Beat the Press is Dean Baker's commentary on economic reporting. Dean Baker is co-director of the Center for Economic and Policy Research (CEPR).

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Paul Krugman added another post on the potential impact of large deficits on the U.S. economy in which he argues that it doesn't matter that the U.S. can print its own currency; it still faces the same constraints from financial markets. I would argue that it matters a great deal for two reasons that I laid out in my previous post.

The first reason is that at any point in time the Fed would have the option to intervene in bond markets and buy up debt, if private investors were demanding very high interest rates. This is important because the decision by the Fed to not buy debt would always be a policy choice, not an economic fact.

There is a popular mythology in economic policy circles that in 1979 there was no alternative to putting Paul Volcker in as chair of the Federal Reserve Board to really tighten the screws and get inflation under control. At the time inflation was rising and the dollar was falling. Volcker sent rates through the roof, giving us the recessions of 1980 (destroying Carter's re-election chances) and then 1981-82. The latter recession was at the time the worst of the post-war era.

Volcker is widely touted for making the tough call to throw millions of people out of work. (Somehow rich and powerful people are always credited with being "tough" when they inflict pain on ordinary workers and the poor. It seems that if they were really tough they would be inflicting pain on the rich.) Arguably Volcker made the right call even though it did impose enormous costs on the country.

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This is what readers of his column presenting a hypothetical presidential address to the country in 2026 must be wondering. In this speech, Mr. Mankiw's president explains to the country how the rising cost of Social Security, Medicare and Medicaid let to unsustainable deficits. Of course Mr. Mankiw's president knows that the real story is the explosive growth of the costs of Medicare and Medicaid. These were in turn driven by the soaring cost of private sector health care. If per person costs in the United States were the same as in other wealthy countries then the United States would be looking at a budget surplus, not a deficit.

Given the basic facts, it is hard to understand why Mankiw's president did not propose a system that allowed the United States to take advantage of trade in medical services by letting Medicare beneficiaries buy into the more efficient health care systems in other countries. The tens of thousands of dollars in annual saving could be split between the beneficiaries, the host government and the U.S. government. The total savings to the U.S. government would reach hundreds of billions of dollars each year.

If Mankiw's president were not such a protectionist then surely she would have pushed for such a policy long before this speech. Opening to trade certainly seems preferable to cutting off health insurance to middle income beneficiaries, as Mankiw's president proposed.

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The Post made yet another effort to attack public sector employees today in an editorial (this one is on its editorial page) that criticized the rate of return assumptions used by public pension plans. It tells readers that:

"Eighty-eight of the 126 largest public pension plans assume a rate of return exceeding 8 percent a year, according to the Wall Street Journal. By way of comparison, the S&P 500 achieved a compound average annual growth rate of 5.69 percent over the past 20 years."

Okay, get your calculators out boys and girls. If I look up the value of the S&P 500 for March 1991 I get 375.22. The S&P closed yesterday at 1313.8. This gives a compounded annual rate of return of 6.46 percent. 

But wait, we have to share a little secret with the folks who write editorials for the Washington Post: stocks pay dividends. Dividends are typically paid out quarterly and usually average 3-4 percent of the stock price. If we add in dividend yields, then we would get an average return over the last 20 years in the 9-10 percent range that is assumed by pension funds in their analysis. 

Of course returns going forward will depend on the current ratio of stock prices to corporate earnings. This is around 15 today (measured against trend earnings) compared to about 20 in 1991, suggesting that the prospects going forward over the next 20 years are likely better than they were back in 1991.

It is especially ironic to see these misplaced warnings about excessive stock return assumptions in the Washington Post. This is a paper that for years featured the columns of James K. Glassman, the co-author of Dow 36,000. At the time, it had no room in the paper for those of us who tried to warn of the risks of the stock bubble.

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It does not happen often, but it does happen; I have to disagree with Paul Krugman this morning. In an otherwise excellent column criticizing the drive to austerity in the United States and elsewhere, Krugman comments:

"But couldn’t America still end up like Greece? Yes, of course. If investors decide that we’re a banana republic whose politicians can’t or won’t come to grips with long-term problems, they will indeed stop buying our debt."

Actually this is not right for the simple reason that the United States has its own currency. This is important because even in the worst case scenario, where the deficit in United States spirals out of control, the crisis would not take the form of the crisis in Greece.

