4/8/2011 11:34 AM ET|
The nation's $75 trillion problem
A sobering look at federal spending from bond king Bill Gross suggests there are several creative ways to default on our national debt, and we are working toward all of them.
Regular readers know where I stand on the subject of the Federal Reserve's monetary policy. Namely, I believe that the consequences of its quantitative easing programs (the second of which is scheduled to end in June) will be currency debasement and rather high rates of inflation.
Now it seems Pimco's Bill Gross may have joined the same camp, although through different reasoning from mine.
The $75 trillion puzzle
In his Investment Outlook article published earlier this month, headlined "Skunked," he details the staggering size of the financial burden of our unfunded liabilities.
As he points out, these liabilities are not some theoretical estimate of future spending, but rather "the discounted net present value of current spending, should it continue at the projected demographic rate." The sum total is around $75 trillion.
As Gross illustrates, if you use the CPI plus 1% to calculate the interest rate on the debt (which is the rate he used to discount back the government's future liabilities), interest expenses would equal $2.6 trillion, which is more than 10 times higher than the current level of $250 billion.
The bottom line: He feels that the size of unfunded liabilities (a consequence mainly of entitlements) means we are headed to an increased use of the printing press. Gross suggests that, when it comes to the size of our real off-balance debt, as opposed to the size of the $9.1 trillion on-balance-sheet national debt ($11 trillion-$12 trillion counting agency debt), we are "out-Greeking the Greeks."
He sums up by saying that "the only way out of the dilemma, absent very large entitlement cuts, is to default in one (or a combination) of four ways: 1) outright via contractual abrogation -- surely unthinkable; 2) surreptitiously via accelerating and unexpectedly higher inflation -- likely but not significant in its impact; 3) deceptively via a declining dollar -- currently taking place right in front of our noses; and 4) stealthily via policy rates and Treasury yields far below historical levels -- paying savers less on their money and hoping they won't complain."
No one's default but our own
And finally, "Unless entitlements are substantially reformed, I am confident that this country will default on its debt; not in conventional ways, but by picking the pocket of savers via a combination of less observable, yet historically verifiable policies -- inflation, currency devaluation and low to negative real interest rates."
In fact, those are exactly the policies we are pursuing now, which is why we are where we are. Inflation has become the order of the day, and it will only intensify. Exactly when I can't say, but it is worth pointing out that after "QE" began, for about eighteen months, the monetary base did not really percolate. But so far in 2011 it has exploded by 20% or so. I think this is a sign that inflation is likely to begin accelerating.
Of course, inflation is affected by expectations. If people think prices are going to climb, they buy in advance, and that in turn can help push up prices. Thus, psychology plays a large role. However, as I pointed out last February in "No such thing as good inflation," the mindset is changing and the genie may be out of the bottle.
Corporations may think they can keep prices the same and shrink the contents of their packages to make people believe nothing has changed. But when the New York Times runs an article about that practice on its front page, as occurred a couple of weeks ago, you can be pretty sure people get the joke, and behavior patterns will start to change.
So if inflation were a stock, I would certainly buy it aggressively, and I would buy long-dated calls on it, too.
Hear Bernanke see no inflation
And what do the great stewards of the common good at the Fed have to say? While I make an effort to filter out their blathering (because all that matters is what they're going to do, which we already know), I did note what Fed Chairman Ben Bernanke said in his April 4 speech. He reiterated his view that inflation is not going to be a problem: "The increase in inflation will be transitory. . . . Our expectation at this point is that in the medium term, inflation, if anything, will be a bit low. We will monitor inflation and inflation expectations very carefully."
The reason this is important to note is because I think he is telling us what he actually believes, and I can almost guarantee that the Fed will be way behind the curve when it comes to fighting inflation, for three reasons.
First of all, inflation statistics understate inflation. Second, Bernanke has faith in his own ability to stop it virtually at will (as he once stated in a "60 Minutes" interview), though I think he is secretly not even sure inflation can get started. Third, Bernanke has been so certain that he must battle a deflation bogeyman that doesn't exist that he was always bound to be slow in responding to inflationary pressures. What we can expect from the Fed is a whole lot of speeches and chatter about expectations, but action will be tiny, timid and way too late.
It amazes me that people pay so much attention to what any of these Fed heads have to say. We all know where their biases lie, and the fact that markets flinch every time one of them talks tough is almost comical. Recall that it was a little over a year ago when so many were worried about ending QE1 and the withdrawal of liquidity, and what we got instead was QE2.
In any case, it is what it is, and people will focus on what they will.
