A debt crisis is building in the US, and there is nothing that can be done to stop it. However, there are alternatives for dealing with it. We explain the alternatives, and why we think inflation, over the medium to long run, is almost guaranteed.

The Oxford English Dictionary defines crisis as “A situation or period characterized by intense difficulty, insecurity, or danger.”

A debt crisis is our future because the US government has made promises that are impossible to keep. Many of those promises are in the form of US Treasury Bonds.[1]

US Treasury Bonds represent dollars that the US government has borrowed, and promised to pay back, with interest. The total of these comprise the government debt.[2]

The US government never (or almost never) pays down the debt. Instead, when bonds mature, the government sells new bonds to pay off the old ones.

But even though the government doesn’t pay off the principal of the debt, the government does pay interest on the debt. And the dollar value of that interest has been skyrocketing in the past year. It has now reached one trillion dollars a year. The graph below shows how the interest on the debt has grown.

How Much is $1 Trillion?
In 2022, Federal revenue was $4.9 trillion, according to the Federal Reserve bank. But the government will likely collect less this year. Through the first 8 months of 2023, US government revenue is lower than last year by over $400 billion. That projects out to full year revenue falling about $600 billion short of last year, for a projected 2023 total revenue of about $4.3 trillion.

Meanwhile, the interest expense continues to rise, as the government refinances low-rate bond maturities at today’s higher interest rates.

Simple division shows that interest payments are accounting for almost 25% of Federal revenue right now, and that percentage is likely to grow.

The Problem Keeps Growing
As just shown, the US government has a debt problem. Merely paying interest on the existing debt now consumes nearly one of every four dollars the government brings in as revenue.

And yet, the government continues to spend vastly more money than it brings in. In 2022, for example, the federal government spent $1.1 trillion more than the all-time record revenue of $4.9 trillion.

How is it possible to spend more than your revenue?

There are two ways. You can spend down capital – that is money you have saved – or you can borrow.

Government Assets Not a Solution
The US government owns assets, mostly in the form of land. The Bureau of Economic Analysis[3] estimates that the US government owns 24% of the land area (about 454 million acres) in the lower 48 states, and that this land is worth about $1.8 trillion, or about $4100 per acre.[4]

In addition, the government publishes a balance sheet.[5] This balance sheet shows an additional $4.9 trillion of assets (and $39 trillion of liabilities).

Federal government assets, therefore, are less than ¼ of the federal debt. In addition, there has been no political will to reduce debt through selling assets.

That leaves three sources of cash: taxation, borrowing, and printing money.

Taxes
Tax revenues are not very responsive to changes in government policy. Since 1947, through all kinds of economic environments, the Federal government’s revenues have averaged about 17.5% of GDP. And on average, the higher the top tax rates, the lower the percentage actually collected.

While the government may raise tax rates, history shows that it is extremely unlikely that any such increases will have a significant positive effect on revenue. In fact, history teaches that it is more likely that raising tax rates will reduce revenue.

Borrowing
The government can borrow as long as it can sell bonds. It can sell bonds as long as buyers will buy them. As noted above, even if the government never pays down the total debt, it must pay interest.

And there’s the rub.

What happens when the interest on the debt climbs to be too big a percent of the total government revenue?

Something must give.

That’s where inflation comes in.

Inflation
If the government cannot sell enough bonds on the open market at an interest rate that it believes it can afford, the government can sell bonds to the Federal Reserve.

When the Fed buys such bonds, the Fed creates the dollars out of thin air. In the modern world, most dollars exist only as entries in a computer somewhere. When the Fed buys bonds from the Treasury, the Fed creates new dollars in the form of computer entries that the government then spends.

In the private world, for someone to borrow money, someone else must save it. But when the Treasury borrows from the Fed (i.e. the Treasury sells bonds to the Fed), no one saved the money first. The Fed simply creates the money out of thin air.

Inflation is mainly the result of this creation of money. When the Treasury sold trillions of dollars of bonds to the Fed during 2020 and 2021, the result was the highest inflation since the 1970s, because the Fed expanded the money supply so sharply.

What Does the Future Hold?
The last 75 years of history that suggests that the Federal government will not be able to generate revenue of more than about 17.5% of GDP. So as long as Federal government spending is more than that, the government will continue to run deficits. Deficits, by definition, add to the debt.

As the debt grows, the interest cost grows, and interest consumes more and more of the 17.5% of GDP that is sustainable Federal revenue.

Congress has shown no intent to cut other spending as interest costs increase. So it seems likely that the deficits will, on average, continue to grow.

If the time comes when the government cannot sell all the bonds it wants to on the open market, the government will have the choice of missing interest or principal payments, cutting spending, or selling bonds to the Fed.

History offers few (if any) instances in which a government that had the option of printing money (or in the modern world, access to a central bank that will create the electronic entries out of thin air), chose instead to cut spending enough, or chose to miss interest or principal payments.

If the past is prologue, the US government will select the inflationary option.

We have over 2000 years of history that says inflation is the likely outcome. We wrote a book that looks in detail at the history of inflation, explains in simple terms the economics of inflation, and expands on the argument presented above. The title is Politicians Spend, We Pay.

We are offering a free copy of Politicians Spend, We Pay to the first 25 responders to this email. Ask for your copy here. Or email [email protected], or call Connor at (703) 437-9720 to request a copy.

And please feel free to share your thoughts on this, or any other, of our writings. Thank you.

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[1] For these purposes, I include the portion of the federal debt represented by “T-Bills” and “T-Notes” as well as by bonds the Treasury actually refers to as “bonds.”

[2] However, these bonds vastly understate the total value of promises that the US government has made. The government has tens or hundreds of trillions of dollars of future liabilities, most of which are promises to pay social security benefits, and pay for people’s future medical care and similar services.

[3]New Estimates of Value of Land of the United States, William Larson, April 3, 2015

[4] This value is explicitly reported in the study. It is slightly inconsistent with $3964 resulting from dividing the total value by the number of acres.

[5] https://www.fiscal.treasury.gov/reports-statements/financial-report/balance-sheets.html