Expensive Houses for Low-Income Families?

Filed Under (Environmental Policy, U.S. Fiscal Policy) by Don Fullerton on Feb 3, 2012

A recent NY Times has an article about SOL Austin, an acronym for Solutions Oriented Living.  This housing development is interesting for at least two reasons.  First, the designs and materials are intended to be “sustainable” (whatever that means), but also “net zero” (which I gather means that it will produce all the energy consumed).  The houses have solar panels and geothermal wells.

Second, however, it is interesting because it is in east Austin, the low-income part of town.  In fact, a 1928 “city plan” decided that east Austin would be “designated African-American”.  The 1962 construction of Interstate I-35 further divided east from west.  The relatively flat east side of Austin had all the industrial blight, pollution, and low-income housing.  In fact, it was quite cheap!  The hilly west side of Austin had the fancy new upscale houses with views of the Hill Country.

One would think that the intellectual-academic, left-leaning, high-income households of west Austin might be more interested in sustainable housing that could go “off the grid.”  Why then are these developers building super-energy-efficient houses in east Austin?

Well, for one thing, the 2010 census showed a 40% increase in east Austin’s white population and a drop in minority population.  In correlated fashion, land prices in east Austin have risen considerably.  In fact, a different article in the NY Times tells about a study based on the 2010 census finding that all residential segregation in U.S. cities has fallen significantly.  Cities are more racially integrated than at any time since 1910.  It finds that all-white enclaves “are effectively extinct”.  Black urban ghettos are shrinking. “An influx of immigrants and the gentrification of black neighborhoods contributed to the change, the study said, but suburbanization by blacks was even more instrumental.”

Since I’m visiting here in Austin, Texas, it is easy enough to go see the new development.  As you can see in the snapshot below, the houses have a modern box-like style.  They range from 1,000 to 1,800 square feet.  That explains the article’s reference to “matchbox” houses.    But the roofs are sloped enough to hold photovoltaic arrays and to channel rainwater into barrels.  

The developers said they wanted to “examine sustainability on a more holistic level, that would not just look at green buildings, but in our interest in affordability, in the economic and social components of sustainability as well.”  As stated in the NY Times article, the developers “hammered out a plan with … the nonprofit Guadalupe Neighborhood Development Corporation, to sell 16 of the 40 homes to the organization.  The group, in turn, sold eight of the houses at a subsidized rate to low-income buyers (who typically were able to buy a house valued at more than $200,000 for half price).”  Each of those 16 subsidized homes has a photovoltaic array on the roof, though not necessarily large enough to produce all of the needed power for the house.

Of the “market-rate” houses, all sold at prices in the low $200,000’s.  Eleven have been sold, and thirteen have yet to be built.  Because of the financial and housing crisis, however, the “holistic” development ideas have not worked perfectly.  Homeowners got rebates from Austin Energy and tax credits from the federal government. So far, however, only four market-rate house owners paid the extra $24,000 for photovoltaic arrays substantial enough to fully power a house.  Only one is also heated and cooled by a geothermal well.  But they all have thermally efficient windows, foam insulation, and Energy Star appliances.

So far, only one couple paid to install the geothermal well and the extra energy monitoring system:  a systems engineer and a microbiologist.  So, “sustainability” in low-income neighborhoods might still require some gentrification.

Nothing Good about Cheaters

Filed Under (U.S. Fiscal Policy) by Don Fullerton on Jan 13, 2012

Taxes are bad, on that we can agree.  So not paying taxes must be good, right? 

Wrong.  A reform to cut taxes for everybody might be a good idea (or not).  But having millions of individuals cheat to reduce their own taxes is never a good idea.  It is a tax cut without reason, without fairness, and without the incentive or cost advantages of a cut in tax rates.

Just to focus on that last point, note that some people have to go to a lot of trouble to re-arrange their affairs to be able to cheat on their taxes, and they have to take on extra risk to do so – the risk of getting caught.  So their net “advantage” from cheating is much less than their dollars of tax savings. That cost of tax cheating does not apply to the case where Congress and the President agree to cut taxes for everybody, because then all those dollars stay in the private sector instead of being wasted.

The IRS has just released new numbers on the “tax gap” in the United States, the amount of U.S. tax liability that goes unpaid.  From 2001 to 2006, as you can see in the table below, the tax gap increased from $290 billion to $385 billion.  Just to reverse the increase in unpaid tax would gain the much-discussed and much-needed $100 billion revenue per year, or $1 trillion over ten years.  The percent of tax voluntarily paid has fallen from 83.7% to 83.1%.  After expected small amounts are recovered by our meager enforcement efforts, the “overall net compliance rate” has fallen from 86.3% to 85.5%. 

