Uncle Sam’s Growing Investment Portfolio

The federal government has been borrowing rapidly to finance recent budget deficits. But that’s not the only reason it’s gone deeper into debt. Uncle Sam also borrows to issue loans, build up cash, and make other financial investments.

Those financial activities have accounted for an important part of government borrowing in recent years. Since October 2007, the public debt has increased by $6.9 trillion. Most went to finance deficits, but about $650 billion went to expand the government’s investment portfolio, including a big jump in student loans. Before the financial crisis, Uncle Sam held less than $500 billion in cash, bonds, mortgages, and other financial instruments. Today, that portfolio has more than doubled, exceeding $1.1 trillion:

Uncle Sam Investment Portfolio

Financial crisis firefighting drove much of the increase from 2008 through mid-2010. Treasury raised extra cash to deposit at the Federal Reserve; this Supplemental Financing Program (SFP) helped the Fed finance its lending efforts in the days before quantitative easing. Treasury placed Fannie Mae and Freddie Mac, the two mortgage giants, into conservatorship, receiving preferred stock in return; shortly thereafter, Treasury began to purchase debt and mortgage-backed securities (MBS) issued by Fannie, Freddie, and other government-sponsored enterprises (GSEs). And through the Troubled Asset Relief Program (TARP), Treasury made investments in banks, insurance companies, and automakers and helped support various lending programs.

Together with a few smaller programs, these financial crisis responses peaked at more than $600 billion. Since then, they have declined as Treasury sold off all its agency debt and MBS and most of its TARP investments and as quantitative easing, in which the Fed simply creates new bank reserves, eliminated the need for cash raised through the SFP.

Those declines have been more than offset by the government’s growing student loan portfolio. The federal government used to subsidize student borrowing not only by providing loans directly to students, but also by guaranteeing many private loans. In 2009, however, Congress eliminated private guarantees and dramatically expanded direct federal lending. The government’s portfolio of student loans has since increased from about $90 billion at the start of fiscal 2008 to more than $560 billion today.

As a result, the government’s financial investments now total about $1.1 trillion, essentially all of which was financed by borrowing. The debt supporting Uncle Sam’s investment portfolio thus accounts for almost 10 percent of the $11.9 trillion in public debt.

Source: The Federal Reserve Financial Accounts (formerly known as the Flow of Funds), Daily Treasury Statement, and the President’s Budgets. The figures here compare balances as of March 31, 2013 (most recent available) with balances as of September 30, 2007 (the end of fiscal 2007). We define financial investments to be all the federal government’s financial assets except for official reserve assets, trade receivables, and tax receivables; this definition approximates those used by the Office of Management and Budget and the Congressional Budget Office in certain debt calculations.

This post was coauthored by Hillel Kipnis, who in interning at the Urban Institute this summer.

The Balanced Budget Amendment’s $300 Billion Error

The balanced budget amendment introduced by Senate Republicans yesterday contains a striking error. As written, it would limit federal spending much more than they claim or, I suspect, intend (I said the same back in 2011, when this first came up).

The senators want to balance the budget by limiting spending rather than raising tax revenues. They thus propose the following, according to a press release from sponsor Senator John Cornyn:

Requirement to Balance the Budget. With limited exceptions, the federal budget must be balanced.

Presidential Requirement to Submit a Balanced Budget. Prior to each fiscal year, the President must submit to Congress a balanced budget that limits outlays to 18 percent of GDP.

18 Percent Spending Cap. With limited exceptions, Congress must limit outlays to 18 percent of GDP.

That 18 percent figure is in line with average tax revenues over the past four decades, but well below average spending, which has been about 21 percent.

So what’s the error? The way the amendment would implement the spending limit:

Total outlays for any fiscal year shall not exceed 18 percent of the gross domestic product of the United States for the calendar year ending before the beginning of such fiscal year, unless two-thirds of the duly chosen and sworn Members of each House of Congress shall provide by law for a specific amount in excess of such 18 percent by a roll call vote. (Emphasis added.)

