Federalism and Ancestors

When ratified in 1788, our Constitution replaced the Articles of Confederation. Since those Articles of Confederation had only been in effect for seven years, it's helpful to review why they were repealed so soon.

In comparison, the Constitution has been in existence for more than 222 years, and represents the world's oldest written constitution in the world today. Staying power indeed, unlike the Articles of Confederation.

First, some brief background. When the Revolutionary War ended, the weak national government formed pursuant to the Articles of Confederation was essentially a legislative body. The national government had very little authority to act in domestic affairs and had neither the power to tax nor to regulate commerce among the several states.

In fact, the domestic powers of government remained with each of the states. Aptly named, the Confederation consisted of thirteen independent sovereigns that yielded little power to the central government other than with respect to international affairs.

Upon ratification by the states, the new Constitution provided for a dual system of government. A division of governmental powers occurred between the national government and the several states.

Since all powers of government were deemed to have been granted by the people, or the governed, America became a government of the people, by the people, and for the people. Nothing like it existed anywhere else in the world. Today we remain unique as a country.

The powers delegated by the people to each of the three branches of government (legislative, executive and judicial) were also specified in the document. The legislative branch was delegated the power to tax, spend and borrow, as well as to regulate commerce among the several states. (State governments also have tax, spend and borrowing powers as well, as do many other governmental entities. But that's another problem.)

Although the word federalism is not mentioned in the Constitution, a dual form of government, and what we call federalism, was in fact created by the Constitution. So far, so good.

But later this clear dual form of federalism was augmented by a benign sounding term--cooperative federalism--between the central government and the states. As applied over the last several decades, cooperative federalism has enabled the Congress to become ever more powerful in relation to the several states. (See our posting dated Wednesday, August 31 for a discussion of cooperative federalism.)

As a result, the Constitution's commerce clause has combined with cooperative federalism to enable the federal government to do just about anything it decides to do. Individual states have become very junior partners in governance. There are now some dim but hopeful signs that the pendulum of national versus state power is moving back in favor of a better balance between the central and state governments. Let's hope that continues.

Now let's talk about the various governmental entities' borrowing, taxing and spending habits. And as we do, economics has much to teach us about the future choices we will have to make as a society of the self-governed.

The fundamental question about "choice" that we citizens have to answer is the following: Will the citizens 200 years from now regard us as having been good ancestors?

In my view, that depends on what we choose to do about the financial mess we've made for ourselves. Our actions with respect to wasteful and unnecessary government spending have brought us to the brink of fiscal chaos.

Our individual, collective, immediate and ongoing attention to dealing effectively with the aforesaid mess is needed both now and for the foreseeable future, too. Our descendants deserve no less than that we do right by them, as our ancestors did for us.

Today let's lay out where we are with respect to the various governmental entities and their powers to tax, spend and borrow.

The national government, state governments, county governments, city governments, school districts (and other so-called special purpose entities such as sewer projects, stadiums and other government structures), all raise funds through their taxing powers. Unfortunately, we approve their recommendations for spending taxpayer money too casually.

In essence, none of these entities raises enough funds to pay for what it spends, or at least that's the way it seems to me. On our behalf, they seem to be willing to leave the bill behind for future taxpayers. To become good ancestors, we can't continue to allow that to happen.

One simple question helps me focus on all this ancestor stuff. Will we pay our way for what we spend, or will we spend and then send our descendants the bill instead?

Social security, as an example, was underfunded from the beginning. Contributions or taxes began in 1937 and payments to beneficiaries began in 1940. There wasn't enough money then to fund the benefits, and there isn't enough now. Same with medicare, medicaid, public employee pensions and the like.

If we don't begin either to set aside the appropriate amount of money to fund the promised benefits or reduce the future promises contained in these entitlement programs, our descendants will be stuck with the bill. That's doesn't seem very American to me.

And how about all the new government buildings, schools, stadiums and such that have been or are being constructed today and financed with borrowed money? How will we pay for them? Where will we get the money? What will we choose not to do? Or will we stick the next generation with the bill? That's not very American either.

And the above represent just a few examples. There are countless others as well.

