The Fiscal Nightmare of the Welfare State

Bloggers post what they claim to be the "scariest economic chart" or the "chart of the century." Indeed, many data sets are frightening, but none more so than the tables found here (PDF). Jagadeesh Gokhale compiled these figures on European debt. This data shows incontrovertibly that modern government has failed. These countries are all insolvent and will eventually default. (See Table 1, Page 8.)

All Western democracies are on death row. The unlimited welfare state is the cause. Some governments are delusional, believing they can continue on their present paths. Others cling irrationally to hopes of some miraculous reprieve. All are dead men walking.

Government has always been inefficient and mostly ineffective. For most of history that was inconsequential, because governments had limited roles. Monarchies and various forms of authoritarianism had no reason to buy votes. That changed when participative government was instituted. The dangers of participative government devolving into democracy were well understood:

A democracy cannot exist as a permanent form of government. It can only exist until the voters discover that they can vote themselves largess from the public treasury. From that time on the majority always votes for the candidates promising the most benefits from the public treasury, with the result that a democracy always collapses over loose fiscal policy, always followed by a dictatorship -- Alexander Fraser Tytler, 18th century historian and jurist

Remember, democracy never lasts long. It soon wastes, exhausts, and murders itself. There is never a democracy that did not commit suicide. --  John Adams

In the 1880s Otto von Bismark instituted the first welfare state. Other governments followed with varying time lags. The Progressive Era in the U.S. created the Federal Reserve and the federal income tax, both in 1913. They provided powers to the federal government never intended by the Constitution. In the late 1930s, the U.S. started a social security system, the last developed country to do so.

Once democracy was unleashed, citizens voted themselves benefits. Keynesian economics assisted politicians in their quest for votes. James Buchanan and Richard Wagner observed in Democracy in Deficit:

With the completion of the Keynesian revolution, these time-tested principles of fiscal responsibility were consigned to the heap of superstitious nostrums that once stifled enlightened political-fiscal activism.

The last barrier to fiscal irresponsibility was removed in 1971 with the introduction of universal fiat currency. In the last 50 years, the U.S. has not had a true surplus. Keynes' theory, which envisioned deficits in slow economies offset by surpluses otherwise, was co-opted by the political classes. In less than seventy-five years, all welfare states were insolvent.  To illustrate this point, the U.S. will be used.

The U.S. government has $12.5 trillion of funded debt, almost 90% of last year’s GDP. That is a critical level according to Reinhart and Rogoff based on their 800-year study of sovereign bankruptcies. Serious, funded debt is not the major problem. Unfunded entitlements (Social Security, Medicare and Medicaid) are. These are estimated to be $106 trillion.

The gross domestic product of the U.S. was $14.1 trillion last year, meaning total debt was 840% of GDP. But the Gokhale table  shows the U.S. at 500% of GDP rather than 840%. That number reflects the present value of the unfunded liabilities out to 2082. The larger number, provided by the trustees of the plans, is based on an infinite time horizon. (Gokhale provides the rationale why this horizon is proper in his study on page 4.)

The study shows European debt at 484% of GDP, but this seriously understates their liabilities. The study reflects numbers only out to 2051. Were the numbers calculated to 2082, they would be larger than the U.S. number. Furthermore, if the calculation were done on an infinite time horizon, it would exceed the U.S. figure of 840%.