The average taxpayer cheats on about 15% of their tax liability, but almost nobody is “average.”  Rather, the huge majority of Americans earn wages and salaries that are reported by their employers to the IRS, on which tax withholding is paid by the employer to the IRS.  Workers cannot cheat on that income, and so the huge majority of Americans pay all of their tax due.  The cheating is highly concentrated among other Americans, especially those who are self-employed and get paid in cash that is never even reported to the IRS.   In fact, the IRS estimates that noncompliance or misreporting is 1% of  wages and salaries, but a huge 56% of proprietor income!

This issue is covered nicely in the blog by Bruce Bartlett, who also points out that “The number of IRS employees fell to 84,711 in 2010 from 116,673 in 1992 despite an increase in the population of the United States of 53 million over that period.” Fewer auditors chase large numbers of tax cheaters, so of course compliance falls.  When I worked at the U.S. Treasury Department, in the Office of Tax Analysis, I used to hear about revenue/cost ratios of ten to one!  That is, one additional dollar spent on enforcement could generate an additional ten dollars of revenue.  And the problem has only gotten worse since then.

We don’t want a huge number of IRS enforcement agents to strike fear into the hearts of average law-abiding Americans who do pay their taxes on time.  But a lot of us might feel better about our country if a few more IRS agents struck some fear into the hearts of those who are supposed to pay their taxes and don’t!  And those cheaters don’t have to bear extra cost of getting caught, if they just paid taxes instead of cheating.

 

Social Security Funding

Filed Under (Finance, U.S. Fiscal Policy) by Don Fullerton on Dec 30, 2011

Here is an interesting article, in the Washington Post, entitled “Payroll tax cut raises worries about Social Security’s future funding“.  It points out that the recent payroll tax cuts are intended for short term stimulus, but they muck with the way that social security benefits are funded.  Instead of coming frm payroll taxes, that money now will haveto come from general revenue. 

As it points out: “For the first time in the program’s history, tens of billions of dollars from the government’s general pool of revenue are being funneled to the Social Security trust fund to make up for the revenue lost to the tax cut. Roughly $110 billion will be automatically shifted from the Treasury to the trust fund to cover this year’s cut, according to the Social Security Board of Trustees. An additional $19 billion, it is estimated, will be necessary to pay for the two-month extension.” 

As it goes on to say, “The payroll tax cut changes that. Instead being a protected program with its own stream of funding, Social Security, by taking money from general revenue, becomes more akin to other government initiatives such as Pentagon spending or clean-air regulation — programs that rely on income taxes and political jockeying for support.”

Energy Independence?

Filed Under (Environmental Policy, U.S. Fiscal Policy) by Don Fullerton on Dec 19, 2011

With crude oil prices hovering near $100 per barrel, the issue of energy independence is sure to be a frequent topic in the upcoming presidential election. Don Fullerton, a finance professor and energy policy expert at Illinois, spoke with News Bureau Business and Law editor Phil Ciciora about whether the goal of energy independence is a viable one or just another pipe dream.

Is energy independence a realistic goal for the U.S.?

It seems like it’s mostly senators from oil-rich states who want to talk about oil and energy independence, because they want subsidies for the oil industry. So it’s really only for political reasons that energy independence has been hyped as an important or worthwhile goal.

If we really are concerned about reducing our dependence on foreign oil, then the implication is to tax oil, not to subsidize it! A tax on oil would discourage its use, which would have three good effects. First, it would discourage imports. Second, it would reduce drilling in the U.S., and thus help keep more oil in the ground for future contingencies. Third, it would encourage the development of other energy technologies such as biofuel, solar power, wind power and better battery technology. Those other technologies are the only realistic route to true energy independence.

Plus, there’s absolutely no way we’re going to achieve energy independence through oil because we’ve basically used up most of our oil. For all practical purposes, we don’t have much more oil. That’s why we either have to rely on other countries or switch to new technologies.

An attempt to achieve energy independence would also be a bad move for energy security, because it just says, “Let’s drain America first.” If so, we’ll be in an even worse situation later. Whatever we still have in reserve should be left there for its option value. If we did have another serious war where we really needed oil that we couldn’t import, those reserves might be good to have.

Do the new sources of domestic energy in the Dakotas and the Gulf of Mexico hold much promise for solving our energy problems?

