CHAPTER 11

DIARY ENTRY: October 18, 2046 – Default

How did America get so warped in 2045? In my geopolitical history, I left off with America defaulting in 2025.

Let me back up to the turn of the century. Uncle Sam owed three trillion dollars. Afterwards, he borrowed a half trillion per year.[1] In 2009, he gave a large stimulus package to save American banks, and the borrowing increased to a trillion per year.[2] This increase occurred during the last years of Bush Jr. and first years of Obama. By 2015, Uncle Sam owed thirteen trillion dollars to the public.

He was borrowing 14 percent of his total expenses. Revenue (such as from income taxes) was short by fourteen percent. Borrowing filled the gap every year. Year after year.

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[3]

That’s like me bringing home eighty-six bucks as a paycheck from my job, but needing a hundred for bills. I’d have to borrow fourteen bucks.

After 2015, over the next decade, the amount of debt only increased. In any given year, Uncle Sam needed to borrow to pay for expenses that year, plus borrow a little extra—to pay the interest on the loan he took the year before. It was analogous to me borrowing from my mom in year one. In year two, I borrowed from my sister: for my expenses in year two; plus the interest I owed my mom.

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The refugees didn’t help the situation either. Starting in 2016, the US really opened its doors to Middle Eastern refugees, beginning with Syrians and later other countries ripped apart in civil war, such as Yemen. A million refugees were admitted, about a hundred thousand per year over the next decade.[4]

Europe had admitted several million.[5] The rivers of people flowing into Germany, France and Denmark were damned up by Europe for a variety of reasons. One reason was that members of ISIS were sneaking in among the throng and setting off bombs in places like Paris. So the river changed course toward America.

Obama assured us that the refugees could be screened and ISIS kept out. The expanded budgets of the CIA, Department of Homeland Security, and FBI allowed those agencies to engage in effective screening, but increased federal expenditures.

Screening was not the main cost resulting from refugees though.

Muslims were killing Muslims in Syria. If Americans would have simply watched from the sidelines of the Atlantic Ocean, we would’ve seemed to hate Muslims. Islamic populations worldwide already suspected as much, and Islamic jihadists within them had been making this allegation for years.

We could not have invaded Syria to end the war the refugees were escaping. Obama had already accepted the Nobel Peace Prize, and might have to give it back. More importantly, there was no money for another military campaign.

Welcoming Syrian refugees within US borders seemed like the only real way to help. It would prove that Americans didn’t hate Muslims, and hopefully ISIS and similar groups would quit cutting off Yankee heads and killing them in other gruesome ways. As another benefit, immigrants have historically created more workers. They could create more income tax revenue.

These were the official reasons and good reasons, but not the main one, as will be shown soon.

The difference between Irish immigrants in the mid-1800s and Syrians in the early 2000s, though, was that social welfare programs did not exist in early America. If Lee O’Sullivan wanted to eat, he had to get a job pounding thick nails into railroad ties and buy food. If Samir Ahmadi wanted to eat a hundred and fifty years later, he could quickly quit washing dishes, go on welfare, and receive food stamps.

Samir’s perspective was the same as Jose Rodriguez, who immigrated to the US from Mexico just before Samir came. In the first year, mowing grass was terrific. He had never seen so much money. During the next year, he saw himself as an American, entitled to the same standard of living as the homeowners whose grass he was cutting. If I cannot have one of their houses, then the system is rigged and unfair. I’d rather collect welfare than stoop to mow their grass. I’ll stick it to Joe American, who can pay into the welfare fund, which I then receive for doing nothing. Jose in California and Samir in New Jersey grinned, while they played each other online, using an Xbox all afternoon.

The additional pool of people on welfare programs was the main cost from refugees. And Samir and Jose didn’t have just one kid, but instead had larger families. In 2014, a quarter of Hispanic women had three or more kids, which was about the same for black women (21%). Only fifteen percent of white women had three or more kids. More white women went without having any kids than Hispanic women or black women in their respective racial populations.[6]

A backlash would come later from Joe American’s resentment of Samir and Jose and ethnic mothers.

