There’s some light at the end of the tunnel. Just a thin ray, and at the end of a very long tunnel littered with government and private debt.

It just might be that the battles now going on in Congress about this year’s budget will prove to be a sideshow. After all, the difference between the Republicans’ insistence on $60 billion in spending cuts, and the Democrats’ offer of $10 billion is about 1% of the $3.8 trillion budget, a rounding error in the long-term budget outlook.

What really matters is the longer term, for unless America’s governments get their deficits under control, interest on the various debts will soon eat up a huge portion of current output. Note the plural. For it is not only the federal government that is running unsustainable deficits, but the states and municipalities. Municipalities can declare bankruptcy, and some will in order to abrogate their lavish contracts with public sector unions. States cannot use that route, for obscure legal reasons, and so are making a frontal assault on their deficits. California is facing a $25 billion deficit, the largest in the nation. Jerry Brown, who was the nation’s youngest governor during his first stint during the boom years (1975-1983), and is now the nation’s oldest, is asking voters to approve some tax increases and spending cuts. More significantly, several states are attacking the root cause of the problem -- excessively generous health care and pension benefits granted to public sector workers by the politicians whose campaigns the public-sector unions finance.

Wisconsin, Ohio, and other states are not only forcing public-sector workers, whose benefits far exceed those in the private sector, to bear some small part of their health care and pension costs. They are stripping public-sector trade unions of some of their collective bargaining rights. No longer will the unions sit down with the politicians who are indebted to them for their campaign contributions and figure out how to load more costs onto taxpayers. Wages will remain subject to collective bargaining, but will not only be cut but henceforth any raises in excess of the rate of inflation will be put to a voter (read, taxpayer) referendum. Benefits, beloved of politicians because the bills become due only long after they have departed the scene, will not be subject to such bargaining.

The glimmer of light emitted by developments in the states is accompanied by one on the federal level. It is now obvious to even the most obtuse politician that America cannot continue on the path to Greece. Annual interest on the $14 trillion federal debt is already running at more than $200 billion, which is just about as much as the government spends on the Medicaid program that provides health care for the poor. If present trends continue, in ten years America will be paying its creditors $928 billion annually, a large part of that going to China and other foreigners. By 2080 one dollar out of every ten of the nation’s output would go to pay interest on the debt. Now, 2080 is far away, but money markets don’t wait for a cataclysm. If nothing is done in the next few years interest rates will begin rising on US sovereign debt. That would require more borrowing merely to pay interest charges. The result will be a federal budget that would make Bernie Madoff proud.

This problem seems to have focused the minds of some key politicians. Recall that Democrat Erskine Bowles and Republican Alan Simpson, co-chairs of President Obama’s deficit reduction commission, came up with a tax-raising, spending-cut package to get the deficit under control. Despite the fact that a majority of the commission signed onto the report, congress ignored it, and the President damned it with faint praise. But Bowles and Simpson persisted, and key lawmakers from both parties are signing on to their compromise. Six senators, inevitably The Gang of Six, have crafted a proposal to cut $4 trillion off the projected deficit over the next decade, and say they already have the support of 31 senators. That’s four times the savings proposed by the President, who is watching from the sidelines, presumably waiting for the latest polling data.

It’s no surprise that voters are more enthusiastic about raising taxes on the wealthy -- ending their Bush tax cuts, means-testing social security and Medicare benefits -- than about giving up their own entitlements. Still, half of voters favor raising the retirement age to 69 by 2075, and two-thirds favor a five-year freeze in domestic spending.

Let’s hope Churchill was right that Americans do the right thing after exhausting all other possibilities, because we have just about exhausted our ability to borrow on reasonable terms. Pimco, the world’s largest bond fund ($237 billion), believes that is the case. It has sold all of its US Treasury securities in anticipation of a fall in bond prices when the Fed puts QE2 into dry dock and ends its $100 billion monthly bond purchase program in June (bond prices move inversely from interest rates).

The better news on the debt front is that America’s families have cut their debt burden to the lowest level in seven years. Never mind that a bit more than half of the $208.8 billion drop in household debt came as a result of defaults on credit card and mortgage debt. Debt is down, net worth is up, and household balance sheets are stronger. Which, along with recent better news on the job front, might explain why retail sales in February rose by 1%, the eighth consecutive monthly increase, and were 8.9% above year-earlier levels.

Unless, of course, gasoline prices continue to rise, the equivalent of a huge tax, and sop up consumer spending power. Unless, of course, trouble in the eurozone infects the markets for all sovereign debt, putting upward pressure on interest rates. Unless, of course, the Keynesians are right, and austerity programs in the eurozone, Britain, and in America’s states and cities abort the recovery. Unless, of course, the compromise being mooted by The Gang of Six fails to gain traction, and -- to borrow from singer Tennessee Ernie Ford -- we grow another day older and deeper in debt -- $4-$5 billion every day.

Best to ignore the unlesses and hope Churchill was right.

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