Sure, there are some new sources of energy in the U.S. – really, natural gas and shale oil – but however much we have won’t bring us any closer to energy independence. Even if we do discover a few new fields of crude oil, it’s not going to make much of a difference.

As the price of crude rises even higher, the oil companies can go back to old and existing fields and drill a little deeper. That extraction is expensive, but it’s worthwhile if the price of oil is back near $100 per barrel. It wasn’t worthwhile earlier because the extra drilling cost was more than the oil was worth. But now that the price of crude is high enough, they can make money if they drill deeper on these old wells.

What happens to energy prices if the European economy continues to sputter?

If Europe experienced, say, a 10- to 20-percent drop in gross national product, then you might actually notice a dip in the price of oil in the U.S. But economic growth in the U.S. would also slow. So just because the price of oil might fall a little bit doesn’t make their troubles good for us, since we would be affected, too. We certainly don’t want to hope for a recession in Europe to make oil cheaper. First of all, the price wouldn’t fall that much. Second, there would be a whole host of negative implications for the U.S.

What (if anything) will bring the price of oil down again?

The only ways to get a significant change in the price of oil would be through a major recession, a major technological breakthrough, or huge policy changes. If the whole world got together and agreed to a new, stringent version of the Kyoto Protocol to reduce carbon emissions, that would have an impact. If the whole world were to reduce the burning of fossil fuels by 20 percent – that would also have an effect. But we don’t want another recession, nor will all nations agree to such a treaty.

The WSJ is “Wrong”: The U.S. is NOT a Net Exporter of Petroleum

Filed Under (Environmental Policy, Finance, Other Topics, U.S. Fiscal Policy) by Don Fullerton on Dec 2, 2011

Just a couple days ago, the Wall Street Journal reported that “U.S. exports of gasoline, diesel and other oil-based fuels are soaring, putting the nation on track to be a net exporter of petroleum products in 2011 for the first time in 62 years.”  Taken literally, this fact is strictly “correct”, but it is misleading.  It is therefore very poor reporting.  The authors either don’t understand the words they use, or they are deliberately trying to mislead readers.

The reason it is misleading is because the article implies the U.S. is headed toward “energy independence”, and that implication is wrong.  It goes on to say:  “As recently as 2005, the U.S. imported nearly 900 million barrels more of petroleum products than it exported.  Since then the deficit has been steadily shrinking until finally disappearing last fall, and analysts say the country will not lose its ‘net exporter’ tag anytime soon.”  That statement and several expert quotes in the article clearly imply the U.S. is headed toward “energy independence”.   

Strictly speaking, the WSJ is correct that the U.S. exports more “petroleum products” than it imports, … but “petroleum products” do not include crude oil!!  “Petroleum products” include only refined products like gasoline, diesel fuel, or jet fuel.  The implication is only that the U.S. has a large refinery capacity!

The U.S. is a huge net importer of crude oil, and a huge net importer of all “crude oil and petroleum products” taken together, as you can see from the chart  below (provided by the U.S. Energy Information Administration).   In other words, we import boatloads of crude oil, we refine it, and then we export slightly more refined petroleum products than we import of refined petroleum products.  Big deal.

If the WSJ reporters knew what they were talking about, or if they were not trying to mislead readers, then they should have just stated that the U.S. is a huge net importer of all “crude oil and petroleum products” taken together.  They didn’t.  That is why I conclude they do not understand the point, or that they are trying to misrepresent it. Neither conclusion is good for the Wall Street Journal.

They are simply wrong when they say:  “The reversal raises the prospect of the U.S. becoming a major provider of various types of energy to the rest of the world, a status that was once virtually unthinkable.”  Just look at the figure!

 

Nothing is Wrong with a “Do-Nothing” Congress!

Filed Under (Finance, Retirement Policy, U.S. Fiscal Policy) by Don Fullerton on Nov 18, 2011

The Budget Control Act of 2011 established a joint congressional committee (the “Super Committee”) and charged it with the responsibility of reducing the deficit by $1.2 trillion over 10 years.  If the Super Committee fails to reach an agreement, automatic cuts of $1.2 trillion over 10 years are triggered, starting in January 2013.  These are said to be “across the board”, but they are not.   They would apply $600 billion to Defense, and $600 to other spending.  Entitlements are exempt, including the Supplemental Nutrition Assistance Program (SNAP, formerly food stamps) and refundable tax credits such as the Earned Income Tax Credit and child tax credit.  These entitlements are exempt from the cuts because anyone who qualifies can participate (that spending is determined by participation, not by Congress).

