Deep Debt, Deeper Trouble

The White House announcement of a record $455-billion deficit this year and $475 billion next year isn’t as bad as it seems. It’s worse. The administration figures do not include the costs of the U.S. occupation of Iraq, which are now estimated at almost $4 billion a month, or the rebuilding of Afghanistan.

These glaring omissions indicate the White House recognizes that at a certain point, growing deficits threaten economic growth. In less than two years, the Office of Management and Budget has gone from predicting a surplus of $334 billion to anticipating a deficit of $455 billion in 2003.

Of this year’s deficit, $375 billion has been created by tax cuts alone. Overall, the administration is poised to put the country into a likely debt of $4.1 trillion over 10 years.

When the government goes that deeply into debt, interest payments alone gobble up money that should be used by companies for capital investments in equipment. It’s the same situation as a father who needs a new commuter car but is paying $200 a month in interest charges on his maxed-out credit card.

To attract the funds to cover the debt, the government drives up the price of borrowing for everyone. It’s no accident that yields on 10-year U.S. Treasuries have gone up in July from 3.1% to almost 4%, which puts sharp upward pressure on mortgage rates.

Eventually, the Federal Reserve will have to raise interest rates as well to attract domestic and foreign funds to pay for the deficit.

Of the members of the Bush economic team, Treasury Secretary John W. Snow is the only one to depart from the administration script, which declares that deficits are only a minor nuisance. Speaking in London on Wednesday, Snow called the deficit “worrisome” and expressed concern about the federal government borrowing so much money that it will crowd out private investment.

Still, Snow, like Federal Reserve Chairman Alan Greenspan, is predicting growth. But despite massive cuts in interest rates, it hasn’t happened so far, and the deficit isn’t helping. President Bush’s main argument for tax cuts was that they would stimulate the economy and create jobs.

With the unemployment rate at a nine-year high of 6.4% and the deficit burgeoning, tax cuts are having the opposite effect. As the cuts continue to phase in, even a thundering economic recovery won’t be able to prevent large deficits.

There are small-government hard-liners inside and outside of Congress who make no secret of hoping that the huge tax cuts will force substantial reductions in federal entitlement programs.

The biggest targets for shrinkage are Social Security and Medicare. Any move in this direction would deliver the exact opposite of the vibrant economy that Bush promised the tax cuts would bring.

The administration can undo some damage by delaying all or part of the phase-in of income-tax rate cuts and dividend tax reductions. The longer the White House resists reality, the more it risks smothering economic recovery.