Financial Warning to the U.S. Government 23 comments
-
Font Size:
-
Print
- TweetThis
The recent Wall Street chaos, where iconic institutions such as Goldman Sachs (GS) and General Electric (GE) had their debt trade at distressed levels with yields well over 8%, demonstrates that investors can abruptly lose faith in credit worthiness. These institutions have moved quickly to alter their business models, reduce leverage and strengthen balance-sheets, in order to regain investor faith and have access to affordable liquidity.
During these times of distress, assets flocked to the safety of United States government bills and notes, sending their yields down to levels not seen since the Great Depression. Subsequently, the government offered financial institutions the ability to liquefy their balance sheets by direct government equity investment, and by selling distressed assets to the federal government. Consequently the government has begun to raise a significant amount of debt to pay for the bailout fund, as well as other rescue vehicles.
The U.S. government is viewed as the most credit worthy entity in the world. The problem is that the government has taken full advantage of this perception by borrowing vast sums in order to fund the budget deficit, fund various financial market rescue packages, send money back to its citizens in a gambit to stimulate the economy, and in the near future potentially help states fund their spending and also allocate capital for infrastructure projects.
The questions that the U.S. government has to contend with are: can they continue to pile on debt without consequences and what form will potential consequences take? Most troubling, will investors start to shun U.S. government debt and force interest rates higher due to credit concerns of the U.S. government itself?
What is apparent is that the government could lose control of its own financial destiny. GE and Goldman Sachs have attempted to regain control of their finances by relying less on the debt markets to fund their operations. The U.S. government does not have the luxury of that short-term flexibility. While it makes sense for the government to take advantage of its creditworthiness to avoid a financial meltdown, the abdication of fiscal prudence is a dangerous road to take.
Foreign Investors
President Bush speaking on March 12th, 2008 about Middle East sovereign wealth funds:
Well, first of all, it’s our money. And a lot of the time – and therefore I think it makes sense for us to encourage them to reinvest in our country…we ought to welcome the capital back.
The buyers of U.S. government debt, the financial enablers of the world, mostly foreign central banks and sovereign wealth funds, have steadily absorbed U.S. debt, both government and government agency securities, by massively ramping up purchases this decade by an aggregate amount of over $3 trillion.
Many argue that these central banks, especially China, need to buy our debt with their excess dollars in order to steady the exchange rate and keep their export economy strong. This present reality should not afford comfort in perpetuity. Here is why:
Firstly, the Chinese government needs to invest more in its own people. (Ostensibly by investing in U.S. government debt they are investing in our people.) China has environmental issues in need of tremendous capital expenditures in water and air pollution remediation, as well as land degradation and water resource issues. Urbanization will often compel the Chinese government to stimulate their economy by providing jobs and money as the stability of an agrarian life fades for a majority of the populace. Lastly, the government already provides food and fuel subsidies, a national expenditure headed inexorably higher due to urbanization.
Secondly, the consistent flow of foreign investment should slow for two reasons: struggling worldwide economies will force Central Banks to sell dollars to defend their currencies and support local economies; and a global expansion of worldwide asset diversification, as the United States will no longer be considered the bedrock investment destination.
Political Response
Alan Greenspan speaking in the 2001 Congressional Testimony:
The most recent projections from the OMB indicate that, if current policies remain in place, the total unified surplus will reach $800 billion in fiscal year 2011…The most recent projections, granted their tentativeness, nonetheless make clear that the highly desirable goal of paying off the federal debt is in reach before the end of the decade…But continuing to run surpluses beyond the point at which we reach zero federal debt brings to center stage the critical long term fiscal policy issue of whether the federal government should accumulate large quantities of private assets. At zero debt, the continuing unified budget surpluses currently projected imply a major accumulation of private assets by the federal government. This development should factor materially into the policies you and the Administration choose to pursue. I believe, as noted in the past, that the federal government should eschew private asset accumulation…
A look back at Alan Greenspan’s 2001 Congressional testimony may lead one to wonder whether Congress was persuaded to cut taxes in 2002 under flawed premises and with faulty assumptions. The irony here is that in an attempt to eschew private assets a decade hence, the federal government will end up with both undesirable situations: owning massive amounts of private assets yet also having a significantly weakened balance sheet from a doubling of the debt since Greenspan’s testimony before Congress. The most recent turmoil also implicates Greenspan’s flawed Ayn Rand philosophy of minimization of taxes and regulation on economic producers.
