Opinion: Federal Funds Are Going Away

By John Hood

RALEIGH — One of the most predictable crises of modern times is the implosion of America’s federal finances.

The basic math is inescapable. As recently as 2008, total federal debt held by the public was less than 40% of gross domestic product. Today, that ratio is just shy of 100%. If interest rates stay perpetually below 4%, the ratio will rise to 236% over the next three decades. If interest rates rise to 5% or higher, the debt-to-GDP ratio will surpass 300% by 2054.

In that (likelier) scenario, wrote Manhattan Institute senior fellow Brian Riedl in a recent cover story for Reason magazine, debt service will consume nearly all federal taxes collected. “There would be no tax revenues left to finance any federal programs.”

Obviously, that is not going to happen.

I know you’ve seen or read many strident denunciations of Washington’s fiscal recklessness. Some of them probably came from me! But that’s not my purpose here. Whether we like it or not, and regardless of how much blame we assign to political actors past and present, the reality is that no country can afford to run $1 trillion to $2 trillion budget deficits in perpetuity. Long before debt service crowds out virtually all other federal spending, some future president and Congress will be compelled to address the problem.

Let’s be real. They are not going to decommission the United States Navy, sell off all federal parks, and stop paying all Social Security and Medicare benefits. And they are not going to close all or even most of the budget gap with tax increases. Even confiscating every penny of the assets of billionaires and multi-millionaires couldn’t fund the federal government for more than a short time — and that wouldn’t be possible in a free society, anyway.

“At most,” Riedl estimated, “1% to 2% of GDP in new taxes could be raised from higher earners and corporations before their tax rates reach revenue-maximizing levels and the economy begins to capsize.” Keep in mind that federal deficits are already running at 7.5% of GDP and will rise to at least 14% by 2054.

So, here’s what is likely to happen — and why North Carolina legislators, executives, and local officials need to get ready.

First, Washington will be forced to restrain spending on the largest and fastest-growing programs in the federal budget: entitlements. Congress will apply significant means-testing to Social Security benefits, either by changing the income-replacement formula for beneficiaries with above-average incomes or taxing their benefits more. As for Medicare and Medicaid, they’ll means-test the former and, for both, pay medical providers less for services.

Remember last year when state leaders said the federal government would cover 90% of the cost if North Carolina expanded Medicaid? Forget about it. There is zero chance Washington will keep reimbursing the medical costs of the relatively healthy expansion population at 90% while reimbursing only two-thirds of the cost of disabled children and the elderly.

Second, everything that isn’t defense spending or entitlements will be slashed to the bone. That includes transportation. Local officials in the Charlotte region, for example, are reportedly counting on billions of federal dollars to help defray the cost of new rail-transit lines. Forget about it. The same goes for roads, airports, water and sewer lines, and other infrastructure around the state. If North Carolina governments don’t finance such projects, they won’t happen.

Third, about 40% of North Carolina’s state budget consists of federal funds. In addition to Medicaid and transportation, these dollars fund a wide array of development projects, social services, and public assistance programs. Our counties and municipalities also receive federal grants for various purposes. Washington will be compelled to cut back here, as well. Think we can avoid this outcome by aggressive lobbying, or by slavishly reelecting our congressional delegation so they gain enough seniority to keep the spigots flowing to North Carolina? Forget about it.

The time to plan for all this isn’t decades into the future. It’s right now.

John Hood is a John Locke Foundation board member. His latest books, Mountain Folk and Forest Folk, combine epic fantasy with early American history (FolkloreCycle.com).