spending involves a lot of resources, even if the money for the spending is not coming from "taxes."

By funding your spending with national debt, you get to raise taxes without actually raising taxes. Here is how it works. When you sell bonds, people are lending you money. You would think that this would make interest rates rise -- after all, when you get people's money, money becomes more scarce, so the price for borrowing money should rise, by supply and demand.

Indeed, interest rates may rise. If they do, then that is the first hidden tax. Most people don't see the connection between federal debt and the higher interest rates that they pay on their home, college, and car loans. So people are paying for your behavior without realizing it.

However, if interest rates don't rise when you increase the national debt, that's because the Federal Reserve is loaning you money. The Federal Reserve holds interest rates low by buying up government debt. As of May 14, the Fed held about half a trillion dollars worth of U.S. Treasury bonds.

When the Fed is holding interest rates low, it gets even trickier for the public understand that they are still the ones paying for the federal debt. When the Fed buys bonds to hold down interest rates, it is creating money out of thin air. This increases the global supply of US dollars. By supply and demand, the value of the dollar must fall.

A falling dollar taxes American citizens in two ways. First, it become more expensive for Americans to buy foreign products and to travel abroad. Second, foreigners find American goods to be cheaper than they used to be, so exports rise. Now, you might think that rising exports are a good thing. Indeed, rising exports often indicate that an economy is becoming more productive, and this productivity implies abundance and wealth. However, the fact that our goods are being exported, in and of itself, is very alarming. A falling dollar means that that foreigners, instead of American consumers, are getting the stuff we make, and this is perhaps the largest (and most well-hidden) tax on your citizens.

In conclusion, spend all you want to. And while your at it, why don't you give us a little break and cut taxes?

-Concerned citizen

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