You won't feel a thing
It is a shame that people like Malcolm Bryan, a former president of the Atlanta Fed, aren't still around. As quoted from a 1957 speech in the latest issue of Grant's Interest Rate Observer, he described the net effect of "premeditated inflation" (his term for a little bit of Fed-induced inflation) on the average money-saving citizen as follows: "Hold still, little fish. All we intend to do is gut you."
This column is a synopsis of Bill Fleckenstein's daily column on his website, FleckensteinCapital.com, which he's been writing on the Internet since 1996. Click here to find Fleckenstein's most recent articles.
VIDEO ON MSN MONEY
We should all insist that all congress and senate members take a 30% decrease in pay
and no salary increases until they balance the budget.
Put a lock on social security and make the government pay back the money they stole.
Anyone receiving government money can't give dominations to any party'
Throw out all lobbyists.
Anyone working of the government cannot go to work for companies receiving government contracts
How much longer do we put up with Bernanke and the Fed? How can they say there's no inflation? I know their "Core" doesn't include energy and food, but why doesn't it? IMO we are not far from becoming a third world poor debtor nation.
Our main faults have been letting this go on. The Fed is for the banks, and Wall Street. The stimulus bailed the banks out and they have cash laying around making more money on Wall Street now. First, the Fed bailed out the banks, they still give them money for basically nothing, and isn't it strange how Wall Street turned on a dime with QE2?
Clearly, they think we are dumb. It's not that we are dumb, but powerless. Unless we start rioting in the streets as in the Middle East, there will be no changes. The Good Ole Boys will line their pockets at the expense of the working class and laugh all the way to another country to do business and deposit their money. As for Congress....what a total joke! They don't care about the people, they care for their ideologies and pet projects according to their parties sentiments. The Tea Party was a good beginning. Where are they now?
There is no way to save enough to retire. Inflation is going to eat us alive. Devaluing the dollare will and is eating us alive. Little if any interest on investments is killing the senior generation. This was all spelled out in the article but I believe totally true and happening as we speak. It's time to dismantle the Fed. Put term limits on Congress. Put regulations back in place. There is no foreseeable FDR around the corner. The guy in office evidently just doesn't get it. He is in over his head. Maybe 2012 is the end. At the rate things can happen it is making me wonder.
The only place where there’s no inflation is at the federal reserve.
Don’t forget the government introduced an alternate inflation reality when they enacted the recommendations of the Boskin Commission. They now use pseudo-science to manipulate the CPI into showing inflation much lower than it really is.
"...a little inflation can be good"... It really depends on what part of the demographic your talking about. Inflation is really tough on older folks as most times their income is fixed and their costs are not. Just take a look at how even though health care costs have increased dramatically over the last two years....yet there was no increase in SS payments, As a matter of fact a lot of folks lost ground as healthcare premiums went up.
What I find most puzzling is how the government "figures" inflation. Their model does not include fuel and food increases. I wish my budget didn't have to include these cost increases as gas approaches $4 a gallon and a cucumber goes for $1......
We The People?
Sounds great? It has Changed!
We the GREEDY!
Close 500 of 700 military bases. See if we can do with five rather than 11 Navy carrier groups.
And maybe feed our starving seniors and disabled citizens.
The divine soul of a country is only reflected in the character in which it treats its weakest members.
In late 2006, when the foreclosures first began, even the SEC wouldn't consider evidence that had been brought to their attention regarding the CDO CLO, Asset backed Security acronym challenges that deeply blurred the understanding of the core of the subprime market deceptions that were being written by all the winners (TARP Fund recipients) in the fallout and bailout that followed. Eventually, behind the curve as you suggested, The Fed Chief after claiming he saw no foreseeable recession, turned to congress and the magic printing press to try and fill the void that these toxic notes left in their wake, only to postpone the problem. While we ate smaller boxes of Oatmeal and fork out the last of our savings to fill our gas tanks, continuing to hope that soon things will be on track. And in the shadows, the indexes of our life's blood form the classic head and shoulders of that systems doom.
Of course my friend went with the advisers his lawyer offered and I was labeled a Cassandra with no real sense of economics. Hmm... Ironic I thought and doubled my investment in silver futures options! The whole experience made me realize that he along with everyone else who has an impossible time imagining "massive change" are actually helping me to retire way before I thought was ever possible, so thanks!