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By 2025, Uncle Sam’s debt was twenty-one trillion.[7] As in the early 2000s, Uncle Sam was borrowing a half trillion per year from 2015-18 and then a trillion a year shortly afterwards.[8] He was now borrowing twenty percent of his expenditures each year.[9]

Remember my piggy and my note there? He had a piggy bank too, which he also stuffed with a note. A very big note.

The Social Security Act became law in 1935. Taxes from workers and their employers began in 1937. Payouts to retirees began in 1940. So the Treasury collected money for three years before making payouts. The model was that workers and their employers would fund current retirees, an intergenerational transaction.[10]

However, it was predicted that in 1965 the amount collected from workers/employers would no longer cover retirees. To solve this eventual shortage, the Treasury was to collect more money than necessary from 1937 until 1965, so that there would be a fund to cover the shortage. The extra money collected from workers was to be deposited into an Old-Age Reserve Account.[11]

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Now, the money in the Reserve Account was to earn interest. By 1965 the interest annually earned on the principal in that fund (the principal would be huge) would then cover the shortage. So there would never be a shortage problem thereafter. After 1965, retirees would get paid from the existing workers in America and from the interest earned by the Reserve Account.

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How would the Reserve Account earn interest though? The Act required the money there to be loaned to the US Treasury, who would then pay interest on those loans. So after 1965 the US Treasury would make an interest payment from its general fund, which was deposited into the Reserve Account. That interest would then go to retirees.

What would happen if the US Treasury defaulted on that interest payment? Retirees would be shortchanged. Every retiree would get a smaller check.

So what is sitting in the Reserve Account—a big pile of cash, which earns interest? No, a big pile of loan notes. Every time the Secretary of the Treasury borrowed from the Reserve Account, he or she placed an IOU there (a loan note).

What did the Secretary then do with the borrowed money? He or she spent it on federal government functions, such as defense.

The Reserve Account is basically empty of cash at any given time.[12] Like my piggy, there is a note sitting there. A monolithic note. As of 2014, the Treasury owed the Reserve Account 2.7 trillion for all the money it borrowed since 1937.[13]

So the Reserve Account has been one of Uncle Sam’s largest creditors, if not the largest, ever since its creation. (This account was renamed the Old-Age and Survivors Insurance [OASI] Trust Fund.)[14] This reserve account has been his piggy bank stuffed with a note. I slipped one dollar in my piggy bank each month as interest on the twenty dollars I borrowed from it. Uncle Sam had to pay annual interest into his federal piggy bank, which then went to retirees. In 2015, for example, the amount was 89 billion.[15] Moreover, just as I also had to pay my mom and sister interest (and not just to myself), Uncle Sam had to pay foreign nations interest on the loan notes they held.

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And then 2025 rolled around. What a horrible year! Uncle Sam did not have enough money, so he defaulted on his loans.

To prevent foreign nations from freaking out, he defaulted on the payment to himself before defaulting on his payment to others, just as I did. And then the rotten things that happened to me also happened to Uncle Sam.

Who were those foreign nations? In 2015, Uncle Sam owed the most money to China and Japan. Those two governments held loan notes, just as my mom and sister did. The US had been borrowing from China and Japan for years, and had to pay them interest on those loans annually. The US had been borrowing from other countries too, but owed China and Japan the most by far. In 2012, China and Japan were owed a trillion dollars each.[16] The next group of countries, such as Brazil, were each owed much less, about 250 billion.

Taking notice that Uncle Sam defaulted on the interest payment to himself, China became nervous that he would default on his interest payment to them next. China unloaded some of its US notes in large dumps on the open market for a discounted price, trying to beat Japan to the available customers. Japan followed close behind, as did dozens of other nations. Because of the great supply, US notes tumbled in value immensely. Uncle Sam could only sell more notes, if he promised a ridiculous amount of interest. Every nation knew he could not afford those terms, and quit buying new notes. Uncle Sam’s ability to borrow using notes quickly ended, just as it did for me.

