By Doug Casey
Casey Research

Everyone knows that the US government is bankrupt and has been for many years. But I thought it might be instructive to see what its current cash-flow situation actually is. At least insofar as it's possible to get a clear picture.

As you know, the so-called Super Committee recently tried to come up with a plan to cut the deficit by $1.5 trillion and failed completely. To anyone who understands the nature of the political process, the failure was, of course, as predictable as it was shameful. What's even more shameful, though, is that the sought-after $1.5 trillion cut wasn't meant to apply to the annual budget but to the total budget of the next 10 years – a fact that is rarely mentioned.

Now whenever the chattering classes talk about cuts, it's always about cuts over the course of 10 years. Which is a dodge, partly because most of the supposed cuts will be scheduled for the end of the period, but also because new programs, new emergencies and hidden contingencies will creep in to offset any announced cuts. So the numbers below aren't a worst case; they're the rosiest possible scenario. People have thought I was joking when, asked how bad the Greater Depression was going to be, I answered that it would be worse than even I thought it would be. But I haven't been joking.

To sum up the situation, given its financial condition and the political forces working to worsen it, the US government is facing a completely impossible and irremediable situation. I'm going to try to illustrate that here. But because I'm a perpetual optimist, not a gloom-and-doomer, I'm also going to give you solutions to the purely financial problems – albeit with some good news and some bad news. The good news is, there actually are solutions. The bad news is that there is zero chance that any of them will be put into effect.

The problems are one hundred percent caused by the US government, not by bankers, brokers or the real estate industry – although they have been complicit. Recall what government is: an organization with a monopoly of force within a certain geographical area. Its purpose is, ostensibly, to protect the inhabitants of its bailiwick from the initiation of force. That implies three functions: an army to protect against aggressors coming from outside of its borders; police to protect citizens from aggressors inside its borders; and a court system to allow citizens to adjudicate disputes without resorting to force. Assuming you're going to have a government, it's important to limit it strictly, lest it get completely out of control – it's got a monopoly of force, after all – and overwhelm the society it's supposed to protect.

Here I want you to distinguish government from society. They are not only two totally different things, but are potentially antithetical to each other. This is because the essence of government is force, not voluntary cooperation. Everything that people think the government provides (beyond some forms of protection) is really provided by society or with resources the government has taken from society. It's critical to understand this, or you won't see the slippery slope the US is now sliding on.

Is there any chance that the US government can reform and go back to a sustainable basis at this point? I'd say no. Its descent started in earnest with the Spanish-American War in 1898, when it acquired its first foreign possessions (Cuba, the Philippines, Puerto Rico, etc). It accelerated with the advent of the income tax and the Federal Reserve in 1913. It accelerated further with World War I, when the government took over the economy for 18 months. The New Deal and World War II made the state into a permanent major feature in the average American's life. The Great Society made free food, housing and medical care a feature. The final elimination of any link of the dollar to gold in 1971 ensured ever-increasing levels of currency inflation. The Cold War and a series of undeclared wars (Korea, Viet Nam, Afghanistan and Iraq) cemented the military in place as a permanent focus of the government. And since 9/11, the curve has gone hyperbolic with the War on Terror. It's been said that war is the health of the state. We have lots more war on the way, and that will expand the state's spending. But the Greater Depression will be an even bigger drain, and it will likely destroy the middle class as an unwelcome bonus.

In all that time, from 1898 to today, there have been no substantial retrenchments of the US government, and the situation is getting worse, on a hyperbolic curve. Trends in motion tend to stay in motion until a genuine crisis changes them, and this trend has been gaining momentum for over a century.

Let's divide people into three classes – rich, poor and middle class. Rich people are going to be okay. They can bribe the politicians to change the laws, hire the lawyers to interpret the laws, the accountants to limit their liabilities, advisors to help them profit from distortions and travel agents to get them out of Dodge. They may get eaten later, but for the moment, don't worry about them.

The poor don't have much to lose, and the government is going to keep throwing benefits at them to keep them happy. That's a shame because it cements them to the bottom as poor people – but that's a topic for another day.

The real danger is to the middle class, and it's a serious matter because the US is a middle-class society. These are people who try to produce more than they consume and save the difference in order to grow wealthier. That formula has worked well up to now – but almost everybody saves dollars. What happens, however, if the dollars are destroyed? It means that most of what they saved disappears, and most of the middle class will disappear with it, at least for that generation. They'll be very unhappy, and they'll be up for some serious changes. I'll come back to those later.