In addition, the Bush-era tax cuts are set to expire at the end of 2012, so doing nothing means that tax rates would jump back to pre-2001 levels.  That combination might be the best thing yet for our huge budget deficit.

The Federal government’s annual deficit has been more than $1 trillion since 2009.  Continuation of that excess spending might create a debt crisis similar than the one now in Europe.

The Center on Budget and Policy Priorities estimates that the trigger would cut $54.7 billion annually in both defense and non-defense spending from 2013 through 2021.  Meanwhile, U.S. defense spending is around $700 billion per year, with cuts of about $35 billion per year already enacted, so the automatic trigger would reduce defense spending from about $665 billion to about $610 billion.  Some may view that 10% cut as draconian, but the simple fact is that the U.S. needs to wind down its spending on two wars.  Congress and voters are fooling themselves if they think the U.S. can continue to spend the same level on defense, not raise taxes, and make any major dent in the huge annual deficit.

The same point can be made for automatic cuts in Social Security, which in its current form is unsustainable.  Since it was enacted in 1935, life expectancy has increased dramatically, which means more payouts than anticipated.  Birth rates have declined, which means fewer workers and less payroll tax than anticipated.  The system will run out of money in 2037.  Congress either needs to raise taxes or cut spending.  But they won’t do either!  The only solution might be the automatic course, without action by Congress!

For further reading, see “Why doing nothing yields $7.1 trillion in deficit cuts”.

To Reduce Energy Use, Buy an 8-cylinder 1980 Bonneville!

Filed Under (Environmental Policy, U.S. Fiscal Policy) by Don Fullerton on Nov 4, 2011

My green choice is to get about 12 miles to the gallon.  Here is why it’s so green.

Some people think it’s obvious that I ought to buy a hybrid or other fuel-efficient vehicle.  But that’s just wrong.  Certainly some drivers should have a hybrid car to reduce emissions and energy use, namely somebody like my brother who has an hour commute each day, driving 20,000 or more miles per year.   But not everybody.   Take for example a person like me who lives near work, rides a bicycle, and doesn’t like spending hours in the car – even for a road trip to the Grand Canyon or Yosemite.  I use the car once a week for the grocery store, or a restaurant, driving less than 5,000 miles per year.

Let’s suppose a hybrid gets 50 miles per gallon, so my 5,000 miles per year would cost about 100 gallons ($300 per year).   The standard non-hybrid gets 25 miles per gallon, which would cost twice as much ($600 per year).  I’d save $300 per year in the hybrid.  But that doesn’t mean I should buy a hybrid.  A new hybrid like a Toyota Prius costs about $6,000 extra to get that great fuel-efficiency (about $26,000 instead of $20,000).    In other words, it would take twenty years for my $300-per-year savings to make up for the extra $6,000.  It’s not worthwhile for me.  If my brother drives four times as much, however, he could break even in just five years.

So far, that means I should not buy a hybrid.  Does that mean I buy the normal new car with 25 mpg for $20,000?  No!  I should buy a beaten old 8-cylinder Bonneville, which looks like a tank and gets only half the mileage!  That Bonneville may be headed for the junk heap, so it’s certainly cheaper, even if I have to pay more for gas.

But even ignoring the price of the Bonneville, I claim that the fuel-use of the Bonneville is less than the fuel use of the normal new car!  Why?  Consider the emissions from fuel used in production.  The fuel used to make the Bonneville back in 1980 is a “sunk cost”, a done deal that does not change whether that car gets junked now or later.  In other words, keeping that Bonneville off the junk heap requires no extra fuel and emissions to produce it.  But buying a new car does involve more fuel and emissions just to produce it.  Think about all the emissions from the steel mill, the tire factory, the glass furnace, and the electric generating plant that provides power for the tools and machinery to make the new car.

In other words, I can reduce total fuel use and emissions much more if I purchase the 1980 Bonneville and drive it 5,000 miles per year, than if I buy a new car with twice the mpg.  Now all I need is a bumper sticker for my 1980 Bonneville to say how green I really am!