The amendment thus doesn’t limit spending to 18 percent of the current fiscal year’s GDP; it limits it to 18 percent of GDP in the previous calendar year.

At first glance that may not sound like much. But it works out to be 21 months during which inflation and real growth will almost always be boosting GDP. For example, fiscal 2014 starts in October of this year. If the amendment were effective today, spending would be limited to 18 percent of last year’s GDP—that’s calendar 2012, which started (of course) in January 2012.

That 21-month lag has a big effect on the spending limit. Consider fiscal 2018, the first year it could conceivably take effect (because of a waiting period in the amendment). The Congressional Budget Office projects that nominal GDP that year will be $20.9 trillion. So the Republicans’ fiscal 2018 spending limit ought to be 18 percent of that, a bit less than $3.8 trillion. But the amendment would look back to calendar 2016 to set the limit. CBO estimates that year’s GDP at roughly $19.1 trillion, nearly $2 trillion less than for fiscal 2018. The amendment would thus limit fiscal 2018 spending to a bit more than $3.4 trillion. That’s only 16.4 percent of GDP that year, about $330 billion less than the Republicans’ stated goal.

If you do the same math for the remaining years in CBO’s latest outlook, fiscal 2019 through 2023, that gap never falls below $300 billion.

The same drafting error came up when GOP senators introduced a balanced budget amendment in 2011. When I wrote about it then, several commentators suggested that perhaps it wasn’t an error, but rather a sneaky way to try to limit spending even further. I am not so cynical. Drafting a spending target based on GDP isn’t easy, since you don’t know what future GDP will be. So I can understand why someone drafting this might try to use a measure of GDP that’s already known, albeit subject to much revision. But they goofed.

It’s disappointing that no one has fixed this error in the intervening 18 months. I am not a fan of an arbitrary constitutional limit on spending—even with a supermajority escape valve—but as a fan of arithmetic, let me offer one simple approach: use a GDP forecast from whatever entity is responsible for the spending forecast. For the president’s budget submission, that would be the Office of Management and Budget, and for the congressional process it would be either CBO or the House and Senate Budget Committees. That would make the GDP forecast even more politically sensitive, of course, but it’s better than a formula that misses its intended target by $300 billion each year.

Treasury Puts the Kibosh on Platinum Coins

Ezra Klein reports an official statement from Anthony Coley, a Treasury spokesperson, killing the platinum coin strategy:

“Neither the Treasury Department nor the Federal Reserve believes that the law can or should be used to facilitate the production of platinum coins for the purpose of avoiding an increase in the debt limit.”

So R.I.P. platinum coins of  unusual size.

The administration has previously ruled out another oft-discussed debt-limit safety valve, overriding the limit based on the 14th amendment. So “Plan B” discussions will now move to two other alternatives that have been bandied about: prioritizing payments or, as Ed Kleinbard suggested the other day, issuing scrip like California did a couple years ago. Of course, issuing scrip *is* prioritizing payments, but with the added feature (or complication) of a written, transferable IOU.

How Much Federal Debt Does the Fed Own?

The fine folks at FRED, the economic data service of the St. Louis Fed, recently added seven new data series showing how various measures of federal debt compare to the economy as a whole, as measured by GDP.

I particularly enjoyed this one, showing the federal debt owned by the Federal Reserve banks.

Quantitative easing gets all the press these days and understandably so given the recent spike in Fed ownership of Treasuries, now equivalent to almost 11 percent of annual GDP. But the chart also reminds us of that brief period early in the financial crisis when the Fed sold lots of Treasuries so it could make loans and buy other assets.

P.S. Anyone know how to get the FRED graph’s vertical axis to start at 0?

How Much Does the United States Really Owe?