Greece is like the state of Ohio. If Ohio has to borrow, it has no choice but to persuade investors to buy its debt. Unless Greece leaves the euro (an option that it probably should be considering, at least to improve its bargaining position), it must pay the rate of interest demanded by private investors or meet the conditions imposed by the European Union/IMF as part of a bailout.

However, because the United States has its own currency it would always have the option to buy its own debt. The Federal Reserve Board could in principle buy an unlimited amount of debt simply by printing more money. This could lead to a serious problem with inflation, but it would not put us in the Greek situation of having to go hat in hand before the bond vigilantes.

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This appears to be the case, since the Post featured an article, arguing that Social Security benefits should be cut, that made no reference to the the trust fund. The article tells readers:

"Social Security is the single largest federal program, dispensing about $700 billion last year to nearly 60 million people, the vast majority of them retirees. Since the program’s creation in 1935, the cost of Social Security benefits has been entirely covered by payroll taxes paid by current workers. This year, however, payroll tax revenues are projected to fall $45 billion short of covering benefits, and the problem is projected to grow as the number of retirees balloons compared with the number of working adults."

Actually, there have been prior years when current taxes did not cover benefits, but more importantly the program quite deliberately built up a surplus of more than $2.6 trillion, which is held in U.S. government bonds. It is drawing on the interest from these bonds in 2011. It will eventually rely on the principle on these bonds, which will be sufficient, together with current taxes, to cover all benefits through the year 2037.

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In his blog today, Floyd Norris notes an unprecedented divergence between the trends in existing home sales and new home sales. He points out that existing home sales have held up reasonably well, while new home sales are down by more than 75 percent from their bubble peak.

While this is largely true (Core Logic and real estate analyst Keith Jurow have noted an upward bias in the realtors' data on existing home sales) this gap is also entirely predictable given the rise and fall of the housing bubble. New homes are the mechanism that adjusts supply and demand. When prices went through the roof during the run-up of the bubble, builders rushed to build new homes so that they could profit from the extraordinarily high prices. As a result, we had near record rates of new construction from 2002-2006.

However, once the bubble burst and prices began to tumble, there was little reason to build new homes. A large supply of homes for sale and falling prices makes building new homes an unprofitable venture. The price that builders can expect to receive is on average more than 30 percent less than it was at the peak of the bubble and they are likely to have to wait a long period of time before they can even make a sale.

For this reason, it should not be surprising that new home sales have fallen by much more than existing home sales following the collapse of the bubble. They will presumably rise back to a more normal level in the next two or three years, which is likely to mean at least a 100 percent increase from the February level. At that point, we will again be building homes fast enough to replace worn out structures and to meet the needs of a growing population.

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Back in the old days news outlets used to try to have people associated with a political position represent that position. In other words, they used to have conservatives represent conservative positions, liberals represent liberal positions, etc. It just seemed reasonable to have the people who actually held a particular political standpoint present that standpoint to the public.

But, that was then. Now, with the ascendancy of the right over national politics, there is no reason to waste valuable space in major media outlets allowing those who are left of center to express their views. There are plenty of conservatives who regularly express their views in the opinion and news sections. Why not let some of them also express the views of those who are left of center as well?

This obviously was the position taken by the Washington Post when it decided to have Robert Pozen, a finance industry executive and advocate of Social Security privatization, tell liberals what their position should be on Social Security. David Leonhardt highlighted Pozen's "liberal plan" in his NYT blogpost today.

The gist of Mr. Pozen's proposal is to leave benefits mostly unchanged for the lowest wage earners while reducing benefits and raising the retirement age for middle income workers like school teachers, construction workers and fire fighters. By reducing the benefits for those in the middle, Mr. Pozen wants to make Social Security more "progressive." Naturally liberals who were troubled by high-living nurses and plumbers will rally behind this bold effort at redistributing income.

In keeping with this spirit, suppose that we had a media that tilted as much to the left as the current outlets tilt to the right. Obviously, people like me would have the opportunity to lay out what the conservative position should be on reforming the income tax code.