 

A Look at Herman Cain’s 999 Tax Plan

Filed Under (Finance, Other Topics, U.S. Fiscal Policy) by Don Fullerton on Oct 21, 2011

The point of this blog is to inject some substance into discussion of Presidential candidates. To see the problem, consider what I wrote on my facebook page: “In an airport for an hour yesterday, we could not avoid hearing CNN talk about the upcoming presidential debate. For the entire hour, we heard only comments like: Perry needs to come out swinging; or, ‘Is Cain a viable candidate?’; or, Bachmann has really fallen in the polls; or, ‘This now boils down to a two-man race’, followed immediately by the wisdom that ‘Yes, but we don’t know yet who the two men are.’  What inanity! It is JUST a horse race! Not a single comment during the entire hour had anything whatever to do with any substantial issue of policy. Is this all we get?”

There must be more to consider, in this important decision.  So, I started by looking at Herman Cain’s 999 tax reform plan.  See more at his website, with the key bullets in the insert below. 

Bear in mind that I’m a former Deputy Assistant Secretary of the U.S. Treasury (1985-87), so I worked hard on President Reagan’s successful “Tax Reform Act of 1986” to lower the rates and broaden the base.  Since 1986, however, Congress has managed to reintroduce plenty of new deductions and tax breaks, while raising the rate.  Maybe it’s time to do something again!

Cain’s proposal has a lot of similarities to the 1986 reform, if perhaps more extreme.  It is meant to be revenue neutral, raising the same total tax.  It would eliminate virtually ALL deductions, like mortgage interest paid, and it would cut rates drastically.  It would eliminate the income tax as we know it, and introduce a national sales tax (or value added tax).   What about the accuracy of Cain’s claims below?  By reducing rates drastically, this proposal probably WOULD reduce the distorting effects of taxation by reducing the interference of taxes in the productive activities of workers and business – what economists call “deadweight loss”.  For similar reasons, it probably would provide greater incentive for work and investment, and therefore probably provide some stimulus to growth.  That’s all for the good.

However, ANY tax reform plan of ANY politician EVER, no matter what motivation, will always have two effects to watch out for.  First, any tax reform will always raise taxes on some taxpayers and reduce taxes for others.  It will have distributional effects worth analyzing.  Second, it will therefore create disruptions and reallocations.  Activities to pay additional tax may shrink – laying off workers who may remain unemployed for some time until they can re-train and find work in other activities that now face lower tax rates and hope to expand.  That is, for only one example, the Cain plan might hurt homeowners and homeownership by eliminating the mortgage interest deduction.  With such pervasive changes, however, the disruptions will be widespread and costly in themselves.

Finally, for now, note the point about distributional effects.  Nothing in any of Cain’s bullets says anything whatever about distributional effects.   I’m afraid this point is the Achilles heel of Cain’s 999 plan.  According to the non-partisan Tax Policy Center, Cain’s plan will greatly reduce taxes of those with the highest incomes and raise total taxes on those with low incomes.  It is ‘regressive’.  And you don’t even need to read the TPC analysis to know this is true.  Cain’s plan cuts the top personal rate from 35% to 9%.  There is no amount of tax-base broadening for those high income taxpayers that can get back the same tax revenue from them.  And currently those with the least income pay no Federal tax at all.   Under Cain’s plan, everybody will pay the 9% sales tax, on everything they buy.  Moreover, if those low-income individuals are working, they will probably bear some additional burden of the 9% business tax that applies to all profits AND wages paid: it applies to all sales revenue minus purchases and capital investment, not subtracting wages paid to workers.

I’d personally favor another revenue-neutral reform like the TRA of 1986, one that lowers the rates and broadens the base.  Such a reform would undoubtedly cause some disruptions and adjustments costs.  And it would help some while hurting others.  But perhaps it could be designed in a way that also tries to be distributionally neutral, not adding tax burdens on those least fortunate while cutting taxes on those already doing well.

What is the meaning of a budget number?

Filed Under (Environmental Policy, Retirement Policy, U.S. Fiscal Policy) by Don Fullerton on Oct 7, 2011

With all the argument in Washington about how to balance the budget, a reminder is worthwhile that none of these numbers make any sense at all!  What “should” be the meaning of the government budget?  And, does any number provided by anybody actually have that meaning?

In general, a budget deficit is supposed to mean that one’s current consumption exceeds income, which would indicate a decrease in wealth.  Indeed, that’s the problem with a deficit – drawing down our wealth (which could even turn from positive to negative!).  The U.S. Federal budget numbers fail to provide such a meaning, for several reasons.

First, the Federal budget includes ALL spending, not just consumption.  Some of that spending is actually investment, such as new spending on buildings, bridges, roads, airplanes, and any long-lived military equipment.  The budget does not show the breakdown between what we really use up this year, and what spending is really investing in the future.

