Debt/Deficits: Just the Facts

In the 1950’s actor Jack Webb starred in a TV series called “Dragnet”. Webb played Sergeant Joe Friday, a stoic, poker faced detective, who used the titled expression “Just the Facts”, as he questioned people in his investigations.


Just the Facts of the debt allows everyone to form their own conclusions on the risk of the US debt or if it matters? Another budget was just passed which allows an increase in spending of $324 billion over 2 years with an unlimited debt ceiling. This means an estimated total deficit of $2 trillion more in US debt by September 2021. Thereby, the US official STATED DEBT will be an estimated “minimum” of $25 Trillion (not including “Off Budget” items of more than $10 Trillion or Unfunded Liabilities in the 100’s of trillions). A $1 trillion deficit is about 5% of GDP per year. High, but not horrible in percentage terms, which is the only legitimate way to portray the deficit number when you speak of trillions.

The bottom line is debt and deficits have been talked about as an issue since the 1980’s. Ross Perot ran for President on the debt/deficits as the most important problem of the US when the US gross debt was $3.6 trillion on 9/30/91. Moreover, markets never seemed to care or react to debt numbers. Just the opposite: the greater the spending the more stocks rallied.

The reason is, of course, because the US has a printing press system and is on a PhD paper standard, not a gold standard. When FDR changed the US Constitution single handedly on May 1st, 1933 and the Supreme Court looked the other way by not taking any of the lawsuit cases, that was the end of Article 1 Section 8 clause 6 of the US Constitution which read: The Congress shall have the power... “To coin Money and regulate the Value thereof, and foreign Coin, and fix the Standard of Weights and Measures;” The key concept was “COIN” not print! Further, when the US went off the International Gold Standard (on August 11, 1971) the gross debt on June 1971 was a mere $398,129,744,655.54 (billion)...but as of September 30th, 2018 (fiscal year ending) it was $21,516,058,183,180.23 (trillion). This means in 47.25 years the compounded increase in the Gross Debt was 8.81% per year, while Real GDP grew at 2.75%, and the CPI at 3.91%. Thereby Debt is growing at 3.2 X’s GDP! Interestingly, the S&P 500 compounded at 10.3% in the same period? Note: the CPI in the last 10 years ending June 2019, was only 1.73% or 44% of the amount from 1971. Evidence says: stocks love debt.

The Fed’s Recent Policy - Not Good

Money Supply (M2) grew at 6.15% ($8,430.7 trillion to $13,128.0) from June 2009 (the beginning of this recovery) till 11/7/16 when Trump was elected (according to the St Louis Fed - FRED). But under Trump, M2 has grown at an extremely low 4.2% or 32% less than during Obama’s Presidency. The reason is the Fed’s Balance Sheet declined (6.58%) compounded annually from 11/7/16 to 5/6/19 or 2.5 years ($4,512,936 trillion to $3,808,110 trillion). This guarantees slower growth and inflation from 11/7/16 to date with the typical year and half lag. The CPI was only 1.65% in the last 12 months YOY. The Fed claims they want to “normalize” their balance sheet (to set up for the next recession) which, they will cause by this policy. Looking back to post-war or from the late 1940’s, no other period over one year (that I could find) much less over two years, had a decline close to these numbers. It is highly likely a recession will occur without fiscal stimulus or a big change in policy occurs. Milton Friedman is kicking in his grave over this policy. Everything “The Fed” is doing is anti-Monetarist and anti-Keynesian in principle. The Fed Funds decline to come of 25bps, is “misdirection”. After the 30- and 10-year Gov’t yields dropped from last year’s high yield of 3.46% and 3.23% on 11/2/18 to Fridays 2.60% and 2.08% respectively interest rates have already deeply declined. The Fed is following the trends of slower growth.

The contrast to Obama’s reign is stark. The Fed kept Fed Funds at zero for 7 years (December 2008-December 2015 before they raised Fed Funds +25bps), but since 11/7/16 has raised rates 8 more times (.25-2.50%) after Trump was elected. Remember these policy effects show themselves 18 months later. As I write this 2nd quarter GDP is reported at 2.1%, which is higher than expected, but well below 3.1% for the first quarter. The world is slowing as everyone knows and GDP will not be influenced by a 25-basis point cut July 31st as it is a lagging policy tool. But it does drive confidence so stocks always react positively to the Fed lowering the Fed Funds rate, but the economy will not.

The empirical evidence is obvious: In the short run, the Fed is King. However, “Sovereign Debt” does not matter in the short and intermediate term because the Fed backs the debt with an unlimited printing press. Without a Federal Reserve System, the Gov’t could never borrow this debt. It should also be understood that since 2014 Commercial/Investment banks have been materially changed its rules. So now instead of the Fed, the Banks are the primarily printing force of the currency and the provider of the credit. Every time banks buy Gov’t Debt, they create an Arbitrage for themselves! The rules have changed to make selling of Gov’t debt a very profitable business for the banks. The banks have been the buyers of virtually 100% of the newly issued Gov’t debt this year. See my article in Zero Hedge for how this works: The 'Hidden' Rules Of The Bond Game | Zero Hedge—

So, what is the end game for the Monopoly Debt Game? It’s in the quantity of “interest” payments, which will become the largest component part of the total budget in 10 years, in my view. The CBO as of January 2019 projects “interest payments” in 2029 to be $928 billion without a recession. That’s 115 more months of recovery from today (currently 122 months on August 1st). Please note that the deficit will grow $3-4 TRILLION PER YEAR FOR 2-3 YEARS in the next recession, if you interpolate the consequences from 2008. As interest rates decline more debt will be created because it is borrowed and printed. As interest rates drop, gold becomes more competitive with low/negative interest paying debt. The world has 13 Trillion Euros of negative yielding debt. Gold in terms of the EURO is up 15.9% this year vs dollar gold +11.3%. This also causes all currencies to decline and creates more inflation and in theory (normally) higher interest rates.

Insanity 101 - Spending

Yet, programs like “The Green New Deal” would add $9.3 trillion (!!) a year to spending (which actually had a Senate vote) where this fiscal year’s spending was projected to be $4.412 trillion and Revenues of $3.515 trillion, with a deficit of $897 billion, but will be more than $1 trillion on 9/30/19. To talk of this Green Deal, increase in spending is purely imbecilic, but it shows the mindset of the now Socialist Party aka Democratic Party. It would mean $150 trillion of debt in 10 years (at best) which means at a 3.0% average interest rate a $4.5 trillion annual interest payment, which is equal to all of the CBO‘s projected “Mandatory Spending“ (Social Security, Medicare, and Medicaid) of $4,484 trillion in 2029.

Therefore, Gov’t debt under the current system (and all things being roughly equal) will always be funded - with printed/borrowed currency from the Fed and the banks, but it is the quantity of the Vigorish (Vig) e.g. interest, that will be debts doom. Why? See the underworlds method of loaning money and collections for a paradigm... If you borrow and repay the principal and Vig on time you can always borrow more. But have lots of medical insurance if you repay the principal and want to borrow to repay the interest! As long as the interest paid is substantially less than US taxes collected the game can continue. Interest today is about 11% of tax collections i.e. revenue. If interest paid is 50% of total taxes collected, we should be on alert.

All the empirical experience points to the long run (5-10 years) is what is to worry about. But debt and deficits do not matter year to year.

However, it should be in the forefront of all Gov’t dictates to remember this axiom: “Resist much, obey little; Once unquestioning obedience, once fully enslaved; NO Nation, State, City, of this earth, ever afterward resumes liberty”. Walter Whitman

#VictorSperandeo #TraderVic #DebtDeficits #FedFunds #Spending

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