The Big Downsize

For over a century the United States has had two economies: the private sector and the government sector. Workers in the private sector routinely faced corporate downsizing, cuts in benefits and pay, and their 401K retirement accounts fluctuate with the stock market during recessions. On the other hand, government job have been protected, they rarely see any cuts in benefits and pay, and their retirement accounts are protected and continually go up. Many estimate the unfunded liability for state retirement plans to be in the area of 2 trillion dollars and is rising fast. For this reason, government workers are spoiled and are paid much higher salaries than their private sector cohorts working similar jobs. And private sector companies are much more successful than their government counterparts. While Federal Express and the United Parcel Service make money the United States Post Office loses money. While Wall Street giants are profitable, government run Fannie Mae and Freddie Mac continue to receive taxpayer bailouts. What’s worse is that this problem is not isolated to the federal government, but to local and state governments.

Many state and local municipalities have been trying to make deep cuts in their budgets. However, next year over 30 states will have at least a 10% budget shortfall compared to the size of their budget. Overall, the grand total of the debt held by the individual states will be 55 billion next year. Only 5 states have a budget surplus or expect to break even next year. To make matters worse, during a recession, more people qualify for government social programs and states expect that Medicaid payrolls will go up 5.5% next year alone. Some states and local governments have cut their budgets to fiscal year 2004 levels, but at the same time have seen an increase in welfare recipients by 10 to 15%. Last year, many states were saved by the federal government’s Recovery Act stimulus. The stimulus gave states bailout funds so they can meet their Medicaid payroll payments. That will not happen this year, the federal government is in debt up to its eyebrows (approaching levels equivalent to our Gross Domestic Product) and cannot afford to keep bailing out states. The passing of ObamaCare legislation may exasperate this problem in the future. ObamaCare has made it easier for Americans to qualify for Medicaid. Although the federal government will foot the bill for the increased Medicaid payrolls the first few years this provision becomes law, but eventually the onus to fund these increased payrolls will be on the states.

How did local, state, and federal governments get into this predicament? First of all, during a recession tax revenues dry up. State sales tax revenues are down 1%, personal income taxes are down 3% mostly due to falling home prices, and corporate taxes are down 6%. The problem has been exasperated by the fact this recession has dragged on for a long period of time. Secondly, government official’s lack of strategic vision and planning has been costly. In other words, they have failed to create a “slush fund” in case of an emergency, such as a recession. And obviously there has been no risk mitigation plans in place to thwart off any economic calamity. Government officials lived in some fantasy land thinking that the taxpayer cash cow could only get larger each year and could never go down. The lesson to be learned from this experience is that all good things (financial bubbles) end.

Over 45% of all state and local funding goes to the public school system from kindergarten to college and about a 17% goes to Medicaid. And Medicaid is the fastest growing financial burden to local and state governments. The rest of local and state budgets are used to pay for other necessities such as police, firemen, emergency medical technicians, community centers, to pay the interest on bonds and so forth. Thus, many state legislators find it tough to make cuts because they view everything as necessary spending and are incapable of making the tough choices. Corporate leaders are forced to make tough decisions everyday meanwhile; government leaders do not and therefore; are incapable of managing the economy during a crisis. And when the government makes cuts into its budget, the spoiled masses protest. We live in a country of hypocrisy. In other words, we all want our government to get spending under control, if and only if, it does not affect me. No one is willing to compromise. The problem is that the United States has become a welfare state.

Something has got to give and tough decisions have to be made. If not, many local and state governments may be force into bankruptcy and default on their bonds. Yes, the next big financial bubble to burst could be the municipality bond market. Newly elected Virginia Governor Bob McDonnell has balanced his states budget the first year he was in office. Newly elected New Jersey Governor, Chris Christy, is trying to get their budget under control and has been in a perpetual dog fight with irresponsible unions. Unions have promised thousands of employees billions of dollars in unfunded liabilities in their benefit programs. The bottom line is that the local, state, and federal governments need to find creative ways to downsize and cut out centuries of bureaucracy, waste, and inefficiency. One creative and innovative way to tackle the debt problem is to cut out redundancy. For instance, states should find ways to combine cities, counties, and local townships. This is especially true if these local municipalities have small populations and or small land masses. After all, it makes little sense to support redundant government jobs for two adjacent communities with fewer than a thousand people. If communities were merged into one entity government officials could cut 25 to 30% of the redundant government jobs. Think about it; corporations in the private sector do this all the time. Corporations routinely merge or buy competitors. The reason they do this is to increase efficiency because they can maintain the same net sales while reducing redundant jobs. Local, state, and federal governments can also cut redundant programs. For instance, the federal government has dozens of teen pregnancy programs.

The easiest way to solve the problem of benefit and retirement unfunded liabilities is to move all new employees (10 years or less service) to a retirement system similar to the one used by corporations. In other words, privatize government retirement programs so each individual controls their retirement accounts instead of them being run by ill advised and overpaid government bureaucrats. Unfortunately, many of these bureaucrats run retirement benefit programs like a Ponzi scheme. Corporate 401K plans have no unfunded liabilities, they are cheaper to manage since the task is outsourced to financial companies, they are 100% portable, and contributors are 100% vested immediately.

Local, state, and federal governments should also consider privatizing failing business entities. For instance, local and state governments can consider selling the management of parks, libraries, museums, and even toll roads to private owners. The federal government can privatize Fannie Mae, Freddie Mac, Amtrak, the Post Office, General Motors, Chrysler, and even NASA. As far as entitlement spending is concerned, all government entities, should consider placing lifetime caps on the amount of money each individual citizen can receive in unemployment, Medicaid, food stamps, low income housing, or welfare subsidies over the course of their lifetime. Anyone using these privileges more than 10 years is obviously abusing the system. The government handles entitlement benefits as if they are unalienable rights and therefore guaranteed over our entire lives. But these social entitlements are not rights; they are only helpful tools to aid people going through a tough period.

The Federal government has a lot of unconstitutional and wasteful programs that should be cut. The Constitution says nothing about the government abusing its power to create and manage a Department of Energy, Department of Education, Department of Agriculture, a Health and Human Services Department, and so forth. There is no reason these activities could not be run by the individual states and their local governments.

The bottom line is that government at all levels needs to be downsized or taxes will have to be raised to astronomical levels to eliminate debt. Raising taxes too high may have an adverse effect on the economy and produce a “Laffer Effect”. The Laffer Effect states that increased taxes may not result in higher government revenues because it reduces the incentive for workers to earn more. Thus, the only real choices to tackle government shortfalls are through a big downsize in our government expenditures. There should be salary cuts of 10% across the board, municipality mergers, privatized retirement accounts, privatize failing government run programs or businesses, and entitlement reforms.