Pimco (really big bond manager) managing director Bill Gross says we are at risk of total federal government debt rising to 100% of GDP.
To zero in on the U.S. of A., its annual deficit of nearly $1.5 trillion is 10% of GDP alone, a number never approached since the 1930s Depression. While policymakers, including the President and Treasury Secretary Geithner, assure voters and financial markets alike that such a path is unsustainable and that a return to fiscal conservatism is just around the recovery’s corner, it is hard to comprehend exactly how that more balanced rabbit can be pulled out of Washington’s hat. Private sector deleveraging, reregulation and reduced consumption all argue for a real growth rate in the U.S. that requires a government checkbook for years to come just to keep its head above the 1% required to stabilize unemployment. Five more years of those 10% of GDP deficits will quickly raise America’s debt to GDP level to over 100%, a level that the rating services – and more importantly the markets – recognize as a point of no return. At 100% debt to GDP, the interest on the debt might amount to 5% or 6% of annual output alone, and it quickly compounds as the interest upon interest becomes as heavy as those “sixteen tons” in Tennessee Ernie Ford’s famous song of a West Virginia coal miner. “You load sixteen tons and whattaya get? Another day older and deeper in debt.”
The claim by the Obama Administration for an eventual return to fiscal probity is based on their assumption of a healthy recovery from the recession. They expect this recovery to kick in by the end of 2009 or thereabouts. But suppose the recession goes deeper than the Administration projects (it already has) and suppose recovery is slow for years (and Bill Gross expects a slow recovery - see below). Then what happens to the US federal budget? Spending goes up but revenue doesn't. It is as simple as that. So the deficit and accumulated debt go up even faster.
Gross says America's demographics with an aging population mean the problem is even bigger. I'll see him an aging population problem and raise him a declining skills population due to low skilled immigration. America's workforce in the future will be less capable and a smaller percentage of the total population. That spells declining living standards before we even begin to account for Peak Oil.
The current annual deficit of $1.5 trillion does not even address the “pig in the python,” baby boomer, demographic squeeze on resources that looms straight ahead. Private think tanks such as The Blackstone Group and even studies by government agencies, such as the Congressional Budget Office, promise that Federal spending for Social Security, Medicare, and Medicaid will collectively increase by 6% of GDP over the next 20 years, leading to even larger deficits unless taxes are increased proportionately. Collectively these three programs represent an approximate $40 trillion liability that will have to be paid. If not, you can add that present value figure to the current $10 trillion deficit and reach a 300% of GDP figure – a number that resembles Latin American economies such as Argentina and Brazil over the past century.
Gross says funding the US government debt is going to become difficult. He expects higher interest rates. Now's not the time to buy a long term bond.
So the rather conservative U.S. government debt ratio shown in Table 1 will likely be anything but in less than a decade’s time. The immediate question is who is going to buy all of this debt? Estimates suggest gross Treasury issuance of up to $3 trillion this calendar year and net offerings close to $2 trillion – almost four times last year’s supply. Prior to 2009, it was enough to count on the recycling of the U.S. trade/current account deficit to fund Treasury borrowing requirements. Now, however, with that amount approximating only $500 billion, it is obvious that the Chinese and other surplus nations cannot fund the deficit even if they were fully on board – which they are not.
Consumer spending is not going to ride to the rescue. Consumers are trying to cut back on their debt loads.
Although personal spending increased slightly last month, the saving rate climbed to its highest level in 15 years as consumers tried to build a buffer against the threat of job losses and more economic hardships.
|Share |||By Randall Parker at 2009 June 28 12:57 AM Economics Business Cycle|