THE BUSH ADMINISTRATION has learned something about the economic consequences of the war. It was not so long ago that Deputy Defense Secretary Paul Wolfowitz assured Congress, “We’re dealing with a country that can really finance its own reconstruction, and relatively soon.” The administration now estimates that in the next fiscal year we will spend $51 billion on military operations in Iraq, $11 billion on such operations in Afghanistan, $20 billion on rebuilding and securing Iraq, about $1 billion for reconstruction in Afghanistan, and another $4 billion on other chores related to the war on terror. This $87 billion estimate, put before the American people by President Bush in his September 7 address to the nation, assumes that the number of troops stationed in Iraq can safely be drawn down from the current level of 140,000 to 110,000 by this time next year, that other countries will contribute up to $40 billion, and that the sales of Iraq’s oil will make an additional $15 billion available. The basis for the administration’s optimism on all these points is known only to the Pentagon. If past misestimates are any guide, it’s safe to say that the new figure is at the bottom of the range that independent experts would be likely to offer.
Democrats, and not a few Republicans, profess to be suffering from a bad case of sticker shock, with some rediscovering the “Come home, America” theme that served them so ill 40 years ago. Nevertheless, the president will get what he wants from a Congress fearful of being accused of abandoning our troops, or of forcing a humiliating, Somalia-style withdrawal that would encourage terrorists to believe America is weak. Which means that the nation’s fiscal situation will become still more complicated.
Even before the president conceded that Iraq’s oil revenues could not begin to cover reconstruction costs, the federal budget was headed for a deficit of some $500 billion, give or take the odd $100 billion. That represented about 4.2 percent of GDP, considered not at all nervous-making by administration spokesmen. But add in the $87 billion that the president is now asking for the war on terror, and you crowd 5 percent. Make the not unreasonable assumption that the president will win his fight to have his “temporary” tax cuts made permanent, throw in the $400 billion the president wants to spend over the next decade on a prescription drug program, add the $15 billion he is asking to fight AIDS in Africa, and other billions that he will allow Congress to tack on for its favorite programs, and you quickly get a budget deficit equal to or above the 6 percent post-World War II record, set in 1983.
Even many of those who support the president’s view that we must “do what is necessary, . . . spend what is necessary, to achieve this essential victory in the war on terror” are concerned about the consequences of such deficits. For one thing, the American people are being told that no sacrifice is too great to root out terrorism, only to find tax refunds in their mailboxes, and no abatement in the expansion of entitlement programs that are already so costly as to threaten fiscal mayhem when the baby boom generation reaches retirement age.
More immediately, the combination of a soaring budget deficit and a rising trade deficit means that we depend in part for our economic well-being on the continued willingness of China, Japan, South Korea, and Hong Kong to add to the $700 billion of Treasury securities they already hold (up 36 percent since the end of 2001). China’s promise to step up its purchases of Treasury bonds, allegedly extracted from the regime’s leadership by Treasury secretary John Snow on his recent trip to Asia, will help to prevent bond prices from falling, and interest rates from rising as much as they otherwise might.
But even if the Chinese keep their word when differences with America over foreign policy issues inevitably arise, interest rates are likely to end up higher than they otherwise would. As the economic recovery gathers momentum, the private sector will be increasing its demands on capital markets, competing for funds with the increasingly debt-ridden government. That will make it more expensive for businesses to raise the money to finance expansion and create jobs.
Worse still, late last week the government announced that the trade deficit has once again risen. That means that foreigners, most importantly central banks, are sitting on a higher-than-ever pile of dollars. If they decide prudence requires them to diversify their assets by dumping dollars, perhaps in order to increase holdings of gold, the Fed might have to raise interest rates in order to make it more attractive for foreigners to hold dollar assets.
These dangers could be avoided if the administration were willing to confront Americans with the cost of waging this war. Democrats suggest that the costs can be met by repealing the Bush tax cuts. But that would remove one of the main forces that has prevented a slowing economy from slipping into recession. Faced with the need to fight a two-front war–on recession and on terrorism–Bush chose the right weapons: tax cuts to stimulate growth and military interventions in Afghanistan and Iraq to fight terror. Borrowing to finance the war does pass some of the burden on to future generations, but that is appropriate since those generations will share the benefits of the eventual victory.
It is the Bush team’s stubborn insistence on expanding the welfare state so as to please voters in the upcoming elections that smacks of fiscal irresponsibility. In “Through The Looking-Glass,” Lewis Carroll offers a paradox: “The rule is, jam tomorrow and jam yesterday–but never jam today.” Paradox is not for a White House obsessed with avoiding another one-term Bush presidency. It served up jam yesterday in the form of temporary tax cuts, is offering jam today by making them permanent, and is promising jam tomorrow, the prescription drug benefit. That just might be a bit too much of a sweet thing for the nation’s health.
Irwin M. Stelzer is a contributing editor to The Weekly Standard, director of economic policy studies at the Hudson Institute, and a columnist for the Sunday Times (London).
