Governments benefit from ‘teaser’ rates. Wait ’til they come to an end…
There are so many breathtaking things going on around us we practically suffocate. Last week, three-month US Treasury-bills yielded all of 0.015% interest. Some yields were below zero. In effect, investors gave the government money. The government thanked them and promised to give them back less money three months later. How do you explain this strange transaction? Was there a full moon?
Moonlight on the week of November 6 must have been especially intense. Bids totaled a record $361 billion for just $86 billion worth of T- bills. This was $100 billion more than the peak set during the credit crisis a year ago. What? A third of a trillion dollars, per week, gives itself up to the hard labor of government service and asks for nothing in return?
Even lending to the government for much longer period yields little to the investor. The 10-year yield is only 3.32%. Thirty-year lenders get only 100 basis points more. And this in a currency that is melting faster than polar ice. Gold, the traditional bank reserve, is soaring in comparison. Not surprising; the US dollar money supply – measured by the US monetary base – rose 147% over the past 24 months.
The only thing rising faster than the demand for government debt is the supply of it. All major governments of the West – and Japan – are now borrowing as if their lives depended on it. The IMF predicts that Britain’s ratio of public debt to GDP will rise 50% between 2007 and 2014. In America, the increase is forecast to take taxpayers nearly to the debt levels of WWII. Those estimates are probably far too low, since they depend on an economic ‘recovery’ that will almost certainly prove to be a disappointment. The purpose of a depression is to get rid of bad debts and correct bad investment decisions. But an economy cannot correct itself unless it is allowed to enter a correction. When you try to prevent it, you get a zombie economy in constant need of freshly borrowed blood. Debts rise, but with no recovery. As reported on this back page, former US Office of Management and Budget director David Stockman expects a zombie economy in the US, with deficits twice as great as those now projected…that is, of $2 trillion per year, not $1 trillion. This will send US debt beyond WWII levels…up to Japan- like heights.
Other governments, too, are likely to see similar swelling in their public debt limbs. All right-thinking economists and commentators have come to the same conclusion – that fiscal and monetary stimulus must continue until the ‘recovery’ is more manifest. Worse, they’ve been trapped by the logic of Keynesianism itself. Now, everything is ‘stimulus.’ Nothing can be cut. The boils cannot be lanced.
When you come to the end of a war, spending is naturally reduced.
Deficits can go home with the troops. Debts can be paid down. But there is no end in sight for these deficits. Because only a small part of them is the direct consequence of the war against depression. Instead, they are merely the inevitable result of governments that spend too much money. In the US this “structural deficit” is estimated by the IMF at 3.7% of GDP. In Japan and Britain it is twice that amount.
Whatever else can be said of it, this freak show cannot go on forever. The US has $2 trillion worth of short-term bills that must be refinanced in the next 12 months. It must also refinance about $1 trillion more of notes and bonds. That’s without adding any additional debt! So put a deficit of $1.5 trillion on top of that and you have $4.5 trillion of financing for the US alone.
But the US is not the only one fishing in this pond. Japan’s national debt already measures 200% of its GDP and is increasing rapidly. So far, Japan’s deficits have been financed internally. The Japanese saved 20% of their household incomes in 1980. But the Japanese are aging. When they retire, people cease saving and begin drawing on savings to cover living expenses. At the current pace, the household savings rate should fall to zero in 5 years. Then, who will buy Japan’s bonds? Who will cover Japan’s deficits? The same people who are supposed to cover America’s deficits?
Taken all together, the world’s governments will need $1 trillion per month, in financing, over the next 12 months, according to an estimate in the Financial Times. Who has that kind of money? Total US savings are only $700 billion. Even the Chinese, if they put their entire cash pile to it, could only fund the deficits for about 67 days’ worth. Warren Buffett? Less than 48 hours.
There is also the problem of paying the interest on rising debt loads. Thanks to the forgetfulness or credulity of the world’s lenders, borrowers now benefit from exceptionally low rates – just like the ‘teaser’ rates once accorded to sub-prime lenders. But the tease will come to an end soon. Even the Obama Administration forecasts interest payments to rise from $200 billion at present to $700 billion by 2019. This assumes interest rates only regress to ‘normal.’ But “hot money” from the feds has acted like spent nuclear fuel; every fish in the financial pond now seems to have two heads and a bag over both of them. The freaks of November 2009 may be replaced by things perhaps no less strange, but in a different way. The last time gold was over $800 lenders to the US government demanded yields in excess of 18% in order to part with their money. That was odd too. But it had very different consequences for investors.
Until next time,
for Markets and Money