All of Wall Street, and major parts of Main Street, are once again looking to the Federal Reserve to solve the problem of sinking financials, rising unemployment, falling output, and shrinking investment. An economic crisis is either on the way or already here, and this could turn into a financial crisis. The temptation to fire up the printing press will be irresistible.
It would be a tragic error. It was precisely the printing press that got us here to begin with. The Fed stepped up with buying power when Congress created countless trillions in new debt in 2020 and following, supposedly to fix a virus.
Politicians love to spend. But it is the Fed that makes it all possible. The central bank stands ready as the buyer of last resort, and that last resort could even be a major financial crisis. The reason Treasury debt is the most marketable in the world is that everyone knows it is too big to fail. But that promise has proven to be extremely expensive.
It is precisely this practice that caused the dollar’s purchasing power to decline somewhere between 20 and 50 percent over the last four years. It is simple math: the more units of money that circulate, the less value each one carries. There are lags and mitigating factors along the way but that is the essence of it.
Another devastating consequence has been to fund industrial expansion in foreign countries. They hold U.S. dollar assets as collateral for their own credit expansions, which directly target manufacturing sectors in the United States vulnerable to being outcompeted. In a real free market, such practices would result in higher prices in the exporting country and lower prices in the importing country, and a reversal would ensue to keep national accounts settled.
But with a printing press always running, there is never a chance for such a reversal because purchasing power is constantly declining and never rising. In this way, trade deficits of the target country are always rising and never corrected on the other side. It is precisely due to Fed policy that the United States has experienced such devastation to its manufacturing sector over 40 years.
It’s not only foreign central banks. The Fed’s vaults too are absolutely stuffed with junk that needs to be sold on the market but they fear doing so. The banks that are in the system partake in the largess.
Now the United States has another serious problem. The home-grown bubble is popping precisely at the time that the Fed is trying to sponge up excess liquidity of the last four years. That means it is being called upon to achieve two incompatible objectives: tamp down inflation while stopping the financial meltdown. It cannot do both.
At some point, the entire elite class of government, media, tech, academia, and big business needs to stop looking to the Fed to solve all its problems. But looking at this from the point of view of the Fed, we know what the central bank says in private. If you want to stop depending on us, you need to start living within your means.
And that is precisely right. That is why there is no avoiding this fundamental truth. The budget needs to be cut. It needs to be cut dramatically. It needs to be cut now. The deficit needs to end. The increase in the debt needs to end and the balance needs to be paid off over time. The effort must be major. It must be sustained. It must face down the screams and howls of the press, the dependents, and everyone else. There needs to be a serious commitment.
Sadly, no one is talking this way. No one. That makes this point no less true, however.
With this column, I hope to start a serious discussion. The federal debt is $35 trillion and headed to two and three times higher, in a time of high interest rates for which taxpayers are on the hook. This situation is unsustainable.
The budget needs to be cut by 1 percent of GDP. That’s what Javier Milei did in Argentina with spectacular results. That is what we need to do here. And right now.
How much is 1 percent of GDP? That is $275 billion. That needs to be cut off the current budget. Not the forecasts but the real spending right now. That amounts to 4.45 percent of the federal budget. To Washington, D.C., that seems unthinkable.
I don’t get it, though. You have cut at least 5 percent of your personal budget every year for the past four years, and probably more than that. It’s called belt tightening. You have given up restaurants, vacations, fancy wines, and high-end steaks. You have foregone a new suit of clothes and cut subscriptions. You did not die.
Washington needs to do the same. Cutting $275 billion would only take us back one year in terms of federal spending. Sorry but that is not asking a lot. It would simply stop the leakage and stop the madness.
To be sure, this would be a shock to the system. But it is a much-needed shock. The federal debt is $7 trillion higher than it should be even with a 2019 trend line, and the federal budget is $2 trillion in excess. A 5 percent cut would need to be just the beginning. But it is nonetheless a solid start.
Another problem is to know where to cut. There is no rational way to do this, no measuring stick to know for certain what is necessary and what is not. The best possible way would be to immediately order—I would do this if I were the new president—an across-the-board cut in all agencies and programs, and in turn order these agencies and programs not to take the cuts out of any transfer payments to individuals.
It is also not unreasonable that a new administration could perhaps permit a carveout for certain political priorities. For example, in the case of a new Trump administration, border patrol and enforcement could be exempted. Still, let’s face it, the problem with the border is not a lack of spending. It is the policies themselves. You could cut by half and have better policies.
An across-the-board 5 percent cut would put the swamp on notice. It would cheer financial markets. It would alert foreign governments that live off U.S. debt assets that the free ride is over. It would relieve the Fed of the burden of monetization. In fact, the Fed could even close its discount window and stop the printing.
Would there be recession? Most certainly. That might be unavoidable in any case. For how long? It would have to be for about two years, and that could be costly in terms of 2026 midterm elections, just as it was in 1982, but then the ground would be prepared for the future.
A beautiful thing about economics and finance is that they stand for hard limits and force difficult choices. Only the existence of the central bank makes that less obvious. The Fed needs a break, if only to save the value of the dollar and avoid a second wave of terrible inflation.
No one in politics today talks about dramatic spending cuts. They must start. It is truly the only sound way forward. The starting point must be 1 percent of GDP or 5 percent of the federal budget—real cuts and not cuts in the rate of increase. This would send a message to markets and to the world: we are serious about getting our financial house in order.
This is the path of courage, the path of good economics, and the path of good government. We have a window of opportunity now to do it before it is too late.
