The National Debt Explained

Why reducing the US budget is not easy to do

Ric Edelman: It's Wednesday, April 24th. On today's show, Paul from Massachusetts wrote to me a pretty thoughtful question. He sent me his question to Ask Ric at TheTruthAYF.com – you can do that too by the way, the link to doing it is in the show notes. Paul wrote to me the following: “Ric, my financial advisor says there's a big looming crisis – the federal government year after year spends more money than they take in. In general terms, where and in what relative amounts is the government spending money? Second, what are the consequences if the government continues to spend more than it collects? Third, what are the solutions?” Three good questions Paul, and yeah, this is a hot topic for a lot of people. So let me explain it to you, and while I do that I'll toss in some interesting tidbits. 

Last year the federal government spent $6.1 trillion dollars. But it only brought in $4.4 trillion. That's a deficit of $1.7 trillion, meaning the government spends $1.7 trillion more than it earns. That's kind of like you earning $100,000 a year, but spending $140,000. Where do you get the extra $40,000? You borrow it. The federal government's been borrowing for so long that the total amount of its debt is now about $28 trillion. That's like saying you've been borrowing $40,000 a year for so many years. You now owe $650,000 or nearly seven times your annual income. The interest alone on all that debt for the federal government is $700 billion a year. 

That's like saying you've got a $100,000 income, you're paying $11,000 a year in interest, and while you're doing that, you're going out and borrowing another $40,000 – meaning next year you're going to owe even more, and your interest expense is going to be even higher. So, why doesn't the government just stop doing this? 

Why doesn't it just stop spending so much money? If we cut expenses, we avoid getting further into debt, and by cutting expenses, we free up some cash that we can use to pay off the debts we currently have. Well, that's a great idea, but it's not so easy, and here's why. All federal spending falls into just three categories: mandatory, discretionary, and interest. 

We have to pay the interest we owe, like I said, that's $700 billion a year, and we also have to pay the mandatory bills. What are those? Mostly: Social Security, Medicare, and Medicaid. 20% of the people in this country get benefits from Medicare. Another 20% get Medicaid benefits. And 20% get Social Security benefits. There's some redundancy here. Some people are getting both. We're double counting in a few cases. But clearly, more than half the country gets money from the government. Medicaid spends $616 billion a year. Medicare spends $839 billion. And Social Security spends $1.3 trillion. Add in another trillion for other similar programs, plus $700 billion in interest, and you've just nailed $4.5 trillion in spending, out of the total $6.1 trillion. All that spending, is required by law. President cannot stop it, neither can Congress. Unless, of course, they vote to change the law. And who's gonna pass a law killing Social Security or stopping interest payments on our debt? So, this is why all that is called mandatory spending. $4.5 trillion out of a budget of $6.1 trillion.  

So, out of that $6.1 trillion budget, we've got $1.7 trillion left. This is called discretionary spending. It's our last category. Every year, we get to choose what we spend this money on. Well, we could just stop spending any of it, right? After all, it is discretionary – that means optional, voluntary. We spend it only if we choose to spend it. You probably consider your mortgage to be mandatory, but the cupcakes you just bought at the grocer? Those cupcakes were voluntary. You didn't have to spend money on cupcakes if you didn't want to, right? You could have diverted the money that you were paying for cupcakes into paying off credit cards. 

So why doesn't the government just do that? Stop the discretionary spending to pay off the debt. Well, if we want to do that, we've got to figure out what we wouldn't be spending money on anymore, right? If we're not gonna engage in discretionary spending, we're not going to buy cupcakes. What does it mean for the federal government? What are the cupcakes that they are buying? Well, the biggest cupcake? National defense – we spend $800 billion a year on our military and homeland security. Do you really want to eliminate the Army, the Navy, the Air Force, the Marines, the Coast Guard? I don't. I don't think you want to either. Our defense spending is 13% of the budget. So even if we did totally eliminate it, we'd still be spending $5.3 trillion. If we cut the defense budget by a big number, say 25%, we'd only be saving $200 billion. That's 3% of our total spending. That really doesn't move the needle. And anyway, defense is only half of our discretionary spending. 

