|
Page 5 of 10
A Debt Bubble Primer
We need a history primer from time to time. After inflation and bond yields peaked in 1982, fiscal observers voiced outrage at federal deficits that averaged $206 billion yearly from 1983-1992. These unprecedented peacetime deficits increased public debt from $789 billion in 1981 to $3.0 trillion (48.1% of GDP) in 1992. Disinflation enabled this debt explosion.
Deficits did their Keynesian trick. They were the initial impetus for stimulating the economy out of the 1980 and 1982 recessions. Dramatically falling interest rates and tax cuts then picked up the slack and propelled the greatest bull market of all time (August 1982 to September 2000). After 1994, the job of maintaining high equity and bond values was left to an ongoing debt bubble, which began in 1982. The present ramifications from decades of accumulating debt are either a deflationary or an inflationary bust. Here is our status:
The U.S. government debt, commonly called the public debt, is the amount of money owed by the federal government of the United States to holders of U.S. debt instruments. Gross debt includes public debt plus intra-governmental debt obligations, such as the debt held in the Social Security Trust Fund.
Figure 5 needs to be updated since its release at www.budget.gov/budget in 2008. As of April 7, 2009, the gross federal debt was $11,152,772,833,835.89, or about $36,676 per capita. In 2008, $1.1 trillion was added, with about $1.2 trillion more expected in 2009. Although debt as a percentage of GDP looks tame compared to the 1940s and 1950s, back then we were a creditor nation. We have been a debtor since 1985, and this makes a world of difference, because in depressions, beggar-thy-neighbor foreign policies eventually prevail.
In 1984, the percent of U.S. government debt held by foreigners was 15.9%. Foreigners owned a little less than 35% of all Treasuries by 2000, and today they own more than 50%. Our 1985 debtor status opened the door for a future tipping point for an inflationary bust. It also distorted MPT.
Portfolio management was in its infancy in 1985. Back then, MPT-driven asset allocation helped investors to overcome their resistance to bonds and stocks. It helped, but it was not—and still is not—a panacea. To be effective, MPT must adjust its historic inputs for the ramifications of our debt bubble. The debt bubble distorted MPT inputs as the bubble was blown from 1985 to July 2007 and as it has imploded since.
The bubble eventually distorted inflation and business cycles. Debt expansion and trade deficits enabled a benign recycling of excess U.S dollars. First during the early 1980s, easy credit financed the leveraged buyouts, which enabled the transfer of our manufacturing base to offshore enterprises. The recycling of trade-deficit dollars from foreign manufactured goods enabled abnormally low interest rates, which fostered an unsustainable consumer debt expansion (even higher trade deficits) and then the subprime debt crisis.
Our nation's cumulative government, business and consumer debts make up our total debt. When our debt exceeded 200% of GDP, the above factors suppressed inflation until the U.S. dollar began a severe decline in 2001. Our debt to GDP ratio rose from 2:1 in 1984 to more than 2.5:1 by 1987 for the first time since the late 1920s. Currently, our debt/GDP ratio is more than 3.5:1, or 350%, with three-fourths of load held in the business and consumer sectors. We have about $50 trillion of unfunded liabilities. As more and more private debt becomes liabilities of the government, inflation risk rises, because very little of the debt-financed income-producing assets will contribute to GDP growth, which also hampers productivity.
Figure 6 compares debt/GDP, personal disposable income (DI)/GDP and corporate profits to CPI growth (rolling 10-year cumulative growth). Debt loads are more difficult to carry when we are experiencing declining incomes and profits. The collapse in the DI/GDP ratio reflects meager personal wage growth since 1984. Corporate profits also peaked in the third quarter of 2006 and are decelerating at their fastest pace since the 1930s. Corporate taxes as a percent of GDP have declined from 4% to 5% in the 1950s and 1960s to 2.4% in 2008, while individual tax receipts have remained near 8% over the past 60 years. In spite of huge tax relief, corporations still are suffering. This is very troubling because even with tax breaks, profits have plunged.
|
RSS