A look at the forthcoming mandatory liabilities that the U.S. government faces, such as Social Security, Medicare, Medicaid and interest on the national debt, points to a possible fiscal disaster headed our way. Yet the political response by the Democrats is to roll back Bush’s tax cuts for the wealthy, give tax breaks to everyone else and use the money from ending the war in Iraq to pay for everything else. The Republican response is that any tax increase will hurt an already ailing economy, and that if you tax more, actual government revenue will go down anyway as has been the case with recent capital gains tax increases. Considering the innumerable times government revenue has increased from taxes being raised, the veracity of this Republican claim is dubious at best.
In any case, Democrats generally want to focus on making the tax code more progressive while Republicans generally want an unencumbered economy where growth will provide sufficient government revenue. Nothing wrong with either concept (many will argue however), but the present fiscal mess requires out-of-the-box bipartisan thinking. Generally, there has been a bipartisan abandonment of fiscal responsibility.
First, our country must start assuming a much slower GDP growth over the next ten years. The U.S. has seen its economic apogee in terms of nominal consumption and easy credit; the future will be a more subdued economic environment. Lower growth assumptions will compel politicians to right size spending assumptions.
Second, taxes will need to be raised across the board. Either the “straight talking” McCain or the “above politics” Obama will have to explain this to the American people. Most Americans support some component of government spending, from Social Security and education to the wars in Iraq and Afghanistan, and are willing to be taxed in order to fully pay the bill. They just want to be taxed in a fair manner with shared sacrifice.
Third, future government budget growth needs to be cut well below the rate of inflation. Hard choices for tight budgets will face future politicians. We cannot continue to live with the worst choices for our financial future: massive government spending with borrowed money without even a consideration for raising taxes to pay the bill.
Fourth, Social Security is in need of reform and Medicare is in need of significant reform. The notion of an actual Social Security trust fund needs to be dispelled. President Bush already set this process in motion when he cut taxes in 2002 (when there was a budget surplus) and stated that the government is giving your money back to you, which at the time was actually the Social Security trust fund allocation.
Ben Bernanke has been clear that the mistakes made by the government during the Depression era will not be repeated. The concern is that the solutions offered by Henry Paulson and Bernanke may foster a new era of mistakes. If these solutions fail to thoroughly remedy the crisis, the problem could become significantly worse, since the government has put its own balance sheet on the line by accepting trillions of dollars in liabilities from financial institutions.
The federal government must act proactively in light of its current financial predicament. Investors can easily force the government to pay much higher interest rates for five to thirty year financing regardless of short term rates. This is the true Armageddon scenario that could cripple the U.S. economy. The government needs to develop a long term plan for fiscal austerity so that, at minimum, it will give the impression of prudence since the recent market crisis demonstrates clearly that perception is reality.
Related Articles
|
-
The Seeking Alpha 100
See allThe top 100 stock
market authors
selected for publication
Seeking Alpha 100 » -
Fastest Climbers
Authors with the largestSee all
increase in followers
in the last 7 days
Fastest Climbers » -
Top Commenters
Top commenters,See all
as ranked by their peers
Top Commenters » -
Top Instabloggers
The 100 most active
Instabloggers.-
1
David Fry
-
2
TraderMark
-
3
Don Dion
-
4
Cliff Wachtel
-
5
Mike Havrilla
Top Instabloggers » -
1
-
Top StockTalkers
TopSee all
StockTalkers.
Top StockTalkers »
This article has 23 comments:
title of new book about the george W administration: Clueless in Crawford (written by w.somerset maugham).
> jack
If you want representatives instead of incompetent leadership, pay elected officials the mean average income of their electorate and execute lobbyists, the vermin of government-for-sale politics.
