Post from greshambouma at CHUM.LY

How this Whole Government Bankruptcy Thing Sneaks up on us

With a number of governments in Europe in debt crisis, it begs the question as to how governments could possibly end up bankrupting entire countries without the citizens seeing it coming and stopping it. It seems inconceivable that one day national debt is just fine, then some news item changes everything and the nation in question is on the verge of bankruptcy.

Let�s look at what happens. When governments begin to borrow more than they lend, wonderful things happen in the economy. If the borrowing comes from outside the economy, money is spent that does not compete with borrowing/spending in the private sector. GDP goes up since it simply measures economic activity. Everyone is prospering on the borrowed growth. Tax receipts go up and government and its programs grow. The more government borrows, taxes and spends, the more it produces not only a large public sector, but a sector of the private economy that is entirely reliant on government spending. Without sustained government spending this part of the private sector will simply disappear, but citizens are not aware of the dependency of the entire economy on their government�s ability to borrow more money and spend it.

Citizens are not aware of the dependency because the government�s own reporting constantly understates the magnitude of the borrowing and deficit spending. The press is implicated as well since it cooperates in the reporting methods used to hide the magnitude of the spending and borrowing problem. Deficit spending is frequently compared to total GDP, which is a very large and meaningless number. This makes the deficit appear smaller in comparison. If deficit spending were compared with total government tax revenue it would appear alarmingly large. For instance last year the US federal government spent 68% more than it brought in as tax revenue, but its spending deficit compared to GDP was only roughly 10%. It is all a wonderful system in the short run with everyone feeling very wealthy and comfortable with a large and growing government presence. The trouble is suddenly overwhelming, however, when the government in question can no longer find an outside source of borrowing. Not only does the borrowed money disappear as a source of funding, but GDP and tax revenue shrink as well forcing an even larger contraction in government spending. So the end result is governments, once they begin to borrow, they can�t quit without causing economic hardship, so they don�t until they are bankrupt. Only then does the magnitude of the problem begin to be evident to the public as cut feeds contraction, forcing more cuts and hardship.

In short, government borrowing fuels growth, which fuels tax revenue, which justifies greater borrowing, which fuels growth and tax revenue, which justifies greater borrowing, etc. This happens until practical restraints force government cutbacks which spur contraction, which spur cuts, which feed more contraction etc. But in order to avoid the second half, our governments is printing rather than cutting, which sacrifices the currency in order to maintain spending in the short term. http://chum.ly/n/49fd3a