Bill Gross fears our borrowing could doom us

The bond king is worried that massive credit expansion -- not just deficit spending -- is a threat to the global economy. His advice includes buying hard assets like gold.

By Charley Blaine Feb 1, 2013 3:31PM
© Andrew Harrer/Bloomberg via Getty ImagesEven as the stock market is at five-year highs and the economy is looking stronger, Bill Gross is gloomy about the future. Very gloomy.

The problem the managing director of PIMCO sees is that the domestic economy is going to be suffocated by debt. Not just government debt. But by consumer debt and corporate debt as well.

The result will be that everyone will be working just to service their debts, and the economy won't grow. Everything will just stall out.

That's what he told readers of his popular Investment Outlook essay, released this week.

Actually, he uses T.S. Eliot's famous lines from "The Hollow Men" to focus the point:
     This is the way the world ends…

     Not with a bang but a whimper.
This isn't an articulation of an anti-liberal point of view. It is the point of view of a bond guy concerned that real interest rates are too low and suggest a dysfunctional financial system.

Moreover, in Gross' view, the modern banking system is set up to produce inflation and generate real threats to the economy. Hence the title "Credit Supernova!"

If you deposit money in a bank, the bank keeps some of the money as a reserve and lends the rest out. The borrower, in turn, deposits the money he's been loaned, and the money gets loaned out again. The process repeats itself again and again. That's how money gets created and an economy expands.

Until the system gets out of control with way too much borrowing. Which is where Gross thinks it's headed.

The modern banking system in the United States and elsewhere moved through a period of self-sustaining credit to speculative credit expansion and now is into what the late economist Hyman Minsky called Ponzi finance. That's where everyone needs additional credit just to cover increasingly burdensome interest payments, with accelerating inflation the end result.

More important, in Minsky's view, the banking system encourages so much speculation that the result is ruinous boom-and-bust cycles.
And, of course, Bill Gross says, you end up with an economy that can't expand. The math, he says, works like this: In 1980, it took $4 of new credit to boost gross domestic product by 1%. Since 2006, it takes $20 of new credit to achieve the same result.

Partly that's because the economy has actually grown (as has the global economy). But he sees the bigger problem as just ridiculous expansion of all forms of debt. The U.S. economy has seen the percentage of lending going to productive forms of investment dropping to around 15% of GDP from 21% or so in 2000.

Gross doesn't offer much in the way of how to stop the drift to Ponzi finance. He also concedes the end is not yet nigh.

But he offers some thoughts on what investors might do:
  • Protect yourself against inflation with securities like Treasury inflation-protected securities.
  • Get used to slower real growth.
  • Invest in global securities with stable cash flows.
  • Dump financial assets in favor of hard assets. "Gold, other commodities, anything that can’t be reproduced as fast as credit."
  • Make sure you understand your property rights in any country where you invest.
  • Appreciate what Gross calls the "supernova" character of the existing credit system. It will morph into something else.

I'm not sure I buy everything Bill Gross says. He seems to echo what a bond investor might have said in the late 1970s. Don't get me wrong, however. He is a very smart and successful man.

The catalyst that will set off a wild round of inflation is not yet apparent. I suspect if job growth accelerates rapidly, inflation pressures will reappear. Another catalyst might be an an eruption in energy costs as growth in the global economy takes off. A third would be chaos around oil and gas fields in the Middle East and Africa.

More on moneyNOW

Feb 4, 2013 7:49PM
Duh!!!!  He really thinks our borrowing is bad????  WOW!!!!  I wonder if he might want to sue the institute of higher learning where he got his education because it took him way to long to figure this out.
Feb 4, 2013 6:42PM
Feb 4, 2013 1:02PM
I had a bumper stivker back in the 1960's it said : "AMERICA, LOVE IT OR LEAVE IT" It still applies!
Feb 3, 2013 9:04PM
I don't care what POLITICAL party is in. The Dow is losing purchasing power.  Compare asset price to asset price to find the true value of something. The Dow divided by the price of gold is proof that it is going higher, but losing purchasing power.
Feb 3, 2013 9:02PM

Wow, fear the debt.


BIGGER fear. We do not invest in our countries and childrens futures we are doomed without a doubt.

Feb 3, 2013 8:58PM

Gee, I thought that you could just spend more than you make without any repercussions!  If I don't have the money to buy something I just put it on a credit card!  Then, when my credit cards are maxed out I just get another credit card and another and another and another.......  What could go wrong?


The day of reckoning may happen sooner than any of us suspect!  We have many more trillions in unfunded liabilities and we cannot even control the $17 trillion in federal debt much less the, possibly, hundred trillion in state and pension promises!  When it happens we will see a rapid collapse rather than a slow decline.  You had better stock food and change a lot of your assets into gold or you will be dependant on the largess of our gentle socialist in charge, Barrack Obama.  Trust me, the liberal intelligensia will take care of themselves first!  Especially if they manage to take away our right to bear arms!

