The Republican Party seems to have gained significant momentum before the midterm elections and could possibly win the House of Representatives in November. During this election season neither party has mentioned the two biggest, long-term financial threats to the United States; interest rates and transfer payments.
Digging through the Congressional Budget Office's (CBO) 10 year budget forecast is a difficult task, yet, a simple fact emerges. The CBO assumes that total federal borrowing rates will stay at an average of 2% for the next decade. In other words, Washington fully believes that it will be able to continue borrowing money for next to nothing for ten years. This assumption by Washington explains why congress will not balance the budget, why risk political careers when money is free?
It is impossible to predict what interest rates will do in the next decade, maybe rates would stay at 2%. However, if rates were to rise to normal levels around 5%, the cost of servicing federal debt would double. At the current rate of debt accumulation, servicing the federal debt in 2015 at 5% would cost $750 billion rather than the projected $300 billion at 2%. Payment on interest rates would become the biggest federal budget expense. Washington's reliance on free money is a huge risk to be taking in an uncertain economy.
So what is the main reason for the unbalanced budget and what are some possible solutions? Transfer payment programs such as healthcare, social security, and welfare, will take up 44% of the total federal spending this year. Because these programs are politically sensitive they have not been adjusted to reflect the longer life expectancy of American citizens and have become top-heavy. Social Security is the most taxing and underfunded program in the federal budget but is also were the most cost-effective solution can be found.
Raising the age of when a citizen can withdraw from social security by five years and having a means-test would save trillions of dollars in the next 30 years and make social security solvent again. This solution has two benefits. People that need social security can still receive payouts while contributing for an extra five years and people that have ample funds to retire are not receiving a social security check they do not need. This saving would put the federal government back on track to balancing the budget by 2015 and mitigating the risk on rising interest rates.
Of course the negative aspect of this solution is that successful people that have paid social security taxes their whole lives will not get money back. To compensate for this loss, the government could wave income tax on distributions from IRAs for people that do not qualify for social security. Although this solution is still not perfectly fair, it beats a federal debt crises and a defunct social security system were nobody receives money.
The fact that these types of discussions are not the focus of either political party proves that neither party is really dedicated to balancing the budget in a responsible manner. Until debt and transfer payments are addressed, you can be sure all the promises by politicians are empty.