Growing Our Way to Solvency

Two years ago, I wrote a piece for Pajamas Media that ended with this:

Tax the relatively few rich; you still can’t tax them more than 100 percent, and if spending grows faster than GDP, it will eventually overwhelm whatever taxes you can levy. Tax the many poor, and you get the same result — except you’ll be voted out of office first, because there are a lot more poor people than rich people. And it still won’t matter, because you cannot make revenues grow faster than the economy forever.

So the real bad news is that this is a mathematical fact: over the long term, government spending cannot grow faster than GDP forever.

In my 2008 article, I showed that we can absorb almost any one-time increase in spending if only we preserve one simple rule: the rate of spending increase in constant dollars has to be less than the rate of growth in GDP.

In the intervening years, we've seen the consequences of electing both a Congress and an executive who have ignored this. The result is shown in a chart that's been all over the web; it originally came from the Heritage Foundation and is reproduced here:

The Obama administration has, with the stimulus plan, introduced a one-time massive expenditure and then followed it with rapidly growing expenditures with the health care plan. When we put those together, according to the CBO, we get a new chart, like this (linked from Greg Mankiw's blog because the CBO chart is in an annoying slide show):

Now, squint just a little bit, so you can ignore the (rather frightening) numbers, and just look at the two colorful ribbons. The blue ribbon is tax receipts; the green ribbon is expenditures -- in both cases, actual up to 2010, and estimated from then on.

You see the expenditures grow dramatically and receipts drop, between 2008 and today: that's the effect of the recession, stimulus, Fannie and Freddie, and auto industry bailouts. Then, for a short while, receipts grow rapidly while expenditures drop, but by 2015 the expenditures are growing at least as fast as receipts. Longer-term projections show the same thing: expenditures growing much faster than receipts.

This way lies ruin, as Greece is demonstrating today.