What’s the role of government in our economy?

Extracts from a speech to be delivered to Probus at lunchtime tomorrow:

Alexander Hamilton

“Go shopping. It’s our patriotic duty” — President George W. Bush

The second quotation is, of course, one of the major reasons that we in Bermuda are in a big financial hole — although we are joined, amongst others, by countries like the US, UK, Greece, Italy, Spain, and Argentina. But that is no consolation. Like the other countries mentioned, Bermuda is awash with debt.     

Let me draw your attention to the debt summary contained in the SAGE Commission report of a few months ago:

1. The Government de?cit for:

a. 2012: was $228,768,000

b. 2013: estimated at $243,549,000

c. 2014: projected to be $331,593,000

This amounts to a total of $803,910,000 over the 3 year period to March 31, 2014. Total gross borrowings during this period are expected to be $809,102,000.

2. Based on best estimate projections, the Bermuda Contributory Pension Fund (the public pension) will last until 2041 and then be exhausted. This means that any person aged 37 or younger will not receive a pension upon retirement at age 65. 

As of July 31, 2008, this fund had a funded ratio of 40.6% assets to liabilities.

The unfunded liability as at July 31, 2008 was $1,901,000,000. The draft report prepared as at July 31, 2011 indicates that the unfunded liability has grown — in fact to $2.066 billion.

What I mean by an unfunded liability is that promises made to given beneficiaries are not matched by the funds necessary to meet such obligations. 

An unfunded liability is a debt — pure and simple — but under government accounting standards it is not recorded in the financial accounts.   If a company did the same thing the directors would find themselves charged with fraud — and rightly so.   

3. Based on the most recent best estimate projections, the Public Services Superannuation Fund (Government employees), if continued in its current form, (that is with a signi?cant unfunded amount of $983,000,000 which continues to increase annually), will last until 2046 and then be exhausted. This means that any person aged 27 who retires at the plan’s retirement age of 60 and who worked in Government and whose contributions have vested, will ?nd that there will be no assets in the fund to pay a pension. As of March 31, 2012, this fund had a funded ratio of only 33.4% assets to liabilities. The unfunded liability as at that date was $983,096,000.

It should be noted that if the Public Services Superannuation Fund is exhausted, the Consolidated Fund will have the obligation to pay these pensions. Therefore, if these funds are maintained in their current form, Government revenue will have to rise substantially which would most likely require a substantial rise in taxes.

4. Based on best estimate projections, the Ministers and Members of the Legislature Pension Plan Fund, as of March 31, 2012, had a funded ratio of only 32.7% assets to liabilities. The unfunded liability for this fund as at March 31, 2012 was $22,548,000.

5. The total unfunded liability for the three Pension Funds, as at the dates mentioned above, is in excess of $2,906,644,000. Note, however, that the draft report for 2011 for the Bermuda Contributory Pension Fund projects its unfunded liability to rise so this number is most likely understated.

In summary, Bermuda’s debt liabilities are:

• Direct borrowing: $1.5  billion.

• Social Security Fund: $1.9  billion (now $2.066 billion).

• Public Service Fund: $0.983 billion.

• Ministers and MPs:  $0.022 billion

TOTAL : $4.4 BILLION.

Do the arithmetic in your head; it is roughly $80,000 per resident, or $320,000 per family of four.  If you did not know this, you are $80,000 poorer now than you were before you walked in the door of the Dingy Club.

Financial time-bomb

Some of you will note that I have not mentioned health care which is another financial time-bomb. By 2011, the total cost of health care per individual was $10,570. 

At its current rate of growth, the total cost of funding Bermuda’s health care system is estimated to be almost $26,000 per capita by 2021. Most people assume Government will continue to meet its implied obligations — with debts of the level mentioned I do not think this can be done. This means that the burden of medical ?nancing will fall increasingly on the individual.

It is make-believe that governments are capable of taking bold economic action to restructure the economy, create new industries (the Bermuda Government is attempting to do just that), come to grips with an ageing population, a falling birth-rate and rising inequality of incomes and wealth.  It will flounder, for much the same reasons as the French and Greek Governments to name only two. Political management of the economy cannot, and has never, worked. 

If Government economic management is ever to succeed, it requires the highest form of government and the best of human nature, executed by people of the highest ethical standards who are dedicated to the public welfare, indifferent to personal ambition and who are in possession of superb intellects.   

It does not take me to tell you that such people are nowhere to be found on this earth — least of all in the House of Assembly.  

As has been said many times before, a politician’s best friend is public ignorance of economics or put more bluntly the financial gullibility of the voter. The voter’s worst enemy is the politician who takes advantage of the gullibility or economic ignorance of the voter.  Political expediency nearly always trumps economic logic.

I suspect that for this reason public debt in Bermuda has reached unsustainable proportions. In the final analysis, debt means default, inflation (a subtle means of increased taxation or slow motion default), or devaluation.  

What’s the ultimate answer to government debt?  The short-term answer, obviously, is to keep expenditures equal to tax revenues.   But the real solution is for people to ask: What is the role of government in our economy? Once people realize that freebies and economic intervention are not viable activities, 50 per cent of government expenditures disintegrate, which would solve the problem of excess spending and debt.  

This would lead to increased savings and ever-increasing standards of living and levels of prosperity and, most important, to jobs and economic growth. It worked for Bermuda in the 1960s through to the 1990s. I do not see why it would not work now.