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Why in tarnation did China lend so much? It was not because they won so many gold medals in the Olympics and felt sorry for Americans. In the early 2000s, China had a swelling population. If you lay China on top of the US, the sizes of the two countries are close to the same. Now place them on opposite sides of the Pacific and look at their populations. China has twenty percent of the Earth’s people. That many in one country! To equal that amount, the US would need to add all of North America. And Central and South America. And Western Europe. To create jobs for its swelling population, China had become a manufacturing hub. Factories offer jobs. These factories had to export their goods to grow in size and create even more jobs. The Chinese economy, then, was export driven. The US was a huge market. Chinese factories sold these goods to the US in dollars. But Chinese factories had to pay their workers in yuan. The Chinese central bank exchanged the dollars held by these factories for the needed yuan, and ended up with huge quantities of dollars.

If the central bank simply stockpiled the dollars, over time that stockpile would depreciate with annual inflation. One dollar today buys less than one dollar thirty years ago. In 2015, I could not buy a loaf of bread for a buck, but I could back in 1985.

To at least maintain the value of that stockpile, the central bank had to invest it. The interest or return could be minimal. The Chinese central bank bought US Treasury notes, effectively exchanging dollars for notes, which paid minimal interest. The Chinese central bank had a vault full of notes. Reserves for a country used to be held primarily in Dutch guilder and later the British pound and then US dollars.[17] Because minimal inflation occurs over time, notes were better than dollars.

Since the US government could borrow money from China, it did not need to increase income taxes for the necessary revenue to operate. As a result, the US population had discretionary income to buy Chinese goods. Both populations benefitted: the Chinese had jobs; and Americans could buy cheap goods. Now that’s symbiosis. Isn’t it beautiful? It seemed so.

But hold on! Why did Uncle Sam default on the interest payment to himself in 2025, triggering the demise of his notes? Although his expenditures grew, couldn’t he just borrow more in 2025 and prevent that default? After all, he had successfully done so since at least 1940—for eighty-five years.[18]

Nations do not rest on the geopolitical game board.

 

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[1] https://www.cbo.gov/publication/49973, 2015-25 BudgetDataProjections.xlsx, Sheet 17

[2] https://en.wikipedia.org/wiki/Financial_crisis_of_2007–08

[3] https://www.cbo.gov/topics/budget

[4] http://www.cnn.com/2015/11/16/politics/syrian-refugees-u-s-applicants-explainer/

[5] http://data.unhcr.org/mediterranean/regional.php; see also http://www.latimes.com/world/europe/la-fg-migrants-scorecard-20150908-story.html

[6] http://www.census.gov/hhes/fertility/data/cps/2014.html

[7] https://www.cbo.gov/publication/49973, 2015-25 BudgetDataProjections.xlsx, Table4

[8] https://www.cbo.gov/publication/49973, 2015-25 BudgetDataProjections.xlsx, Table4

[9] https://www.cbo.gov/publication/49973, 2015-25 BudgetDataProjections.xlsx, Table1 (adjusted for higher unemployment)

[10] http://scholarship.law.duke.edu/cgi/viewcontent.cgi ?article=1802&context=lcp

[11] http://scholarship.law.duke.edu/cgi/viewcontent.cgi ?article=1802&context=lcp, p.224

[12] https://www.socialsecurity.gov/OACT/ProgData/ intRates.html. See also http://scholarship.law.duke.edu/cgi/ viewcontent.cgi?article=1802&context=lcp, pp.222-223.

[13] https://www.ssa.gov/oact/STATS/table4a1.html

[14] https://www.socialsecurity.gov/OACT/ProgData/ intRates.html

[15] 2.7 bn x 3.3% interest rate. https://www.socialsecurity.gov/ OACT/ProgData/effectiveRates.html

[16] http://www.theguardian.com/news/datablog/2011/jul/15/us-debt-how-big-who-owns

[17] https://en.wikipedia.org/wiki/Reserve_currency

[18] https://www.cbo.gov/publication/49973, 2015-25 BudgetDataProjections.xlsx, Figure 2