The President has released his budget. The overall picture is probably best understood by looking at the chart below (Source: Office of Management & Budget Historicals & Forecast).  This budget includes a freeze on discretionary non-security spending, higher taxes on wealthy Americans, reduced itemized deductions, a “financial crisis responsibility fee” paid by banks, higher taxes on companies doing business outside the U.S., higher carried interest taxes on private equity, and higher taxes on oil & gas firms. Even with these “assumptions”, the Administration projects a persistently large and growing deficit throughout the decade.  The chart shows something else as well: tax revenues are near their long-term average, but spending reaches new and higher levels relative to GDP.

Digging into the numbers, by 2016, discretionary spending will only be 10% of total spending and defense will be 19%.  That leaves another 71%, which is mandatory entitlement spending (and interest).  Entitlements include Medicaid, Medicare, Social Security, and much higher benefits for Federal employees compared to private sector counterparts.  Although entitlements might be a great benefit when the country can afford them; eventually, the global capacity for US debt will require very tough choices.  And the choices are: raise taxes substantially (displacing business investment leading to reduced productivity and a lower standard of living), cut entitlements (potentially reneging on promises made to existing beneficiaries), or allow the Federal debt to keep on growing (a.k.a., Japan) at whatever rates the market (China) will bear.

Bad choices all. But, the longer we wait, the worse the situation becomes…