The U.S. is not in the same situation as 1946. While we did have enourmous federal debt, the rest of the facts are vastly different. We had a huge industrial base and were a net creditor with a trade surplus. The debt we owed was to ourselves and thru long-term bonds. We owe a lot more to foreign creditors thru short-term securities, today. Most of Europe's and Japan's factories were destroyed and infrastructure were bombed. We had huge pent up demand from all the savings that were created during WWII when very few consumer products were available and commodities were rationed. Work was hardly non-existent when the vets came back. Factories making war products were quickly switched over to consumer products to meet the huge pent-up demand that built up during the war. We didn't have to compete against billions of low-cost workers in China and other Asian countries. Also, the dollar was overtaking the pound as the world's reserve currency. Now we are the empire with the overvalued currency that needs the federal reserve to buy trillions of our own paper to support demand for our securities.
" ....but by picking the pocket of savers via a combination of less observable, yet historically verifiable policies -- inflation, currency devaluation and low to negative real interest rates."
Exactly! Dont you think the government has their think tank ****s doing the math AS WE SPEAK on how to manipulate our current economic state to their benefit? All of the money in this country ultimately belongs to the federal government anyway right? Its got their name on it....they just so happen to ALLOW us to keep some of what WE earn so we dont get pissed and revolt.
This country has bastardized the 'American Dream' and is continually discarding everything I grew up thinking was what made this country great. I find myself more and more ashamed for being American. We are a nation of consumers, nothing more. Corporate America has been propped up by our government at the expense of the individual. Our financial system has been raped by the ultra rich repeatedly at the expense of the individual. Our world standing has been diminished by this greed and lack of respect for the world around us. We have sat on some imaginary throne for so long that we got used to the view from the top, all the while losing touch with what it is that made this nation great to begin with. -The spirit and celebration of the individual and the freedoms provided. Now, we are all nothing more than dollar signs, credit scores, employed or unemployed, either a tax liability or or asset. I for one have lost faith in our leaders to right the ship. I believe they only do the right thing because we at least still have a vote. And even that is woefully suspect these days. Politicians are bought and paid for, if not before they get into office, most definitely after their in office.
The middle and lower classed are being pillaged by big banks, land barons, and greedy businessmen and women. We in a war of sorts, but its fought with dollar signs, entitlements, education, and employment opportunities. Handshakes and and contracts mean nothing anymore. Just look at whats happening in Wisconsin with the unions.
This country is undoing the very fabric that it was built on. Rome is burning.
The issues at hand are serious. And in serious times, it seems that we get serious about blaming who ever caused this mess. Effort wasted.
This is the time for different sides to realize that we are all on the same side when it comes to our success as a nation. We must unite to solve problems as opposed to getting caught up in politics.
We must consider that there are truths to both sides of arguments between the republicans and democrats or between government and business and to work together to accept these truths and to synergistically gain what is most effective.
If the Republicans and Democrats cannot make this happen, what are we doing as THE PEOPLE to change this?There is nothing that says that we have to have two parties in our government. In what successful business or organization are there two sides constantly working against each other? The most effective organizations/businesses/governments will focus on the most pertinent aspects to success and work with one another to increase the probability of success. What we are facing is as serious a challenge as World War II. We must unite.
The tax structure needs to be reviewed just as seriously as the expenditures of our government need to be reviewed. We need to make a serious effort right NOW to reduce deficit spending and increase revenue to meet our responsibilities.
The financial stability of our country is the most important goal at this point. Until we regain stability, we need to consider shelving issues of a social nature that are indeed important but only cause division amongst the people we need to work together.
I am tired of hearing about the sky falling if we cut services or if we raise taxes. The sky will fall if we do nothing to work together. Sacrifices must be shared by the individuals across the socioeconomic groups. We must remind corporations that their success is tied to our success. At this point, they seem to believe it is the other way around. Perhaps for obvious reasons, a lot of our politicians think the same.
I remember Jimmy Carter... Buy Gold, Silver, Invest overseas, Buy foreign currency... Canadian/Austrailian Dollars, Swiis francs.
DUMP DOLLARS. Avoid GOVERNMENT BONDS!!! You will be OK... Let the Donkeys hold their dollars and watch them be inflate dto half value in the next two years.
My Silver Eagles that I bought at $8 are well north of $40... But their is no inflation.... LOL
Mr. Obama, you and Helicopter Ben need to fill your gas take, and take a trip to a grocery store, and then stop at Kohl's nad Home Depot... You clearly need to get out more. Inflation is rampent... It is everywhere but the one area Ben wanted to re-inflate...Housing...
@WennieDog.....Point taken.........Although, I think it is a little complacent of you to think that things are going to be alright just because we are Americans. The American traits you described were only obtained after much suffering during the Great Depression and loss of life in WWII. People are shaped by their genes, their parents and the times/environment shape the rest of them. It would save a lot of suffering if people realized the seriousness of our situation and we didn't need a crisis to create change in ourselves and country.
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