Economists agree that taxes should be simple, broad based and fair. Let's just stay with simple today.

To my knowledge, there is nowhere we can look to see how much TOTAL public debt, inclusive of unfunded promises, we've incurred as a society and are continuing to incur.

The Republicans want a balanced budget amendment to prevent future deficits, or at least they say that's their plan. But how about the debt we already owe, or the obligations for which we're committed but aren't counting, such as the trillions in dollars of unfunded public employee pensions, social security and medicare promises. To more properly label what Republicans call "cut, cap and balance" would require that we at least add the words "fund" and "repay."

There is no way to get out of this self inflicted financial mess without doing two things. Stop spending money we don't have on government we can't afford, and start doing what we can to grow the private part of the economy. All other actions will be both ineffective and counterproductive.

Let's take a real simple example of what ongoing sustainable economic growth would mean. Most public employee pension funds are seriously underfunded, to say the least. But that's not the whole story.

These plans also typically assume that their pension portfolio's investments will realize an 8% compounded annual rate of return over the long term. Here's the simple math surrounding that 8% annual rate of return assumption.

A typical portfolio of pension plan investments would consist of a blend of 60% stocks and 40% bonds. If we assume that today bonds yield 5%, to get a blended overall investment result of 8%, stocks on average will have to return their historical return of 10% annually (10% of 60% = 6%: 5% of 40% = 2%; so 6% +2% = 8%).

Although that ~10% return for stocks has been the case for the past two hundred years, how many people are investing that way for the future? And how many believe that America's best days lie ahead in this now globalized and ultra-competitive world of today? An 8% return over time is not a no-brainer, and that's for sure.

Here's another small but telling example of needless government spending at work. How many privately financed buildings are going up in your local area compared to government financed structures? Hardly any private building where I live, and government, including schools, is winning by a knockout!.

This demonstrates to me that our "insane" priorities haven't changed. Something called a penny sales tax (where I live they call it SPLOST, aka special purpose local option sales tax) is used to build these government buildings, parks and such. While it's sold as a penny sales tax, it really costs taxpayers real money to build this stuff.

Federal income taxes, state income taxes, social security taxes, medicare/medicaid taxes, property taxes, sales taxes, gas taxes and all the rest of the taxes add up to a number that government officials aren't making easy for people to discover, let alone total. It's almost like they don't want us to know the truth. Whatever happened to simple and straightforward?

But whatever the total tax collections may be, they aren't even close to offset the money being spent and committed. This total "expenditure" at all levels includes spending on all public projects, as well as the future requirements to properly fund unfunded entitlement promises and to repay existing debt.

We made the mess, and we have an obligation to clean it up. That's the least we can do for our descendants.

Here's how simple this financing equation really is. Less economic growth = fewer jobs. Fewer jobs = less income. Less income = fewer income taxes paid. Fewer taxes paid = higher government transfer payments made. Higher government transfer payments made = less private sector economic activity, less consumer spending, fewer jobs and less income available to be taxed. And that means escalating government deficits and more government debt. And so on.

Nowhere does it say that more government construction and spending for more teachers will contribute to long term sustainable economic growth. We need to stop pretending that it works that way.

Now let's wrap it up.

Today's lesson in economics is a very simple one. Our resources are scarce, and we can't have everything we want. W e have to establish priorities and make choices.

Our politicians and governments at all levels have neglected that simple economic fact of life about scarcity and choice for far too long. And we the people have allowed them, perhaps even encouraged them, to act that way. Shame on us.

In education, will we continue to build infrastructure or use what limited money we have to improve teacher competency and pay? Will we emphasize learning and provide meaningful schooling throughout the year for those who want it, or will we keep the 180 day calendar for all in order to accommodate teachers, administrators and other workers who want the summers off?

Will we continue to spend limited tax dollars on more new public buildings, or will we use existing idle buildings instead?

How will "We the People" act now? Like irresponsible people who want it all today, or as the admired ancestors of the future?

Let's commit to work each day to make our descendants pleased with the society we leave behind, just as we have every right to be pleased with what was entrusted to us.

Thanks. Bob.