My latest column at the Christian Science Monitor takes a crack at this perennial question. Short version: You ought to add about $4.6 trillion to whatever debt figure you are using. Why? Because the United States has about $7.3 trillion in non-debt liabilities (mostly pension and health benefits), offset by about 2.7 trillion in assets. These numbers aren’t perfect–for example, they dramatically understate the value of the gold the U.S. owns and put no value on the government’s ability to tax–but they illustrate that what the U.S. owes is more than its Treasury debt.

America is deep in debt. But how deep?

That question seems simple, yet analysts and pundits give answers that differ by trillions of dollars. Sometimes tens of trillions. That confusion arises because there are various ways to tote up America’s debts.

Many observers often focus on the publicly held debt – the bonds that the Treasury has sold into financial markets. By that measure, the federal government owed a bit more than $10 trillion at the end of last fiscal year.

That figure is important because it measures how much the federal government has had to rely on outside investors. For that reason, it does not include the special Treasury bonds in the Social Security Trust Fund and similar accounts owned by the federal government itself. From an accounting perspective, those bonds net to zero – a part of the government owes money to another part. But they are important to Social Security legally and politically. Some analysts use a measure that includes the trust funds, bringing the federal debt to more than $14 trillion.

That’s not the only measurement disagreement. Social Security and Medicare reflect a major commitment to seniors in the years ahead, but the government hasn’t identified enough dedicated financing to pay for them. Some analysts believe these unfunded amounts should be viewed as debts as well. Their size depends on technical factors like the future growth rate of health spending and how far you look into the future. Depending on their choices, analysts can get huge measures of indebtedness: $50 trillion or more.

This range of figures – $10 trillion, $14 trillion, $50 trillion – sows confusion about how indebted the United States is. Yet none of them captures all of America’s debts. The government has a host of other obligations that often get overlooked.

These other liabilities appear in the government’s little-known financial statements. Those statements use concepts familiar to anyone who has worked with a corporate balance sheet listing assets and liabilities. The government’s liabilities include more than $7 trillion in obligations that don’t appear in standard budget measures.

That’s real money, even in Washington.

The largest are commitments to federal employees, retirees, and veterans, including pensions and postretirement health benefits. Those commitments, which get surprisingly little attention, now stand at almost $6 trillion.

Another $1 trillion in liabilities includes obligations for environmental cleanup, government insurance payouts, and ongoing commitments to Fannie Mae and Freddie Mac. Add in publicly held debt, and the government owes more than $17 trillion, before accounting for future commitments to Social Security or Medicare.

Of course, the government has assets: buildings, aircraft carriers, and a sizable portfolio of financial assets. Federal accountants tally those as worth a bit less than $3 trillion. The government’s net liabilities round out to nearly $15 trillion, 50 percent larger than the public debt alone and comparable to the value of all goods and services produced by the US economy each year.

The US is thus in debt to the tune of roughly 100 percent of gross domestic product. That’s daunting, but it need not be fatal. As the economy recovers, our obligations – both past and future – should be manageable if policymakers overcome our greatest liability: a political system that addresses short-term crises rather than long-term challenges.

Full disclosure: In an earlier life, I served on the board that establishes accounting standards for the federal government. Yes, I am that much of a budget wonk. 

Indebted Countries Come in Three Flavors

The IMF’s latest Fiscal Monitor includes a colorful chart of who owns the debt of six countries with well-known debt concerns:

The debt owned by foreign investors and foreign central banks are in red and yellow; the other colors represent debt owned domestically.

Based on IMF’s accounting, the six countries come in three flavors:

  • The “PIG” countries. Portugal, Ireland, and Greece owe most of their debt to foreigners.That’s a key reason their shaky finances are of international concern.
  • Japan. It owes almost all of its debt to itself (i.e., its citizens and institutions). That’s a key reason the international community isn’t freaking out about its debt levels.
  • The U.S. and U.K. The two “Uniteds” owe most of their debt to themselves (including their central banks, in orange), but also owe a substantial amount to foreigners. The yellow pie slice for foreign official holdings is, of course, notably large for the United States.

