How to Start Interest Rate Acceleration

Under President (W) Bush, debt was approximately 40% of GDP. For purposes of discussion, let’s assume that interest rates were 4%. That means that annual interest payments were 1.6% [40% of 4%] of GDP.

Under President Obama, debt is forecast to rise to 80% of GDP. To induce people to buy all this debt, for our purposes, let’s assume that interest rates will be pushed up from the previous 4% to 6%, resulting in annual interest payments equal to 4.8% [80% of 6%] of GDP.

Looking forward, we clearly have no indication that spending patterns will be reduced and with the economy limping along it is unlikely that revenues will increase enough to compensate; therefore, the increase in interest payments of 3.2% of GDP will of necessity be added to the deficit on an annual basis, over and above deficits from normal overspending behavior.

Increasing interest rates combined with interest payment acceleration will continue to build momentum, until they spiral out of control, unless we can limit government spending as a percent of GDP.

This example ignores the overhang of entitlements (more on that in my next piece), which will only add to the deficit problem. Inflation fighting, financing difficulties, and inflation fears should push interest rates through 6% and beyond.

Debt at 80% of GDP shows very bad past management, but can be accommodated by the markets, only if a viable plan is presented [Fixing Everything, by yours truly] that will maintain or begin to reduce that 80%.

Our only hope for the immediate future is that bond vigilantes will force up interest rates so fast that interest payment acceleration starts now. It will be easier to stop the bleeding if debt is at 50% of GDP, with interest rates at 12%, than it will if debt is 100% and interest rates are 6%. While annual interest payments in both cases would be the same, interest rates can be reduced; whereas, accumulated debt will probably be with us forever.

Disclosure: Long TBT, HL, and APL

Comments

[DONE_SONZ:]

Higher interest rates kill growth.You still can't have your cake and eat it too.

Jun 16 09:24 AM

[DroolingElmo:]

Obama is going to spend us into oblivion. It is sad, this is NOT the change I voted for.

Jun 16 10:23 AM

[Othello4U:]

Obama does not approve spending, congress does. You voted for a politician. And if you thought that the president could change anything then you need to go back and study government 101, STUUUPI
DDD.

Jun 19 02:04 AM