So, here's the outline of my proposal which the Post will be running next week. It will leave income taxes largely unchanged on the bottom 98 percent of taxpayers. We will raise the marginal tax rate to 50 percent on incomes between $250,000 and $10,000,000. Then we would have a zero tax bracket for income over $10,000,000. This means that the richest of the rich will pay considerably less under the Baker plan than under the current tax code. This should accomplish the upward redistribution that is central to the right's political agenda. 

I can't wait to see my column in the Post and highlighted as a conservative plan for tax reform in Leonhardt's blog.

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Showing the sort of balanced journalism that we have come to expect from the Washington Post, its oped page featured a column by Robert Pozen, a financial industry executive and proponent of Social Security privatization, telling liberals why they should support cuts to Social Security. The gist of Mr. Pozen's argument is that Social Security is becoming less progressive over time because the gap in life expectancies between higher paid workers and lower paid workers is growing.

Furthermore, because of growing wage inequality, a larger share of wage income is escaping the Social Security tax. In addition, Pozen tells us that the structure of retirement income subsidies is highly regressive since the bulk of the tax benefits go to high income earners.

So, how do we fix the situation? Maybe improve health care for the bottom half of wage earners (other countries don't have the same gap as the United States)? Nope, Mr. Pozen doesn't want that to be on the agenda of liberals.

Maybe we should try to restructure the economy to reverse the policies that have led to the upward redistribution of wage income over the last three decades. Nope, Mr. Pozen doesn't want that to be on the agenda of liberals.

Maybe we should reverse the structure of retirement saving subsidies so that this is more progressive. Nope, Mr. Pozen doesn't want that to be on the agenda of liberals.

How about raising the cap for the wages subject to the Social Security tax. No, Mr. Pozen tells us that Congress won't do that.

No, the best way that Mr. Pozen can think of for making Social Security more progressive is by cutting benefits for people earning $40,000 a year and higher. Yes, this has been the big problem the country is facing. School teachers, construction workers, and office clerks are getting too much money. We better take away their Social Security benefits so we can make this a fairer society. All good liberals would agree with that.

Remember you can read this only in the Washington Post.


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The NYT reported on the Federal Reserve Board's payment of $82 billion to the Treasury last year, more than 2.3 percent of the total budget. This is striking because this figure vastly exceeds most of the budget items that have dominated the attention of Congress and the media.

In principle, the Fed can offset much of the burden of the debt run up to boost the economy during the downturn by simply buying and holding it. In that case, the interest would be paid to the Fed and then refunded to the Treasury, leaving no net burden for taxpayers. The Fed could prevent this from leading to inflation when the economy recovers by raising reserve requirements. Of course most economists agree that a somewhat higher inflation rate would be desirable at the moment since it would alleviate the debt burden of consumers.

It is remarkable that this path towards dealing with the deficit has garnered so little attention. This could perhaps be explained by the fact that the Wall Street actors who are the main financiers of the anti-deficit crusade are not interested in a deficit reduction path that does not cut social spending and risks somewhat higher inflation. Higher inflation is generally anathema to the financial industry, since it devalues the debt it owns.

It is also worth noting that most people involved in the debate on economic and budget policy are not very astute observers of the economy. They were unable to see the $8 trillion housing bubble that both gave us the current downturn and the large deficits that have fixated Washington.

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Some folks might have heard of it. We had an $8 trillion bubble in this market in the last decade. It led to a huge construction boom. The wealth created by the temporary run-up in house prices also led to a consumption boom. When the bubble collapsed, construction plummeted and consumption fell back to more normal levels. The collapse of this bubble has given us the worse downturn since the Great Depression.

Given the importance of the housing market for the economy it might be reasonable for the media to pay some attention to important economic releases. However, news outlets don't seem to share that perspective. 

The news of a 9.6 percent drop in home sales in February seems to have escaped the notice of the New York Times and the Washington Post. The Wall Street Journal noticed the decline but raised the unlikely possibility that bad weather was a major factor explaining the falloff in sales.

This is unlikely since the data reports the number of sales that were closed in February. Since it typically takes 6-8 weeks between a contract's signing and the closing, most of the contracts for homes sold in February would have been signed in December and January. Weather would have only been a factor if bad weather at the end of the month had prevented people from coming in for a closing during February. 

It is also worth noting that both the median and average house price fell sharply in the month. The median house price is now 5.2 percent below its year ago level.