Second, Social Security is “off-budget”, unless you are looking at a unified budget.  Okay, I said that in a way that is intentionally confusing!  The basic problem here is that social security is SUPPOSED to run a surplus, so that we can set aside some funds from those now working to pay them when they are retired.  If it does not run a surplus to save for the retirement of the baby boom generation, then we’ll be in big trouble when the baby boom generation retires!  The current social security surplus is too small for that.  Then, however, the big problem is that the unified budget mixes the social security budget with the rest of federal spending.  So when you see a deficit in that account, it’s really worse than it looks, because it includes the small social security SURPLUS that’s already not a big enough surplus for social security to break even!

Third, the U.S. Federal Budget is confusing about what is a “Tax Expenditure” and what is government “Spending”.  A tax expenditure is really ‘spending via tax break’, as when a taxpayer gets a special credit or deduction for doing some particular activity.  The Congress could instead have accomplished the exact same thing by an ACTUAL spending program, providing subsidy to the same set of eligible individuals for doing the exact same activity.  So it really does not make much sense to say you want to cut spending and not raise taxes, because eliminating one of those tax breaks is really the same as eliminating an equivalent spending program.

Fourth, a Federal “mandate” might require a certain kind of spending by a firm.  To take a simple example, suppose some safety regulation requires construction firms to provide a hard hat to all workers.  That’s really equivalent to a tax on that firm, equal to the amount they have to spend on hard hats, where the revenue of that “tax” is spend by government on the provision of hard hats.  But then the problem is that mandates are so pervasive.  Some ‘true’ measure of the size of government would be HUGE, if we counted the dollar cost of all mandates as a “tax”, as if it were in the government budget.

A Global Problem with No Solution

Filed Under (Environmental Policy, Finance, U.S. Fiscal Policy) by Don Fullerton on Sep 25, 2011

If one town’s water pollution flows into another town, the two towns can negotiate a solution with no need for the state to intervene.  But if all towns are polluting all neighboring towns, the lines of communication are too complex to negotiate – requiring the state to pass a law to solve the problem.

If one state’s water pollution flows into another state, the two states can negotiate a solution with no need for Federal intervention.  But if all states are polluting all neighboring states, the lines of communication are too complex to negotiate – and it takes a national government to solve the problem.

In other words, those problems have solutions.  If one nation’s water pollution flows into another nation, then (potentially, at least) the two nations can negotiate a solution with no need for a global government to intervene.  But if all nations are polluting all neighboring nations, the lines of communication are too complex to negotiate – and no global government exists to solve the problem.

I’m currently pessimistic about two of the worst problems the world has faced: global climate change, and global financial contagion.  Both are “externalities” in the classic sense.  Each nation’s greenhouse gas emissions pollute the whole world, and the only really effective solution is a worldwide global agreement to reduce emissions.  In fact, we don’t really “need” all nations to reduce emissions; all we really need is an agreement among all nations saying that if SOME countries reduce emissions then the other countries won’t increase emissions to steal their business.  But the lines of communication are too complex to negotiate – and no global government exists to solve the problem.

Environmental policy is my usual bailiwick.  At the moment, however, I’m even more worried about global financial contagion.  It seems that one small country can have lax financial regulations that allow banks or investment companies to take on too much risk.  Or a small country can overspend, taking on too much debt.  In the olden days, that country could go down in flames, with no big problem for the rest of the world.  With tremendously increased globalization, however, all financial markets are highly integrated.  One country’s borrowing may come from any or all other countries of the world, and one nation’s problem become the world’s problem.  If banks in other countries loan to that small country, then a financial crisis in that small country may create fear about the financial well-being of the banks that lent to them, causing a run on the banks in all those other countries.  Moreover, globalization means much more trade in commodities.  If one small country faces severe financial difficulties and must cut back all spending, that reduces aggregate demand worldwide, and can spread a recession worldwide.

A strong global government could rein in the poorly managed countries by requiring larger capital requirements, careful financial scrutiny, and only tax-financed spending.  But we don’t have any such global government.  As a result, even a small country like Greece can over-spend for years without oversight.  The situation in Greece may be made worse when banks in other countries raise the rate at which Greece can turn over its debt and borrow again, making the financial situation in Greece even worse.

The problem may be caused by Greece or not.  Regardless of “fault”, if Greece any small country were to go into default in years past, then the cost would be primarily on that small country.  Now Greece could go bankrupt and impose horrible costs on the entire World?!?