Feb 3, 2013 7:27PM

.........$16.4 Trillion in debt and Obama has NO plans to reduce expenses............


All we hear him say is to tax all the wealthy (typical business owners) so that he can funnel their hard earned money to his ghetto constituents. Yes, they need more food stamps, welfare, subsidized housing and free cellphones all at your expense.


Obama is gutting America and he could care less as long as his 47% get more than their fair share. He is president of the Democratic party...not the United States.


And if the economy is not bad they talking about amesty for 11 Million plus illegal mexicans which could turn into 11 million more dumbocrats!!


The GOP needs to stop Obama and not worry about the mythical political power of the illegal mexicans!!

Feb 3, 2013 6:23PM

Sorry your boy Romney lost Bill.Don`t worry, the Dow will be 20,000 when Hillary

get to be President in 2017.The Repubs are on the losing side as far as the eye

can see.

Feb 3, 2013 4:44PM
And the bond investors of the late 1970's were right.  Double digit inflation and prime rate near 20%.  When Reagan got the government out of the way and let the American invest in "productive forms of investment", the economy saw real growth which created real jobs and real wealth.  It was not unusual for people to move from "working poor" to "upper middle class".  Under the current policies of government controlling interest rates, etc. the "middle class" has been moving to the "working poor".  As Joe Biden pointed out, the middle class has been getting "buried over the last 4 years".  I guess that was the only "shovel-ready" job they could come up  with.
Feb 3, 2013 1:49PM
Do you want to get rid of the debt ? Raise taxes, a lot of young men paid with their lives for the two wars we just fought, don't you think the rest of us at least ought to pay for them ?
Feb 3, 2013 12:30PM
Washington has created  a ponzi scheme, and our ECONOMY, is right on top of it.
Feb 3, 2013 12:28PM
Debt will destroy us only if we let it. If the system collapses then we need to let it collapse and not prop it up at the expense of the common man. We need to get back into a system that produces wealth by producing products and away from making money from money.
Feb 3, 2013 12:11PM
He is right. Individuals and countries are financially leveraged beyond the effective capacity to earn and pay off once the interest rates return to historic averages. Future generation of citizens are facing lower income, higher taxes, higher prices for basic commodities. Unless, we wise up and start living within our earned means, return to work ethic, personal and social values that made this nation envy of the world, future generations will be handed a country in decline in all aspects of human quest.
Feb 3, 2013 11:21AM
Corporate profits are at an all time high. They're pocketing the money instead of giving raises. Stop that by giving raises thereby putting money in the economy and things will improve.
Feb 3, 2013 10:21AM
Could doom us? How about it will doom us? Is this guy for real. Could? It will, it's just a matter of when.
Feb 3, 2013 9:46AM
I am close to being out of debt only owe $5000 + but I still have little disposable income. Good Income 85 K , 2 kids, 2-Homes ( 1 Purchased for older mother) both paid for. Do not have expensive hobby's ,2 cars paid for and over 10 years old. I quit playing golf because of expense. But it is still paycheck to paycheck. -- Then 2 weeks ago company decided on a 10% paycut on top of the 2.5 SS increase. Also employer announced a increase in Medical Insurance for which we pay $750 per month now. If this is the norm then Crap is getting ready to hit the fan. -- Dont forget Gas is going up too that's another hit.
Feb 3, 2013 9:14AM
Don't worry about the country going bust. All the pee-ons will live great on beans and rice and the wealthy will just jump out the windows like they did in 29. Best thing to do go out and borrow $50,000 and stock up on food and ammo and wait for the **** to it the fan. Nothing us little guys can do about it. Hell if the banks want to give me more money I'll take it. I'll be just like the Corps and go Bankrupt. Sit back and watch it burn baby . You'll live longer .Most of the 535 comrade in DC have little Islands to go to; all prayed for by the taxpayers .
Feb 3, 2013 9:12AM

Nothing makes the fallacy and unsustainability of the Feds money printing policy more obvious than to see Treasury Inflation Protected Securities (TIPS) trading at negative rates for durations over ten years. On an after tax basis, that’s the case for all TIPS out through 30 years. It’s as if the government is admitting that the best it can do is guarantee savers will lose purchasing power of their money over time. The Treasury Department and the Fed might as well issue T-Shirts to all of their employees with the word "FAILURE" written on the front and back. And, if that’s the best you can get from your government, try to imagine what Wall Street is really offering you as an alternative.

Feb 3, 2013 9:07AM

our debt load from WWII was higher as a% of GDP than now, but we paid it down, with peace and prosperity. What is differnt now?

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