Note: Such cross-country comparisons inevitably involve accounting choices. Note, for example, that the IMF includes amounts owed to the Social Security Trust Fund in the U.S. debt measure, but does not include state and local debts. The first choice arguably understates America’s reliance on foreign borrowing, while the second arguably overstates it. 

Deadlines, Deadlines, Deadlines

My latest column for the Christian Science Monitor argues that a slew of budget deadlines will drive policy action this Fall. Case in point, the potential for a government shutdown when the government’s fiscal year ends next week. I don’t think that’s likely, at least not yet, but such deadlines will be the big thing this fall:

September brings the change of seasons. Football players return to the gridiron. New television programs replace summer reruns. In Washington, legislators gear up for another season of legislative brinkmanship.

What distinguishes such brinkmanship from ordinary legislating? Hard deadlines.

Such deadlines force Congress to address policy issues that might otherwise languish due to partisan differences or legislative inertia.

Last spring, for example, the repeated threat of a government shutdown forced Congress to decide how much to spend on government agencies in fiscal 2011. This summer, the debt limit forced Republicans and Democrats to reach a budget compromise before Aug. 3, the day we would have discovered what happens if America can’t pay all its bills.

Hard deadlines thus can force Congress to address major issues. But they also invite that brinkmanship.

Like students who put off writing term papers until the night before they’re due, legislators often drag out negotiations until the very end. As we saw with the debt-limit debate, the ensuing uncertainty – will the United States really default? – can damage consumer, business, and international confidence. Hard deadlines also give leverage to those legislators who are least concerned about going over the brink.

So get ready for the new season. The fall legislative season is full of deadlines that could invite such brinkmanship. Here are five.

[The first two were funding for the Federal Aviation Administration, whose short-term funding was scheduled to expire on September 16 and the highway bill, whose funding was scheduled to expire on September 30. Both won temporary extensions between the time I wrote my column and when it appeared online. FAA funding now runs to January, and highway funding through March.] …

Sept. 30 also marks the end of the fiscal year – an especially important deadline. Congress has made woefully little progress in deciding next year’s funding. So we again face the prospect of temporary funding bills being negotiated in the shadow of threatened government shutdowns.

The fourth deadline comes on Nov. 23, the day the new “super committee” has to deliver a plan to address government debt and cut the deficit by at least $1.2 trillion over the next decade. If any seven committee members agree by that date, their plan will get special, expedited consideration in the House and Senate.

If the committee fails to reach agreement or Congress fails to enact it by Dec. 23, however, then automatic budget cuts go into effect for a range of programs, including defense, domestic programs, and Medicare, starting in 2013.

A final deadline comes at the end of the year, when several economic initiatives are set to expire, including the 2 percent payroll tax holiday and extended unemployment insurance benefits.

Each of these deadlines will command congressional attention. The downside of inaction will be tangible and visible. With renewed concern about jobs, policymakers will feel extra pressure to continue any funding or tax cuts that can be directly linked to employment.

These deadline-driven policy issues will thus dominate the fall legislative season. That will leave little space for any new initiatives that don’t come with a deadline.

The Latest Sovereign Debt Meme? Going Big

The developed world is awash in sovereign debt. Greece stands on the precipice of painful (and inevitable) default. Italy and Spain struggle to convince markets that their debts are good. Portugal and Ireland hope to get in the lifeboat with Italy and Spain, rather than drown with Greece. And then there’s the United States. Much further from a sovereign crisis than many Euro nations, but still on a worrisome long-term path of spiraling debt.

