Bailout for the States? Summer Showdown Approaches

President Obama is pushing a $50 billion ‘jobs’ bill that would bail out the states (See Obama Presses for Aid to Cities and States).

Making the economic case for helping the states, Mr. Obama said that if teachers and others are laid off — his education secretary, Arne Duncan, has said that without federal aid, up to 300,000 fewer teachers would be in classrooms this fall — “it will mean more costs helping these Americans look for new work, while their lost paychecks will mean less tax revenues and less demand for the products and services provided by other workers.”

Mr. Obama had supported about $50 billion in aid initially — $25 billion for public employees, $23 billion of which would go for teachers’ salaries, and $25 billion to offset states’ increased costs for their share of Medicaid, the public health program for the poor, people with disabilities and many nursing home residents.

Clearly, the purpose of issuing another $50 billion dollars of debt is not for the purpose of stimulating new jobs, but rather for the purpose of maintaining existing jobs and services which can no longer be paid for from tax revenue at the state and local level. It is starting to become apparent that this is no longer a cyclical downturn, but rather a systemic problem. If the latter is the case, how much longer can the federal government borrow debt to prop up state and local economies and keep services running?

Due to an implosion in the bond market which threatened the existence of the European Union,  austerity programs calling for higher taxes, reduced wages, and decreased spending will be implemented. There will be no more stimulus programs overseas. In America, economic advisers and politicians have yet to change course. The President, treasury secretary Tim Geithner, federal reserve chairman Ben Bernanke, and a majority of Congress continue to push spending programs in order to stem the tide of unemployment and continue delivery of benefits and services.

Thus far, neither the bond market nor the will of the people have forced leadership to reverse course and begin making cuts. When a politician states that he will make the tough choices, it is merely rhetoric. If the decision to reign in spending were made, the result would be a powerful depression, slashing of benefits, and social upheaval. Politically, the fallout would result in massive turnover come election day.

America will likely continue the ponzi scheme until it no longer can. Europe has already reached the tipping point. When the moment of truth arrives, America must either embark on unpopular austerity programs or risk the destruction of the currency. If America chooses austerity, it will mean skyrocketing unemployment, reduced wages, less services, lower home values, and the forfeiture of pension promises. The summer showdown will pit Republicans pretending to hawkishly condemn spending versus Democrats who feign concern for the unemployed and suffering. 

For now, my bet is that the bailout will pass, and most Americans will not miss a beat. The job market will not improve, but neither will it collapse. Unemployment compensation, welfare checks, and medicare payments will continue on. But somewhere down the road, the bond market will force politicians to do something other than pass a bill.  Eventually, the choice must be made to choose austerity and face a depression or to debase the currency through massive printing.