Sure. Only the 'impression' of prudence. That's what's been missing. Let's just ignore that $10.3+ Trillion debt and pretend everything is OK.
Here's a suggestion for 'austerity'. Shut the gub'mint down completely for the next 10 years. Budget expenditures = $0.
Maybe that'll help slow the growth of our debt burden by a couple Trillion.
> jack
www.u4prez.com/Profile...
My very best regards,
Richard Fattengausse, candidate for president of the United States of America
Are you kidding me?! When you say government, are you talking about the U. S. Congress? .....the in charge of the purse strings crowd more worried about re-election than taking care of our country. Do you really think they can do that?
What we need is a federal referendum to tell these people that we want a balanced budget and for them to start chipping away at our trillions of dollars national debt.
The bust part of the boom/bust cycle leads to cries for more social spending. This is understandable since during the Great Depression even those willing and able to work lost their jobs.
Capitalism must either reform on an honest banking system or it will loose out to socialism and/or fascism.
Capitalism is the only moral economic system. It is an abomination that it is built on a dishonest banking system.
Until the citizens stop insisting that they have free access to a good life via government subsidies, the system will continue until it gives out.
"A democracy cannot exist as a permanent form of government. It can only exist until the voters discover that they can vote themselves largess of the public treasury. From that time on the majority always votes for the candidates promising the most benefits from the public treasury, with the results that a democracy always collapses over loose fiscal policy, always followed by a dictatorship." attributed to Sir Alex Fraser Tytler
Why should the public reform their morals when the bankers have a license to steal? The people may not know how but they believe (correctly) that the game is rigged. A honest banking and monetary system would instill so much confidence and raise morale that things would quickly turn around in the US. I can't blame the people for looking out for themselves in a rigged game.
"Those few who can understand the system (check book money and credit) will either be so interested in its profits, or so dependent on it favors, that there will be little opposition from that class, while on the other hand, the great body of people mentally incapable of comprehending the tremendous advantage that capital derives from the system, will bear it burdens without complaint, and perhaps without even suspecting that the system is inimical to their interests." Rothchild brothers of London
www.libertydollar.org/...
The ONLY way our "leaders" - and I use that term loosely - could possibly right the ship of state is by devaluing the dollar by a factor of ten. Dollar = dime strategy.
It makes not a whit of difference who wins the Pres election. God herself couldn't fix this mess without an 80 day/ 80 night flood + hurricane with tornadoes.
And people are still listening to Greenspin. He gets $250,000 per speaking appearance. We deserve the government we have - we put 'em there. We deserve the "regulators" we have. And after two decades of pretending to be the richest people in the history of the planet, all funded by credit and debt, we deserve the consequences.
Our children and their children don't. They will most likely have a VERY low opinion of us and the "leaders" we elected over the past few decades. It's time to stop the fairy tale.
An "economy" with a "foundation" of debt that makes little and relies on consumption and financial paper-pushing is unsustainable. I was taught that a metaphor for futility was "shoveling sand into the tide". So is shoveling dollars into insolvent financial institutions.
Our government is busy shoveling dollars and BS in similar quantities.
Ya got a mouse in your pocket?
Arnold Toynbee
An elephant is a mouse built to gub'mint specifications.
Just to clarify something. Rand's philosophy does not advocate "minimization" of taxes, ultimately it advocates no taxes period. Greenspan has long since ceased to be influenced by Rand's ideas in any meaningful way. Neither does the Republican right. The idea that there has been any "deregulation" is false, the free market didn't fail because it wasn't present to begin with. The mixed, hampered, unfree illusory market conjured up by government entities and artificially low interest thanks to Greenspans incompetence has failed.
For a more in depth critique I recommend the following post starting at the 7th paragraph:
www.dianahsieh.com/blo...
Mad Magazine
Where were you in the year '08
when our 401's the market ate?
If you blinked your eyes, it was way too late.
Just settle for loath; it's a sin to hate.
"Doctor, that's the patient's brain."
Mad Magazine