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The WSJ ran an article in which implied that the ability of the Social Security to use the bonds in the trust fund to pay benefits was a debatable point. It noted that the benefits will soon exceed annual taxes, but then commented:

"Defenders of the program say there isn't an immediate need for changes in Social Security. Past surpluses and projected tax receipts are sufficient to pay full benefits until 2037. After that, seniors would get only 75% to 80% of promised benefits if changes aren't made."

Actually, all official budget agencies hold the view attributed by the Journal to "defenders" of the program. This is the law.

It is sort of like saying that "defenders" of Bill Gates say that he has $50 billion to spend as he likes. Defenders of Bill Gates may say this, but it also happens to be true. 

In the same vein, the article seems badly confused about how bonds work. It told readers:

"many Americans believe their retirement benefits are financed by payroll taxes they pay during their working lives. But as a pay-as-you-go system, Social Security uses the money collected from current workers to pay beneficiaries. Congress has changed the rules of the program—such as eligibility and benefit formulas—many times over the years.

For decades, Social Security collected more in taxes than it paid in benefits. The program lent that surplus to the U.S. Treasury by buying government bonds, and the government spent that money."

Many Americans do believe that their retirement benefits are paid by their payroll taxes, just as many believe that the earth is round and the humans evolved from less-developed primates. This happens to be true, so it is strange that the WSJ would explain to readers that people happen to believe what is true.

The fact that the government spent the money it borrowed when it sold bonds to Social Security has nothing to do with the time of day. It has also spent the money it borrowed from Peter Peterson or the government of China when they bought government bonds. Similarly, when General Electric, Boeing or any other company sell bonds they typically spend the money that they borrow. It is not clear what point is intended by this comment, but it has no obvious bearing on the ability of Social Security to pay benefits to retirees.

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There have been numerous media accounts of plant shutdowns (largely in the auto industry) as the result of a cutoff of the supply of parts from Japanese manufacturers due to the earthquake/tsunami/nuclear disaster. These accounts are somewhat misleading.

While these disruptions may lead to reduced supply of some types of products, they will almost certainly not lead to overall shortages in the market. In other words, there may be some cars that temporarily will be in short supply, but it is almost inconceivable that there will be a shortage of cars more generally. This means that car buyers may switch brands; they will not be unable to buy a car.

In this case, the shutdowns of certain factories are likely to be offset by increased production at other facilities, with the net effect on the industry being close to zero. The shutdowns are of course bad news to the workers affected, but they will be of little consequence to the economy as a whole.

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Let's see, who is doing well in today's economy? Maybe the bankers at Goldman Sachs and J.P. Morgan with their below market bailout money and too big to fail subsidies? Maybe the defense industry with its huge mark-ups and no bid contracts? How about the drug companies who get handed hundreds of billions of dollars each year from government provided patent monopolies?

No, today's educated young are worried about being victimized by high living seniors who get Social Security and Medicare benefits. At least that is what Matthew C. Klein tells us in an oped column in the NYT.

The column bemoans the fact that the author and his highly educated friends see poor job prospects on the horizon. While there is much to complain about, if he really believes that the problem is generically people older than himself, rather than specifically the people who are a lot richer than himself, he has not gotten a very good education.

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The Post had yet another piece warning of the horrors of Japan's declining population. Of course Japan is a densely populated country with very high priced land. However, it is possible that if its population declines too much that they will no longer be able to find workers to push people into over-crowded Tokyo subway cars. 

The piece also confuses the importance of foreign holdings of public debt and foreign indebtedness. It argues that Japan need not fear a run on its public debt because the vast majority of the debt is held domestically. The more important issue is that Japan is a huge net creditor country as a result of running large trade surpluses for decades.

Its net indebtedness position is the key factor in this story. If it had a large foreign debt it would have to fear a flight from the yen even if none of its public debt was held by foreigners. Such a run would send the yen plummeting and cause import prices to soar. This is exactly the same risk it would face if foreigners owned its public debt, since the central bank would always have the option to buy the debt sold by foreign investors.

This point is important because many deficit hawks make  the same sort of misleading comment about U.S. debt. Insofar as there is a problem of foreigners holding U.S. debt it is due to the trade deficit the country is running. This gives foreigners the dollars they need to buy U.S. assets of any sort, including the stocks and bonds of private companies, as well as U.S. government debt.

