What Washington Needs To Learn From Greece

Feckless politicians lead to national disaster.

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It'll never happen here.

That's what Washington politicians want to believe as they nervously ponder the vicious debt crisis that has bankrupted Greece. Inside the Beltway, it's easy to float above it all and bask in the belief that America is the most prosperous nation in the world, blah blah blah. Yet the Washington seers were also convinced that recessions were a thing of the past, Wall Street could regulate itself, and unemployment would never again hit 10 percent.

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There are, in fact, big differences between Greece and America, which makes it easy to refute direct comparisons. Greece has a huge underground economy, a dysfunctional tax system, and a nepotistic public sector that makes American-style crony capitalism look virtuous. By western standards, Greece's economy is uncompetitive and its workers are overpaid.

But there's also an alarming similarity between the two indebted nations: Both are run by feckless politicians who seem incapable of addressing problems of their own creation.

Wanton government spending in Greece has generated an unmanageable national debt that's 115 percent of GDP, according to Moody's Economy.com. In the United States, the total debt is about 90 percent of GDP. But while the U.S. debt is tolerable today, it won't stay that way for long. Stimulus spending and the recession account for part of today's debt load. But President Obama inherited 75 percent of that debt when he took office, and since half of all government spending goes toward mandatory programs like Medicare and Social Security, the debt will continue to explode no matter who's in the White House—unless politicians rein it in.

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The general solution isn't all that complicated. Economist Donald Marron explains that there are four things that would help reduce the debt: Inflation that devalues the debt in current dollars, a rapidly growing economy that boosts incomes and brings in more tax revenue, new or higher taxes, and cuts in government spending. Inflation alone won't do it, because Social Security and Medicare payments rise along with the cost of living. Even rapid growth, which few economists expect, wouldn't be enough. "You can't cut spending enough to do it, and you can't raise taxes enough to do it either," says Marron. "So it has to be some combination of all of them."

American policymakers have plenty of tools for addressing the problem. But have you heard any politicians calling for raising taxes and cutting spending lately? Of course not. As everybody knows, that would be political suicide, since voters throw a tantrum when presented with bad news or when asked to make a civic contribution. President Obama has locked himself into an impossible promise not to raise taxes on the middle class (even though half of all households pay no income tax at all.) The Senate refuses to talk about the problem. In January, it rejected plans to set up a bipartisan debt-reduction commission, for parochial political reasons reminiscent of … Greece. So Obama set up his own commission, which will face a not-invented-here problem when it presents unsolicited recommendations to Congress. Meanwhile, most members of Congress have been working tirelessly on another important national priority: Blaming the other party for everything they can think of.

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That's similar to what's been happening in Greece for the last decade, which is why Greek leaders have had to beg their European neighbors and other nations for a bailout of $150 billion or more. To get it, Greece needs to enact severe austerity measures like hiking taxes on nearly everybody and slashing pay and pensions for government workers. Riots in Athens suggest that it's better for a nation to police its own spending than to let the money gush until foreigners dictate what you should do.

The conventional Beltway view is that there's plenty of time to fiddle and deal with the problem right before it becomes a total disaster, the way the Federal Reserve rescued AIG just in time. On the current course, U.S. debt won't hit Greek levels until about 2020. But the politicians might not have as much time as they think. The bloat in Washington could persuade investors who buy Treasury securities—the principal way the government borrows money—that maybe the U.S. government isn't the bulletproof risk it has been in the past. That would force the government to pay higher interest rates to investors, which would raise rates for everybody and trigger inflation.

Some investors are already looking for alternatives to Treasuries. "U.S. Treasuries are perhaps not the risk-free asset that they were," says Michael Hasenstab, a fixed-income portfolio manager for investing firm Franklin Templeton. "For us, the solution is easy: Hold no U.S. Treasuries." Bonds from other nations and even some corporations now look like a better bet, even for investors who must protect their principal.

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Washington's inaction also creates a chorus of disgust among opinion leaders able to influence global investors. "What worries me most is that a $10 trillion debt is unsustainable and the two parties are completely divided," says economist Nouriel Roubini of New York University's Stern School of Business. "It's not like the problems is unresolvable. There are solutions. The problem is political. There's no willingness in Washington to do anything." Business leaders in particular are appalled by elected officials who face a clearly defined problem, and basically stick their fingers in their ears and run away.

America's debt bomb might not explode the way people expect, either. It's possible that states like California and Illinois, deeply in debt, could face solvency problems and runaway interest rates on borrowing before the federal government does. And other European nations will probably follow Greece in a chain reaction of debt downgrades and fiscal panic, solidifying the idea that the problem is "over there," not over here. Except the contagion may not stop where we want it to. "Greece is only the tip of the iceberg," says Roubini, who predicts the problem will spread to Spain, Portugal, Ireland, Iceland, the U.K., and Japan. "And eventually, the fiscal problems of the U.S. are also going to come to the fore," he says. But don't worry. That will happen tomorrow. Today, we're the greatest country in the world.