Is a financial trap facing the U.S.?

Trend: Continuous overspending by consumers and government in the US will have ramifications that could be unpleasant for retiring baby boomers and their tax-paying offspring.

Jim Jubak at MSN Money has some disturbing predictions for the US regarding the consequences of consumer and government overspending. Let's hope he's wrong.

Link: The financial trap facing the U.S., China - MSN Money

In July, the United States may have reached a tipping point, one of those moments when all the snow that has been building up in the mountains suddenly becomes an avalanche. We've been spending more than we take in with both hands for a while now. But only recently has paying the interest on all that debt really started to cost us very much money.

The United States has piled up a string of monthly trade-deficit records recently. The July 2006 deficit of $68.04 billion, for example, erased the October 2005 deficit of $66.6 billion. For all of 2005, the United States spent $717 billion more on goods and services than it took in -- also a record. So far, 2006 is on a pace to handily surpass that deficit: The January-July 2006 deficit hit $453 billion, way ahead of the $398 billion deficit in the corresponding period of 2005.

At the same time, the U.S. government has been spending more than it took in. Since 2001, the federal government, certainly not the only layer of government practicing deficit financing, has borrowed $1.3 trillion to pay for tax breaks, new Medicare drug benefits and the war in Iraq.

Foreigners have picked up the tab for most of those twin deficits. Foreign investors have purchased U.S. government bonds that the federal government has used to finance its spend-now, pay-later policies. The dollars we sent overseas to pay for everything from oil to electronics to textiles to toys have been recycled by foreign investors into U.S. government bonds, corporate bonds and mortgage-backed securities (a form of debt backed by the mortgages on U.S. homes).

Long-term consequences

Why should you care? Because that income flowing overseas is, in effect, a tax on your future. There are only a handful of options available to pay that interest-rate tab:

• Taxes have to go up.

• Inflation has to climb, lowering the purchasing power of the borrowed dollars and the real cost of interest payments.

• Interest rates have to climb to attract enough money back to the United States to finance economic growth.

• The dollar has to fall, so we can pay our debts more cheaply.

• We have to sell more assets to overseas investors.

• U.S. workers have to take more wage cuts.

• U.S. consumers have to cut back on spending.

In all likelihood, paying the bill will involve some combination of all of the above. In any case, all those future interest payments represent dollars that we won't have to spend on meeting the challenge of an aging population. Think the younger generations resent the baby boomers now? Imagine how they'll feel if they have to pay more to take care of the boomers and suffer a falling standard of living, too.