Show me, do not tell me

Apparently, W plans to tell the world he is now serious about fiscal discipline. Expect the need to control both short-term and long-term deficits to be a big theme in tonight’s State of the Union address.

Controlling short-term deficits is code for cutting discretionary spending to control the deficit; controlling long-term deficits is code for raising the short-term deficit as part of a plan to privatize Social Security.

You cannot really be for both controlling the overall deficit and partial privatization of Social Security unless you are willing to finance the creation of private accounts by cutting benefits for current retirees, or by raising current taxes. Bush is not willing to do either. Consequently, the cash flows for "Social Security reform" along the lines the Administration is talking about are terrible -- under one proposal, benefits exceed revenues until 2050, and covering that gap requires issuing an awful lot of debt. Most of the modifications under discussion to make partial privatization more politically palatable make the cash flows worse, not better.

Even a modest reform reduces payroll tax revenues by something like $100 billion -- with an associated increase in net Treasury borrowing. Freezing non-defense discretionary spending ($466 billion in FY 05, according to the CBO) instead of letting it grow in line with nominal GDP saves only around $30 billion.

At the end of the day, you either are issuing Treasuries in the market to fund a gap between your spending and your revenue, or you are not. This quarter, the Treasury is looking to raise $147 billion -- part of what W needs to cover his expected $430 billion FY 2005 deficit. My bet: that number keeps going up, despite the Bush Administration’s talk, and if the world’s central banks don’t keep gobbling up Treasuries and US interest rates go up more than expected, the Bush Administration will find itself in a nasty bind ...

Why? Read yesterday’s Wall Street Journal. It turns out that it really is hard to fight a war on the cheap. Halliburton wants $10.5 billion to support US troops in Iraq in 2005, the US budgeted for $3.5 billion. Influential Republicans do not seem to be very keen on cutting back on certain expensive new weapons systems either. Squeezing spending to match the government’s reduced revenue base will be a long, hard slog.An aside: Halliburton’s bill for supplying US troops now stands at $10 billion ($7 billion in 04) -- about twice the $5 billion of disbursed US aid for Iraq reconstruction. $3 billion of the aid approved in 2003 has been disbursed, as has about $2 billion in disbursed aid from the $18.4 billion post-war aid package (disbursements through the end of 2004). The list of post-war US mistakes usually starts with the decision to disband Iraq’s army. But the failure to have more US funds ready to finance Iraq’s reconstruction from the get go should rank pretty high as well as well.

Just to be clear, US taxpayer funds are only one of many revenue streams available to finance reconstruction. Other funds have come frozen Iraqi assets ($2.4 billion), the oil for food surplus transferred to the development fund ($8.3 billion), and Iraqi oil revenues ($23 billion to date, but most of this is needed to cover the government’s operating expenses and therefore is not availble for reconstruction per se) ... But it sure seems like the US is still looking for a way to spend the $18.4 billion in appropriated US aid money effectively, since the original plan of relying on US contractors has not worked so well.

All data here comes from Brookings’ invaluable Iraq Index