The other half is all those other government agencies. The Education Department, the Energy Department, the Commerce Department, the State Department, Labor, Agriculture, Veteran Affairs, the Department of Interior, Transportation, the Justice Department, Housing and Urban Development, the Treasury Department. Which one of those do you want to kill? None of them. By themselves, equal even 1% of the budget. Together, add them all up, it's only 13% of the budget. In other words, 87% of all federal spending is for Social Security, Medicare, Medicaid, defense, and interest. Only 13%, less than $1 trillion, covers everything else that the entire federal government does. Building roads, hospitals, protecting national forests, doing medical research, crime prevention and investigation, investor protection, housing. The list is pretty long. This is why Congress does nothing about the budget. We can't materially cut spending. Not unless you're willing to cut Social Security and Medicare and defense. 

So the only choice is to increase revenue. That means increasing taxes. How many members of Congress are willing to do that? Remember, we're spending $6.1 trillion but collecting only $4.4 trillion. A deficit of $1.7 trillion. That means we'd have to increase taxes by 40% to eliminate the deficit. If you are right now in the 28% tax bracket, your tax rate would have to rise to 39%. Are you willing to support legislation that raises your taxes 40%? I don't think so.  

So, Congress and the White House have only three choices to fix the mess we're in with the deficit and the national debt. They can cut spending. Well, we already looked at that. There's not much room there. They could raise taxes. Eh, that's pretty much politically impossible. So there's really only one solution left. They can borrow more money. That is certainly the easiest thing to do, and that's exactly what the government has been doing. 

Last year we borrowed $1.7 trillion, we'll borrow even more this year, and our total debt right now is $28 trillion. And this year we're gonna borrow even more, our total debt will be even higher, and the more we have in debt, the more we have to spend in interest payments. And here's a tidbit for you. The higher the interest rates go, the worse this gets. 

Federal government had a great couple of years when interest rates were zero, but now treasuries are paying 5%. Because of inflation. That means the government is spending a ton more on its debt than it did a few years ago. If you've ever had credit card debt, you know the downward spiral this creates. You owe a lot of money, so you borrow to pay the interest. This adds to your debt, and that increases your interest expense, and that forces you to borrow even more, and eventually the interest expense becomes bigger than all your other spending. As an individual, if that happens to you, you just file bankruptcy. The court cancels out your debts, so you can start over. That's fine for a person. But a country can't do that, can it? What would happen if it did? Well, if all this makes you scared, you're not alone. Just last week, the IMF said that the $1.7 trillion US deficit poses, quote, “significant risks”, unquote. And not just to the United States, the IMF said, but to the entire global economy. 

The US deficit, which is 7% of our budget, is three times bigger than the deficit held by other leading countries. And our debt is more than twice as high as a percentage of the budget as emerging markets, meaning we do a worse job with our budget than countries like Brazil, Turkey, Romania, Bulgaria, Hungary, Morocco, and Argentina. The IMF said that the US, quote, “critically needs to take policy action to address fundamental imbalances between spending and revenues”, because rampant spending could, quote, “have profound effects for the global economy and pose significant risks for other economies.” 

Well, that's the looming crisis, Paul, that your financial advisor was referring to. I don't have any answers for any of this. I just wanted you to understand the situation, the dilemma we're in. It'll take smarter people than me to figure out a solution.  

The only idea I can come up with is for the government to buy Bitcoin. So it can get an 8x return on its money in the next five years. Oh, wait, the government already does own Bitcoin. The US Treasury has $12 billion worth of it. No, the government did not invest in Bitcoin. It seized it from crooks and scam artists over the past decade. And that Bitcoin that the Treasury is now holding onto is worth billions. Maybe the Fed really ought to start buying some Bitcoin. Okay, I'm kidding about that.  

But hey, since I brought it up, let me tell you this. Obviously, the federal government issues a lot of treasury bills and notes and bonds. They sell them to investors, and they give the investors interest. That's how the government finances its debt. It issues other debts, too. Most of it, though, is treasuries. Guess where all that money is? Well, all those treasuries are held in brokerage accounts all over the world on behalf of individuals and institutional investors. And now, more than a billion of those treasuries are sitting on public blockchains. 