The Budget

Take a look at the following pie chart of US government spending. It's cut into 10 slices, by function. The government used to break down and report its spending according to agencies – Defense Department, so much; Department of Agriculture, this much; FTC, that much. They've de-emphasized that and now seem to prefer reporting by function, because most of the agencies do many things. Actually, with thousands of agencies, departments, divisions, bureaus, units and contractors, it's impossible to figure out exactly who does what in the government. It's so large, so irresponsible and so unmanageable that the only solution is to abolish things wholesale. Bureaucracy naturally grows unless it's pulled out by the roots; reform, or pruning it back, is doomed to failure.

Justice

The chart shows a tiny little yellow sliver, 2% of the pie, equaling $55 billion, for administration of justice. That's the police and the courts – by far government's most important functions, but also by far its smallest expenditure. That's a lot of money, but how much of it is really necessary? Of the 2.3 million people currently incarcerated and the tens of millions more who are ex-convicts, parolees or otherwise "in the system," most are there because of victimless crimes, mainly drugs. In the Constitution, only three federal crimes are mentioned – counterfeiting, piracy and treason. Dope isn't there. Now there are over 5,000 categories of federal crime. Most of them should be abandoned to the states. So the most important function of the federal government could be cut back hugely.

Defense

This is the red chunk, 24%, equaling about $850 billion. The very title of this part of the budget is an Orwellian misnomer. Until 1946, there was a War Department (for declared wars) and the Department of the Navy (for miscellaneous foreign adventures). Regrettably, the Defense Department doesn't defend the US so much as its own budget. By having troops all over the world, they're actually attracting danger to the US. As you know, the US spends more on so-called defense than the rest of the world combined; in effect, it's bought a gold-plated hammer that makes everything start to look like a nail. Are there dangers in the world, and bad people? Absolutely. But bankrupting yourself while developing new enemies isn't an optimal response.

A bit of perspective is in order. World War II, by far the biggest war in history, is said to have cost 288 billion 1940 dollars. Today that's only a third of TARP. Of course, those were 1940 dollars, equal to perhaps about 4.1 trillion of today's units. One other thought about the military budget and where it's going: You may recall that, for a while after the Soviet Union collapsed, there was talk about a "peace dividend" of $50 billion. It seemed like a lot of money at the time, but it evaporated like water on a hot skillet.

Americans seem to love their military, if only because it's a part of the government that seems to work (at least when cost is no object), and it doesn't seem corrupt (at least below the level of the Pentagon). They'll be loath to cut military spending and hard pressed to do so with new wars clearly on the way. So it's likely to grow. That said, 90% of this piece of the pie should be eliminated before it’s too late.

Social Security

This is the big blue chunk, at 20%, for about $706 billion. People who receive it don't like to hear this, but Social Security is a classic Ponzi scheme, where late entrants are essential to pay early entrants. But it's worse than a Ponzi scheme because it's involuntary. It's justified by alleging "it's for their own good." But that's a lie, because it actually discourages saving on the part of the poor in two ways. First, it makes many believe saving is unnecessary because they figure they'll have Social Security to rely on when they're old. Second, it takes 6.2% off the top of an employee's pay, plus another 6.2% from his employer, up to $106,800 of earnings. That's over $13,000 every year that can't be saved. Further, it doesn't go into some mythical "lock box." It goes into the government's general revenue, and payments come out of general revenue. It's not somehow "set aside" anymore, as was once the case, when it went to buy a special class of government bonds. Even when that was the case, it was a fraud. Those bonds never represented savings; they just represented future tax revenues that would need to be extracted from future generations.

If the government insisted on making citizens save – itself a bad idea that I don't have space to dissect here – it should be in the form of an individually owned IRA. Chile has had these for 30 years, and as a result today the average Chilean has more net wealth than the average American. They have real assets in the form of shares, not a liability in the form of government debt.

What, then, is going to happen to Social Security? Right now, 12% of the US population are 65 or over, therefore eligible for Social Security. By 2030, that number is going to rise to 23%; about two workers will be supporting each retiree. That's probably impossible, but I doubt we'll have to confront the eventuality because the system is unlikely to last that long. It's a real time bomb, however, because few Americans any longer have sufficient savings to support them in their dotage. So don't look for any cuts here. It's become an insoluble problem.