The trade deficit in turn is the result of an over-valued dollar, not the budget deficit. Therefore, if these deficit hawks were really concerned about foreign holdings of U.S. assets then they would be focusing their efforts on getting the value of the dollar down, not reducing the budget deficit.

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Sorry this one only seems to be available in print, but the Post had an editorial on Sunday ("The E.U.'s finger in the dike," 3-20-2011: A20) that deserved attention. The piece rightly noted that the latest euro zone rescue package is again likely to come up short and also called attention to the continued under-capitalization of the major European banks. But it also lashed out against a "raw exercise of power by Berlin and Paris."

Was the Post upset about demands that heavily indebted countries raise their retirement ages, end wage indexation or, in the case of Ireland, reduce their minimum wage? Nope, none of these demands struck any negative notes at the Post editorial board. The source of the Post's anger was the demand that Ireland raise its 12.5 percent corporate income tax rate.

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The Washington Post continued its attack on public pensions with a front page story that focused on Costa Mesa, a small California city, that it reports is laying off half of its workforce to cover the costs of its pensions. The article then goes on to imply that Costa Mesa is in some way typical of the situation facing state and local governments across the country, telling readers that in 2009, 58 percent of state and local pension funds were less than 80 percent funded. (It is worth noting that the rise in the stock market since its trough in 2009 will have eliminated much of the reported shortfall.)

According to the information presented in the article, Costa Mesa is far from typical. The article claims that 20 percent of the city's revenue will be needed to pay retiree benefits in a few years. The national average is close to 3 percent.

The article also focuses on the pensions of police officers. These pensions are far more generous than those of most public employees. The pensions of non-security personnel average around $20,000 a year. Generally workers have to put in 30 years with the government to receive their pensions, so the cases of these workers retiring with full pensions in their early 50s are rare. Also, nearly a third of state and local employees are not enrolled in Social Security so their pension will likely be their only regular source of retirement income.

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That was his word, but since he brought it up, the term can be rightly applied to his reference to the "unsustainable deficit." Of course people who are not dumb know that the story of exploding budget deficits is a story of exploding private sector health care costs. The United States already spends more than twice as much per person as the average for other wealthy countries, with little obvious benefit in outcomes.

This is why people who are neither dumb nor dishonest talk about the need to fix the country's health care system, not the budget deficit. If the U.S. health care system were as efficient as the system in Canada, Germany, the Netherlands or more than 2 dozen other countries, there would be no long-term deficit problem.

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CNBC and USA Today told readers the shocking news that:

"A special index created by the Labor Department to measure the actual cost of living for Americans hit a record high in February, according to data released Thursday, surpassing the old high in July 2008."

The piece later went on to present a comment from Stephen Weiss, who is identified as being with Short Hills Capital:

"This speaks to the need for the Fed to include food and energy when they look at inflation rather than regard them as transient costs."

Actually this story is incredibly confused in almost every dimension. Prices rise almost every month with this "special index" and every other consumer price index as can be seen in the chart below.

CCPI

Source: Bureau of Labor Statistics.

 

There was an extraordinary surge in commodity prices at the beginning of 2008 which was reversed when the world economy sank into recession. Now that the economy is starting to recover and developing countries like China and India are growing rapidly, prices for commodities are recovering from their recession slump. It was entirely predictable that prices would reach a "record high" again as they did in 1999, 2000, 2001, 2002, etc.

This news also provides no reason whatsoever why the Fed should shift its focus from core inflation, which excludes food and energy prices, to the broader measure that includes these prices. The Fed's actions will have virtually no effect on food and energy prices. These will be determined by world demand. The Fed could raise rates and slow growth in the U.S., but this would have only a marginal impact on the price of food and energy worldwide. Unless we can find a way to slow growth in China, India, and Latin America, we are not likely to see much reduction in food and energy prices.

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In an article reporting on a letter from 64 senators urging president Obama to work on the recommendations from the co-chairs of his deficit commission, the Post described President Obama's own smaller budget cuts as "timid." (The sentence appears in the print version, but not in the on-line version.)

This is an interesting perspective. Politicians and policy workers around Washington and the country are being paid billions of dollars by wealthy people like investment banker Peter Peterson to support cuts to programs like Social Security and Medicare. It is interesting the Post apparently thinks that it is brave to harm poor and middle class people to benefit the wealthy, while it is "timid" to support the less privileged.