Now, a billion dollars might not sound like much, considering that the total amount of treasuries is $12 trillion. But this $1 billion is a 10x increase over just one year ago. Why would anybody bother to put treasuries on a blockchain? Why would anybody buy them there? What's the point of all that? The treasuries that are on blockchains are tokenized treasuries. In other words, they are digital representations of government bonds. These tokens can be traded on these blockchains.  

The two biggest funds that are doing this are Franklin Templeton's, Franklin On-Chain US Government Money Fund, the symbol is FOBXX, that's got $360 million dollars in it. And the new BlackRock Biddle Fund, BUIDL, which in less than a month has already raised $250 million dollars. It's really simple. You love owning a diversified portfolio, that means you have some assets that are very high in risk, and some assets that are very low in risk. And treasuries are the very lowest. These securities are widely considered the safest in the world because the interest and principle are guaranteed by the Us government. So the question is not, will you own treasuries as part of your diversified portfolio? The question is, where will you buy your treasuries? 

Ordinarily, people buy them directly from the government, but that's a nuisance because you've got to go to the treasuries website, or you buy them in your brokerage account via your financial advisor. But when you do this, you can only trade during market hours, 9:30am to 4:00pm, Monday through Friday. No nights, no weekends, no holidays. But when you buy treasuries on a blockchain, such as through Franklin's On-Chain Money Fund or BlackRock's new Biddle Fund, well now you can trade 24/7/365 with instantaneous settlement. You don't have to wait a day or several days for the market to open.  

And it's not just treasuries that people are buying this way. People are also buying stablecoins. A stablecoin is a digital asset. You know, Bitcoin is incredibly volatile. That's a big reason people don't like it or are afraid of it. But stablecoins try to solve that problem by offering a stable price. That's why they're called stablecoins. They're kind of like bank money accounts, or savings accounts, or checking accounts, you know, there's no fluctuation in value there. You put a dollar in a savings account, the dollar is always a dollar. Stablecoins try to do the same thing. There's no FDIC, there's no bank involved, but they try to accomplish the same. And when you put a dollar into a stablecoin, they take your dollar and they buy a treasury with it. 

So the stablecoins are backed by US treasuries. That's how most of them work. And there's $150 billion in these stablecoins all around the world. And they're projected to hit $3 trillion in assets by the end of the decade. Ripple, one of the biggest crypto companies – which, by the way, the SEC has been suing for years, including a $2 billion lawsuit – Ripple just announced that they're launching a stablecoin this year. PayPal just rolled out their own stablecoin, called the PYUSD. So everybody using PayPal can now send money to anybody in 160 countries, instantly, with no transaction fees. No fees, that's a big deal. Not only can you send money from one country to another instantly, you can now do it for free. The world banks is the average cost to send $200 to somebody in another country is 6%, 12 bucks. That's a big deal to someone living on $2 a day at 12 bucks is a week's worth of wages. So PayPal being able to offer this to people for free? That's a big deal.  

And it's not just financial and crypto companies getting in on this. Sony's entering the market too. They're doing a trial on the Polygon blockchain. And there's a lot of federal government support for this. Christopher Waller, who's a member of the Federal Reserve Board of Governors, says that these stablecoins could boost the dollar's strength around the world. Because when you buy a stablecoin, the stablecoin operator takes your dollar and puts it into treasuries, which are backed by US dollars. By the way, Waller was appointed to the Fed by Donald Trump. I know, I've gone on a tangent here. I've digressed from Paul's question about the federal budget and the deficit and the debt. But isn't it interesting how blockchain technology is being applied to all of this? Maybe we might find an answer to our financial problems in these technological innovations. Things like blockchain and AI. Maybe, Paul, just maybe, that's how we're going to get ourselves out of this mess. If you've got a question like Paul did, send it to me. Send it to Ask Ric at TheTruthAYF.com. The link is in the show notes.  

On tomorrow's show, I'm going to answer more of the questions you've sent to me. 

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