The United States Is Living On Borrowed Time

I last quoted former Reagan budget director David Stockman on January 24 in The State Of The Union. At that time he was interviewed by Bill Moyers, but now he's back in the public eye and he's got plenty more to say. I could end this post prematurely by quoting this exchange at the end of his interview with the Associated Press (AP).

AP — Are you hopeful?

Stockman —  No

Me neither! But the fun part is letting Stockman explain why he's not hopeful.

AP — Why are you so down on the U.S. economy?

Stockman — It's become super-saturated with debt.

Typically the private and public sectors would borrow $1.50 or $1.60 each year for every $1 of GDP growth. That was the golden constant. It had been at that ratio for 100 years save for some minor squiggles during the bottom of the Depression. By the time we got to the mid-'90s, we were borrowing $3 for every $1 of GDP growth. And by the time we got to the peak in 2006 or 2007, we were actually taking on $6 of new debt to grind out $1 of new GDP.

People were taking $25,000, $50,000 out of their home for the fourth refinancing. That's what was keeping the economy going, creating jobs in restaurants, creating jobs in retail, creating jobs as gardeners, creating jobs as Pilates instructors that were not supportable with organic earnings and income.

It wasn't sustainable. It wasn't real consumption or real income. It was bubble economics.

So even the 1.6% (annual GDP growth in the past decade) is overstating what's really going on in our economy.

AP — How fast can the U.S. economy grow?

Stockman — People would say the standard is 3, 3.5%. I don't even know if we could grow at 1 or 2%. When you have to stop borrowing at these tremendous rates, the rate of GDP expansion stops as well.

AP — But the unemployment rate is falling and companies in the Standard & Poor's 500 are making more money than ever.

Stockman — That's very short-term. Look at the data that really counts. The 131.7 million (jobs in November) was first achieved in February 2000. That number has gone nowhere for 12 years.

Another measure is the rate of investment in new plant and equipment. There is no sustained net investment in our economy. The rate of growth since 2000 (in what the Commerce Department calls non-residential fixed investment) has been 0.8% — hardly measurable.

(Non-residential fixed investment is the money put into office buildings, factories, software and other equipment.)

We're stalled, stuck.

Stockman — What will 10-year Treasurys yield in a year or five years?

A: I have no guess, but I do know where it is now (a yield of about 2%) is totally artificial. It's the result of massive purchases by not only the Fed but all of the other central banks of the world.

AP — What's wrong with that?

Stockman — It doesn't come out of savings. It's made up money. It's printing press money. When the Fed buys $5 billion worth of bonds this morning, which it's doing periodically, it simply deposits $5 billion in the bank accounts of the eight dealers they buy the bonds from.

AP — And what are the consequences of that?

A: The consequences are horrendous. If you could make the world rich by having all the central banks print unlimited money, then we have been making a mistake for the last several thousand years of human history.

AP — How does it end?

Stockman — At some point confidence is lost, and people don't want to own the (Treasury) paper. I mean why in the world, when the inflation rate has been 2.5% for the last 15 years, would you want to own a five-year note today at 80 basis points (0.8%)?

If the central banks ever stop buying, or actually begin to reduce their totally bloated, abnormal, freakishly large balance sheets, all of these speculators are going to sell their bonds in a heartbeat

Stockman is saying in effect that here in the United States we're living on borrowed time. And we borrowed that time by (literally) borrowing and printing huge amounts of money. If the Fed unwinds its balance sheet and raises interest rates, no one will want to hold Treasuries at the current, ridiculously low interest rates. And if the Federal Government can't borrow at those ridiculously low rates, they will be forced to cut spending. And if they make sizeable cuts in spending, our phony economy will all but collapse.

Is this narrative correct? To answer that question, one might ask why it is that the Federal Reserve keeps extending and pretending. We are always given the standard answer.

Testifying before the Senate Banking Committee, Bernanke said his goal was to eventually shrink the size of the Fed’s holdings and shift their composition so the central bank would only hold Treasurys. As part of its efforts to keep interest rates low and spur economic growth, the Fed has more than doubled the size of its balance sheet since the financial crisis after embarking on two rounds of bond-buying and purchasing mortgage-backed securities in an effort to support the weak housing market.

The Fed’s asset holdings were $2.935 trillion in the week ended Feb. 22.

"Eventually" keeps getting further and further away. Now we are told that short-term interest rates will be maintained through 2014. Presumably the bloat in the Fed's balance sheet will be maintained for that long as well.

But what if the real reasons for maintaining these bizarre financial conditions have to do with justified fears associated with returning to more "normal" conditions? That's really the important question in this context.

The question then becomes whether we will ever return to more "normal" conditions. Or maybe this is it for the indefinite, far-flung future. Maybe this is as good as it gets, which isn't so good for savers and those on fixed incomes. Devaluing the dollar is supposed to boost exports, but it also raises the cost of imports (including oil). We still import (in dollar terms) far more than we export. In human history, all currencies eventually lose their purchasing power. They tend to zero. In the Age of Central Banking we are merely hastening the dollar's inevitable demise. Either way it goes, we're still living on borrowed time.

Comments

[Don Levit]

I am in total agreement with this article.
It is very difficult to live in the face of such harsh consequences.
I am very concerned about my 5 kids.
One of them is married. Do they have the courage to start their own family?
Any one who disagrees with this assessment, and is not spending some time to help reverse our circumstances, is the enemy.
That person could be your sister, brother, mother or father, even people living in your same household.
Unfortunately, that person is also myself.
Don Levit