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The Surplus Hoax

Mises Daily: Friday, November 03, 2000 by

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The ever-growing budget surplus of the U.S. Government is exciting the spending instincts of most politicians. It stirs their passions and encourages them to find and concoct new spending programs that will tap into the surplus.

In defense of their position and income, most politicians are ever eager to take as much money as possible from taxpayers so that they may buy the favors of the voters. They wax eloquent about the great benefits of spending but fall silent about the costs and consequences of taxation. Most of them may even engage in the art of fiscal legerdemain which turns a tax into a benefit and a deficit into a surplus. The budget surpluses of the Clinton Administration are current examples of such deception.

A budget reflects a president's aspirations and hopes, his wishful thinking as well as his philosophy of politics. It's a mixture of financial planning and political campaigning in which fiscal legerdemain knows no limitations of party or time. The federal budget surpluses since 1998 are no exception to the rule. They obscure significant federal expenditures through bookkeeping gimmickry, such as borrowing new money to pay off old loans and calling it "debt reduction."

Imagine a corporation suffering losses and being deep in debt. In order to boost its stock prices and the bonuses of its officers, the corporation quietly borrows funds in the bond market and uses them not only to cover its losses but also to retire some corporate stock and thereby bid up its price. And imagine the management boasting of profits and surpluses. But that's what the Clinton Administration has been doing with alacrity and brazenness. It suffers sizeable budget deficits, increasing the national debt by hundreds of billions of dollars, but uses trust funds to meet expenditures and then boasts of surpluses which excites the spending predilection of politicians in both parties.

If a corporation executive were to engage in such deceit, the Commissioners of the Securities and Exchange Commission (SEC), who are supposed to promote full public disclosure and protect the investing public against malpractice in the securities markets, would intervene with severity; when a president of the United States and his appointees engage in similar practices, all his men fall silent.

The surplus deception is clearly discernible in the statistics of national debt. While the spenders are boasting about surpluses, the national debt is rising year after year. In 1998, the first year of the legerdemain surplus, it rose from $5.413 trillion to $5.526 trillion, due to a deficit of $112.9 billion. Since then it has risen to $5.643 trillion today, October 15, 2000, with another deficit of $117 billion.

The federal government spends Social Security money and other trust funds which constitute obligations to present and future recipients. It consumes them and thereby incurs obligations as binding as those to the owners of savings bonds. Yet, the Treasury treats them as revenue and hails them for generating surpluses. If a private banker were to treat trust fund deposits as income and profit, he would face criminal charges.

In the coming years, the trust fund surpluses are estimated to grow significantly, inviting ever more fiscal legerdemain.

Estimates of Trust Fund Surpluses
(In billions of dollars)
1998$99.195
1999123.690
2000147.834
2001159.639
2002172.002
2003184.318
2004194.618
2005213.654

The Congressional Budget Office (CBO), which is the research arm of Congress, is rather pessimistic about future trust fund surpluses. It warns of lurking deficits in the distant future. Within a decade the members of the baby-boom generation will retire and put financial strains on Social Security and Medicare. The number of beneficiaries will soar as will the cost of health care due to advances in medical technology.

CBO estimates that federal total spending on retirement and health programs will more than double, rising from 7.5 percent of gross domestic product (GDP)in 1999 to more than 16.7 percent in 2040. Deficits are expected to reappear in 2020 and climb to 9.5 percent of GDP by 2040. CBO suggests that structural reforms are needed, no matter how politically difficult they may be. Without such reforms the trust fund deficits together with the Treasury deficits would soar to record levels.

The present trust fund surpluses do affect the capital markets in a favorable manner, which most critics do not care to mention. Whenever government suffers a budget deficit, it drains the capital market of valuable liquid funds, which otherwise would have produced capital investments or private consumption; and it raises interest rates and crowds out private activity. Trust fund surpluses offset the ill effects of Treasury deficits. Whenever the surpluses exceed the deficits, they even provide productive capital as Treasury obligations are retired. But, no matter how advantageous the trust fund surpluses may be for the capital market, they constitute tax exactions that reduce the income and level of living of taxpayers.

The Treasury's dependence on trust fund revenue is visible also in the shift of the national debt from the hands of individual and institutional investors to the coffers of federal trust funds, that is, from marketable obligations to non-marketable IOUs. The Treasury calls it "debt reduction"; it actually is mere "debt shifting" from bill and bond holders to Social Security claimants. During the past two years, the marketables declined by some $223 billion while the non-marketables rose by more than $450 billion, the balance representing new debt. At this time, the marketable debt of some $3 trillion still surpasses the non-marketable debt of of $2.6 trillion.

President Clinton proposes to devote the entire Social Security surplus to reduce and finally eliminate the Treasury debt held by the public. He reasons that "creating a debt-free United States will eliminate debt service costs and result in substantial interest savings."(The Budget for Fiscal Year 2001, p. 36). He obviously infers and wants us to believe that "debt shifting" is "debt reduction," that the U.S. Treasury will be debt-free when the Social Security Administration holds all its debt, and that this shift will result in substantial interest savings. The President palpably engages in the art of legerdemain which turns debt shifting into debt reduction, a huge national debt into freedom from debt, and interest payments payable to the Social Security Administration into interest savings.

The "Miscellaneous Receipts" of the Treasury are legerdemain revenues created by the U.S. Congress. They consist primarily of the net earnings of the Federal Reserve System. In fiscal 1998 and 1999 the System deposited $32.658 and $34.929 billion respectively with the Treasury; in fiscal 2000 they are estimated to exceed $37 billion.

The Budget document unfortunately does not reveal that the System financed massive U.S. government expenditures by purchasing $507 billion of U.S. Treasury securities with money it printed; the Treasury then paid an interest of more than $30 billion to the Fed, which then returned the funds to the Treasury as "Miscellaneous Receipts." In short, one government agency, the Fed, now prints money at minimal costs; another agency, the U.S. Treasury, spends it, but pays an interest to the Fed, which then returns the funds to the Treasury. (Federal Reserve Bulletin, October 2000, p. A5, A26) If a corporation were to engage in such practices, its officers would soon be languishing in federal penitentiaries.

Such machinations obviously build on the power of the Federal Reserve System to print legal-tender money which every American is forced to accept. Having grown accustomed to this force, most Americans no longer question it although it is the very essence of wrongdoing. The power to print money and force it on the people is the power to engage in inflation, which is one of the political evils of our time.

The money thus printed, the Federal Reserve notes, constitute "high-powered money" and as such serve as the base for multiple credit expansion of M1, M2, and M3, which continually erode the purchasing power of the American dollar. Throughout the years, the $507 billion of Treasury securities bought by the Fed not only enriched the Treasury directly, but also indirectly provided annual depreciation gains on the Treasury debt of $5.6 trillion. At an inflation rate of just 3 percent, those gains amount to some $168 billion annually; the U.S. Budget makes no mention of them.

Whoever takes office in 2001 is likely to make short shrift of any and all trust-fund surpluses. If we add his budget proposals to the expenditure growth of the last three years, when spending on domestic programs increased an average of 5.5 percent a year, the future deficits may soar to the lofty levels of the 1980s. Moreover, the remarkable rise in federal revenues in recent years, which flowed from the feverish boom on Wall Street and greatly boosted capital gains tax receipts, is bound to come to an end. When economic activity declines and unemployment rises, most politicians are likely to go into overdrive spending. After all, they always delight in seeking to amuse, coax, and engage the fancy of the electorate.