April 25, 2011 Reading Time: 3 minutes

Rejecting any serious cuts to government spending, President Obama stated recently, “Nothing is easier than solving a problem on the backs of people who are poor, for people who are powerless and don’t have lobbyists or don’t have clout.”

Exactly. In the context of Obama’s much-discussed budget speech of a few days ago, one would gather that he’s talking about how the poor would suffer most from government budget cuts. We’ve heard this line before: how dare anyone attempt to “balance the budget on the backs of the poor!”

The only problem is that the President is 180 degrees off. For it is not cuts to government programs that will really wind up hurting “the poor,” but continuing and indeed expanding these programs when the government is clearly bankrupt. That’s right: government spending hurts, and it hurts precisely those people the President professes so much concern for—the poor.

How could this be? Well, despite the fancy sounding jargon, the economics of it is fairly simple. Here’s how it works in a nutshell: Excessive government spending brings about permanent and huge government deficits. A few years’ worth of mega-deficits leads to an alarming increase in the government’s debt-to-revenue ratio. To forestall the normal bond market reaction, where lenders eventually demand higher interest rates from this increasingly shaky government (a la Greece), it looks to its lender of last resort—the central bank—to subsidize its gargantuan thirst for borrowed funds. The central bank finances an ever-growing portion of current government deficits by printing money—a.k.a. monetizing the debt. And as we all know from Econ. 101, excessive money printing causes inflation.

Here’s some very basic raw data (Dollar figures in Billions):

2006

2007

2008

2009

2010

2011

Federal Deficit

$248

$161

$459

$1,413

$1,293

$1,645

Federal Debt

$8,451

$8,951

$9,986

$11,876

$13,529

$15,476

Federal Revenue

$2,407

$2,568

$2,524

$2,105

$2,163

$2,174

Debt/ Revenue

351%

349%

396%

564%

626%

712%

Deficit/ Budget

9%

6%

15%

40%

37%

43%

Deficit/ Revenue

10%

6%

18%

67%

60%

76%

Net FED purchases of Govt. bonds

$34

-$51

-$252

$301

$295

$1,227*

% of Deficit directly financed by FED

13.69%

-31.82%

-55.03%

21.32%

22.82%

74.57%*

Source: Office of Management and Budget, Historical Tables FY 2012; Federal Reserve Economic Data

*Extrapolation based on estimate of 2011 FY deficit and FED maintaining current pace of bond buying through end of 2011.
Note that I’m not using the debt-to-GDP ratio, the standard measure of the government debt burden, but the debt-to-revenue ratio. I’m increasingly of the opinion that debt-to-GDP is irrelevant. So what does this table say?

Government’s debt-to-revenue ratio has doubled in 5 years
– Government is currently borrowing about 43% of every dollar it spends
– The deficit is more than three quarters of total government revenue
– The FED is currently on pace to monetize $1.2 Trillion of government debt this year, about 75% of total government borrowing for the year

In sum, unless Federal budgets are swiftly and seriously cut, and the government deficit drastically reduced, we’re on track for a continuation of high levels of debt monetization. Debt monetization means money printing, and money printing means inflation. And after this bombshell broke regarding the alleged $38 Billion in cuts to this year’s budget, does anyone really believe there can be meaningful spending cuts on the horizon, even after the 2012 elections?

So I’m going to go way out on a limb and predict that inflation will get worse—much worse—and soon. And who is harmed most by inflation? Well, not folks like you and me—we know the economics of it, can make some sense of the numbers, and at least take steps to protect ourselves (indeed, nobody should know better about inflation protection than sound money economists! In a later post I’ll share some of my strategies). The people who are harmed are those who are least able and least willing to undertake the necessary protective measures. Least able are those who have no wealth with which to acquire protection; least willing, those who lack the economic knowledge. So even if the poor and economically ignorant members of society sense in their gut that the inflation is upon us, what would they do? All that’s left for them is to hope that their transfer payments keep pace with inflation; but as our budget arithmetic suggests, this will only ensure even larger deficits, requiring greater monetization by the FED, guaranteeing even higher inflation.

So next time the President, or any politician, invokes concern for “the poor” in the budgeting process, we can see through this ancient canard. What they say and what they do are two very different things.

Tyler Watts is an assistant professor of economics at Ball State University.

Image by Suat Eman / FreeDigitalPhotos.net.

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