America Digs Deeper Into Debt

It's amazing but true. Even after all we've been through and all we have supposedly learned about the danger of being over leveraged and borrowing more than you can pay back, we are still piling on debt.

I know that's not what you hear in the media. Wall Street and Washington are busy telling you that we are continuing to pay down debt and the health of the country's balance sheet is improving.

The truth is that consumers and businesses are paying down debt but their budgetary prudence is more than being offset by the profligacy of the government.

We can see from the Flow of Funds quarterly report put out by the Federal Reserve that households are reducing their debt at a 1.7% annual rate and business at a 1.8% annual rate. However, while the private sector gets their finances in order the Federal government is increasing its debt at a 28.2% annual rate!

The net effect is that the annual rate of increase in our nation's debt is currently 4.9%, which is even faster than the rate of increase of 4.1% experienced in Q1 2009. Yep, we are increasing our debt at a faster pace. So all the talk about the economy healing, as consumers save and businesses pay down debt is false. Since the government's debt is our debt, there has been no deleveraging in the economy and there has been no repair made to the country's balance sheet. All we have done is trade an overleveraged consumer and financial institution's balance sheet for a now vastly overleveraged public balance sheet.

It is most likely to be the case that all we have accomplished is to hold in abeyance the eventual pain involved with deleveraging. That's because the government has the ability to leverage to a greater extent than the private sector and can maintain that leverage for a greater period of time (don't forget to thank the Chinese). However, the government's debt is our debt and eventually must result in being reconciled through higher taxes and/or inflation.

The only way we can save as a country is to have a current account surplus or by accumulating capital goods that are used to create wealth and grow the economy. We cannot save as a country by borrowing from foreign creditors to purchase more cars and houses. That's not saving. All that serves is to dig the nation deeper into its debt hole and place us further at the mercy of creditor nations who may not have the best interest of America first in mind.

And all this borrowing and spending is taking its toll on our currency. If the Fed and Treasury allow the dollar to continue its secular swoon, we may face a currency crisis--especially if the decline becomes unruly. The Chinese could be forced to sell their Treasuries causing a global panic to flee the dollar, sending already vastly overpriced bond prices plummeting. Now, I understand this would hurt our exporting creditors as well as the domestic economy.

But is it reasonable to believe the Chinese will continue to ruin their environment, work very hard and squander their savings--just to own U.S. debt that is falling in value, held inside a currency that is crashing? If the Chinese are going to go broke anyway they might as well unwind what is left of their savings. Then as soon as possible, build their middle class so they can consume their own production and cease relying on an export driven economy.

We must allow interest rates to rise to stop the fall in the dollar. We must stop going further into debt as a nation. And we must grow the economy as soon and as quickly as possible in order to make sure we can service our debt and the unfunded promises made to ourselves and our children.

But the need to act is being delayed because, for now, the fall in the dollar is boosting all asset classes including stocks and bonds. I can assure you this will not always be the case. Sooner rather than later, a falling dollar will mean that inflation has become intractable and it will not only crush the dollar and bonds but also the economy as well.

The time to get real and behave prudently was yesterday. If we continue to delude ourselves into thinking we are undergoing the healing process and that better days are here to stay, we face the probability that the next crisis will make the previous one look like a picnic.

Michael Pento is the Chief Economist for Delta Global Advisors and a contributor to greenfaucet.com

Comments

[snesich]

"We can see from the Flow of Funds quarterly report put out by the Federal Reserve that households are reducing their debt at a 1.7% annual rate and business at a 1.8% annual rate."

Yes, indeed. And one of the reasons for that, Michael, is the stimulus, TARP and related federal programs.

Without the stimulus and TARP---yes, the borrowing of money by the feds---many more banks would have failed, thousands more businesses would have closed, and millions more would have lost their jobs. And let's not even think about how much worse it would be for the already miserable state and local governments. You sound as if you think the feds went into greater debt on a lark---as if they had nothing better to do and they just wanted some new kicks.

It's easy to catcall and heckle from the seats; especially when you don't have the responsibility for the outcome of the game.

What would you recommend in a financial crisis? More hackneyed cliches about "letting the free market do its thing"? Perhaps you don't know what it's like to be completely dependent on an income of $40K or $60K a year.

Do you understand what's going on here? Are you really an "economist", or are you really just an trader/sal­esperson/i­nvestment peddler who likes the more academic sounding title of "economist"?

[leduck]

living beyond our means is our second big problem

[Libarchist]

I know that's not what you hear in the media. Wall Street and Washington are busy telling you that we are continuing to pay down debt and the health of the country's balance sheet is
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Don't believe anything the media says.

[themodernleader]

It is a fair assessment that concludes that Bush-Obama policies have bankrupted the American Republic for the wealth and power of a venal, avaracious, corrupting financial elite. Surely, any other conclusion flows from self-serving sources and causes.
The past election shows explicitly that American elections are no longer relevant. The power has become so concentrated that no elected official escapes the scrutiny and criteria of our oligarchy.
Who is to blame for this betrayal of democracy? The Republican Party. President Ronald Reagan. The principle that "Government is the problem." The continuous­-campaign-­of -tax-cuts for the upper crust and debt for the masses. (Today, in our greatest moment of peril this is still the calling card of the Republican Leadership.)
When this country becomes unhinged, when words become everything, the words that call for the dissolution of the Republican Party (and possibly the Democratic Party) will echo throughout the land of chaos and ruin.

[CroatianCritter]

It seems that America can not fall with any grace or class but we are going to crash and burn the world on our way down into the pits of hell which will make us the most disgraced empire in world history. We also need to learn that deflation is not necessarily a bad thing. It is the act of re-balancing value into our economy. Eliminating our economic system that only grows through debt would be a great service as the Federal Reserve has been one of the biggest fraudulent ideas in American history. You are correct in foreseeing another bubble and the pop of it will occur right during Obama's re-election campaign and he will have no one to blame but himself. Hello president Palin!

[leeskyblue]

It seems that the main beneficiaries of our spending into oblivion are the Chinese. They built a middle class and a thriving economy by generously loaning us money to spend on their trinkets. They could virtually dump our debt on the market for a pittance and they still would be way ahead.
Would this bring down our whole bond market? Many people are investing in bonds because they are supposed to be safer than the stock market. Is this a badly mistaken premise?
Who or what is coung to turn the country around? Evidently not Mr. Obama. Who or what is going to "grow the economy?" -- We are addicted to spending. Does anyone have even a theoretical model to pay back our debt? -- One that would withstand even casual scrutiny? What on earth do we invest in if we have a real runaway inflation like Weimar Germany? Such seems to be inevitable.

[Michael Pento - Huffpost Blogger]

The idea that bonds are safe is ridiculous. True, they will pay back your principal...that is pretty much assured. But what will that principal be able to buy and how much of your purchasing power will you lose is the question. The answer is frightening and why fixed income is the most risky asset class i can think of.

[DiogenesOfAlaska]

This problem exists with equity as well. There's no difference. Basically, it's still true that bonds return little at almost no risk and equity returns more at a higher risk.

Yes, there's a risk of inflation and that US government bonds may have to pay a risk premium in interest rates.

Of course high debt is an ugly thing to have sometimes. But it's a question of choosing a lesser evil, not of ignorance of consequences.

[snesich]

It appears that Michael makes a smaller return when his clients buy bonds instead of other items.