So what should policymakers do? Well, the dominate meme this week was clear. If you are faced with sovereign debt worries, you should go big:

  • On Tuesday, the Committee for a Responsible Federal Budget released a letter signed by a group of former government officials, budget experts, and business leaders (including me) urging the Joint Select Committee, aka the super committee, “to ‘go big’ and develop a large-scale debt reduction package sufficient to stabilize the debt as a share of the economy.” A group of 38 senators followed with a similar letter, and a host of people made this argument at the super committee’s first hearing.
  • The same day, Mario Blejer–who led Argentina’s central bank after its default–urged Greece to go big: “Greece should default, and default big. A small default is worse than a big default and also worse than no default,” he said in an interview reported by Reuters Eliana Raszewski and Camila Russo.
  • And then there was Benjamin Reitzes of BMO Nesbitt who was quoted by The Globe and Mail’s Michael Babad offering similar advice to the BRICS. Not, of course, to deal with their own debt, but with Europe’s: “Considering Chinese purchases of European peripheral debt over the past year have provided only temporary relief, a small purchase won’t likely have much impact … go big or go home.”

So there you have it. If you find yourself at a loss for words in a weekend discussion about sovereign debt, you know what to say: Go big. Or, if you are contrary sort, go small. Either way, you can keep the conversation going.

More Budget Foxes, Fewer Hedgehogs

My latest column at the Christian Science Monitor:

America’s fiscal challenges are often portrayed as a conflict between hawks and doves. The real battle, however, is between foxes and hedgehogs.

Unfortunately, fiscal hedgehogs still have the upper paw.

“The fox knows many things, but the hedgehog knows one big thing,” wrote the ancient Greek poet Archilochus. Both foxes and hedgehogs play important roles in the policy ecosystem in normal times. In times of great change, however, society needs more foxes and fewer hedgehogs. More citizens and leaders who can adapt to new conditions, and fewer who want to preserve the status quo.

That’s where we find ourselves today. Despite all the anguish over a debt limit deal, America’s fiscal outlook remains daunting. Little progress has been made on our largest budget challenges. Despite bipartisan efforts, prospects for a grand fiscal bargain remain dim.

One reason is that fiscal hedgehogs still have the upper paw on key issues.

Consider entitlements. Everyone knows that entitlement spending is our No. 1 long-term budget challenge. Because of an aging population and rising health-care costs, spending on Social Security and federal health programs will explode. The Congressional Budget Office estimates that over the next 25 years spending on these programs will rise from roughly 10 percent of the economy to almost 17 percent. Accommodating that growth would require substantial cuts in other government programs, much higher tax revenues, or unsustainable deficits and debt.

The challenge is to find ways to keep the core benefits of these programs while reining in costs. This is where entitlement hedgehogs and foxes part company.

The hedgehogs know one big thing: These programs provide major benefits. Social Security, for example, has dramatically reduced poverty among seniors and provides essential income to millions of retirees.

Inspired by that one big thing, hedgehogs oppose any benefit reductions, such as increasing the eligibility age or trimming benefits to reflect increased longevity.

Entitlement foxes have a more nuanced view. They recognize, like the hedgehogs, the value of the guaranteed retirement income that Social Security provides. But they also know that the number of retirees receiving benefits is growing faster than the number of workers paying payroll taxes. They know that Americans are living longer but retiring earlier. They know, in short, that the future will be different from the past and that the program needs to evolve to remain sustainable. Foxes are thus open to ideas like raising the eligibility age or changing the benefit formula.

A similar dichotomy exists with taxes. Revenue hedgehogs know one big thing: Taxes place a burden on taxpayers and the economy. Thus, they oppose all tax increases, even efforts to reduce the many tax breaks that complicate our tax code.

Revenue foxes see things differently. They recognize the burden that taxes place on taxpayers and the economy. But they also know that tax increases are not all created equal. Higher tax rates, for example, are usually worse for the economy than cutting back on tax breaks. Indeed, cutting tax breaks sometimes frees taxpayers to make decisions based on real economic considerations rather than taxes, thus strengthening the economy. That’s why revenue foxes support eliminating many tax breaks.

Fiscal hedgehogs will never embrace such changes. To make progress, we need more fiscal foxes.