It is also worth pointing out that the Post wrongly refers to the recommendations from the deficit commission's co-chairs, former Senator Alan Simpson and Erskine Bowles, as the recommendations of the commission. The commission never voted on their proposals which almost certainly would not have been approved given the stated opposition of several commission members. 

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At a time when all the tough guys in Washington are making plans to cut Social Security and Medicare benefits for high-living seniors and to cut Head Start for low-income kids, it was generous of Warren Buffett to point out that we taxpayers gave over $1 billion to Goldman Sachs through TARP. Buffett probably didn't intend to point out this fact to the country, but it is an unavoidable implication of his $2 billion profit on his loans to Goldman. 

Buffett made his $5 billion loan to Goldman about a week before the Treasury lent $10 billion to Goldman through the TARP program. Buffet got 10 percent interest on his loans, while the Treasury got 5 percent on its loans. In addition, Buffett got a much more generous commitment of stock warrants, which is the basis of the $2 billion in profits that he is now set to pocket.

The Treasury boasted of getting a $1.1 billion profit on its loans to Goldman, but as Mr. Buffet showed, this was far below the market rate of interest on loans to Goldman at the time. The difference between the return received by Buffett and the return received by the Treasury was in effect a gift from taxpayers to the top executives at Goldman and their shareholders. When Treasury Secretary Geithner and other officials claim that the government made money on the TARP loans it is either due to their ignorance of the workings of financial markets or a deliberate effort to deceive the public.

It is also worth noting that the TARP money was only a portion of the extraordinary assistance that the taxpayers have given Goldman's top executives and shareholders. The FDIC also guaranteed tens of billions of loans to Goldman. Goldman was allowed to borrow tens of billions of dollars from the Fed at below market interest rates. And it was allowed to become a bank holding company, and thereby gain the protection of the Fed and the FDIC, at the peak of the crisis, averting a run that which would almost certainly have been fatal.

In addition, Goldman benefits from the implicit subsidy of its "too big to fail" status, the belief that the government will bail it out if it gets into trouble. This allows it to borrow in credit markets at a lower cost than if it did not have implicit government protection.

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Charles Krauthammer still does not understand the concept of government bonds. He badly wants the government to default on the bonds held by the Social Security trust fund. It seems that the main reason is that these bonds are effectively wealth to ordinary workers, not rich people or banks.

Krauthammer complains that the government bonds held by the trust fund are "special issue" bonds. He must know of a meaning for "special issue" that the rest of us don't. These are non-marketable bonds. That doesn't mean that the government can just default on them as Krauthammer wants to do. The implication -- actually the assertion -- of Krauthammer's piece is that because he doesn't like the people to whom these bonds are owed, the government can default and there would be no consequence.

That obviously is what Krauthammer wants, but that does not make it true. If the government were to default on its debt to Social Security then workers would justifiably be outraged. This could have both political and economic consequences. The disrespect this might cause for the government may lead to a surge in tax evasion and ignoring of other laws (perhaps even copyright). After all, why should workers respect the laws of a government that steals from them while protecting the wealthy?

Workers may also use their power as voters to decide that if the government can default on the debt it owes to them through Social Security that it can also default on the debt held by wealthy individuals like Peter Peterson as well as Wall Street banks. There certainly is no moral argument for honoring the bonds held by the latter group of investors if the government has defaulted on the bonds held by the trust fund. As an economic matter, it may also be better for most workers to see the government default on its debt in this situation, even recognizing the incredibly disruptions this would cause in world financial markets. (The money going to debt service could instead be used to pay Social Security and other benefits for working people.)

At a more concrete level, the assertion by Krauthammer that the bonds held by Social Security are not counted in the calculations of the government debt is just wrong. It is easy to find examples where it is included in calculations of the ratio of debt to GDP, as we find in the Economic Report of the President. There is also no shortage of deficit hawks who eagerly use the $14 trillion measure of the gross debt to make their argument, including for example, Charles Krauthammer, a Washington Post columnist [thanks to Joe].

It would also be nice if Krauthammer could take 2 minutes to understand something about means testing so that he would realize that this is not a practical way to solve Social Security's projected long-term shortfall.

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