Corner of Berkshire & Fairfax Message Board

General Category => General Discussion => Topic started by: abwillingham on September 06, 2020, 08:16:54 AM

Title: $27,000,000,000,000 US debt
Post by: abwillingham on September 06, 2020, 08:16:54 AM
First time poster here.   
How will the historically high US debt effect the market?
How does an investor prepare for what is coming?

 https://fred.stlouisfed.org/series/GFDEGDQ188S#0
Title: Re: $27,000,000,000,000 US debt
Post by: arcube on September 06, 2020, 11:05:56 AM
It will start to matter only when Democrat is a president. ;)

First time poster here.   
How will the historically high US debt effect the market?
How does an investor prepare for what is coming?

 https://fred.stlouisfed.org/series/GFDEGDQ188S#0
Title: Re: $27,000,000,000,000 US debt
Post by: scorpioncapital on September 06, 2020, 01:16:30 PM
Throughout the history of nations it's been a combination of growth, default (inflation, financial repression, pension cuts), taxes and austerity (service cuts). I don't expect any difference going forward. A combination of all of the above.
Title: Re: $27,000,000,000,000 US debt
Post by: LongHaul on September 06, 2020, 02:00:11 PM
Could you elaborate on that Scorpion?  Interesting comment.
Title: Re: $27,000,000,000,000 US debt
Post by: scorpioncapital on September 07, 2020, 01:34:27 AM
I like these articles - https://scholar.harvard.edu/files/this_time_is_different_short.pdf ,
https://www.hks.harvard.edu/publications/sovereign-bonds-waterloo

Growth and innovation require investments (lately by governments because the state seems to have really taken over). Interest rates are low. These investments may reduce the need for full default.

I feel it's unlikely some default to creditors of money won't happen as the debt is growing faster than the growth and innovations.

Geography is often destiny. There are some real banana republics out there but they have great weather. They will always be desirable.

Politicians and powerful people often tax labour, sales taxes, service fees first and at high rates and reserve privileges for themselves on business, corporate, and investment taxation. This philosophy may be changing but...

In a global competitive world where capital is mobile and countries don't mind to perpetuate these anti-good for the human race economic structures (look at the regressive taxes and oligarchs in so many countries) what can one do? Capital controls, exit taxes, restrictions on travel or even living abroad (ahem, Covid )?

Has debt helped more citizens of a country than in countries that don't spend so much on their people? Are some social goals for the vast majority (even if it doesn't affect you but costs you higher taxes actually) worth accepting? What is the right balance? Lots of interesting questions. I find it strange thought that governments have taken such a big role for debt and investment. Why is it individuals and private business aren't taking on the debt themselves? Or if they have, why is so much more public debt needed?




Title: Re: $27,000,000,000,000 US debt
Post by: LongHaul on September 07, 2020, 06:43:45 AM
I like these articles - https://scholar.harvard.edu/files/this_time_is_different_short.pdf ,
https://www.hks.harvard.edu/publications/sovereign-bonds-waterloo

Growth and innovation require investments (lately by governments because the state seems to have really taken over). Interest rates are low. These investments may reduce the need for full default.

I feel it's unlikely some default to creditors of money won't happen as the debt is growing faster than the growth and innovations.

Geography is often destiny. There are some real banana republics out there but they have great weather. They will always be desirable.

Politicians and powerful people often tax labour, sales taxes, service fees first and at high rates and reserve privileges for themselves on business, corporate, and investment taxation. This philosophy may be changing but...

In a global competitive world where capital is mobile and countries don't mind to perpetuate these anti-good for the human race economic structures (look at the regressive taxes and oligarchs in so many countries) what can one do? Capital controls, exit taxes, restrictions on travel or even living abroad (ahem, Covid )?

Has debt helped more citizens of a country than in countries that don't spend so much on their people? Are some social goals for the vast majority (even if it doesn't affect you but costs you higher taxes actually) worth accepting? What is the right balance? Lots of interesting questions. I find it strange thought that governments have taken such a big role for debt and investment. Why is it individuals and private business aren't taking on the debt themselves? Or if they have, why is so much more public debt needed?

Excellent post Scorpion.  Will check out.   Munger mentioned that he thought the democracies will get in trouble with debt. 
There is this very stupid notion out there that deficits and debt don't matter for countries.  I guess reality doesn't matter either - until it does.  Humans seem to need a crisis to learn basic stuff at times (I have been guilty of this too at times).  I think we will see some defaults or high inflation.  Italy anyone?

Sorta of related but I was reading part of Cody Lundin's book "When All Hell Breaks Loose" (I bought for a self insurance policy).  Great book but he is a huge advocate for self reliance and I think it is really pathetic that we are all so reliant on the government for so many things - and the media perpetuates this weakness and blame mentality probably because of their political ideology and kissing their customers asses. 




Title: Re: $27,000,000,000,000 US debt
Post by: Cigarbutt on September 07, 2020, 07:14:35 AM
I like these articles - https://scholar.harvard.edu/files/this_time_is_different_short.pdf ,
https://www.hks.harvard.edu/publications/sovereign-bonds-waterloo
Growth and innovation require investments (lately by governments because the state seems to have really taken over)...

Has debt helped more citizens of a country than in countries that don't spend so much on their people? Are some social goals for the vast majority (even if it doesn't affect you but costs you higher taxes actually) worth accepting? What is the right balance? Lots of interesting questions. I find it strange thought that governments have taken such a big role for debt and investment. Why is it individuals and private business aren't taking on the debt themselves? Or if they have, why is so much more public debt needed?
Excellent post Scorpion.  Will check out.   Munger mentioned that he thought the democracies will get in trouble with debt. 
There is this very stupid notion out there that deficits and debt don't matter for countries.  I guess reality doesn't matter either - until it does.  Humans seem to need a crisis to learn basic stuff at times (I have been guilty of this too at times).  I think we will see some defaults of high inflation.  Italy anyone?
Sorta of related but I was reading part of Cody Lundin's book "When All Hell Breaks Loose" (I bought for a self insurance policy).  Great book but he is a huge advocate for self reliance and I think it is really pathetic that we are all so reliant on the government for so many things - and the media perpetuates this weakness and blame mentality probably because of their political ideology and kissing their customers asses.
For those entering this debt and savings "crisis" territory, non-linear changes can happen but timing may be elusive as acute phases have apparently been reached since at least the 80s.
An interesting complementary article (perhaps more user-friendly) is the following:
https://dash.harvard.edu/bitstream/handle/1/11129154/Reinhart_Rogoff_Growth_in_a_Time_of_Debt_2010.pdf?sequence=1&isAllowed=y
i continue to be haunted by the threshold concept and by figure 4.
At the anecdotal level, it always amazes me how people save little and how they've come to rely (consciously or not) on the generosity of strangers (healthcare, pensions, old-age support, generic hardship etc) who, lately in the last few years, have decided to extend and pretend. Even the Fed is into social policy now. An inter-temporal mismatch can last for a very long time but an understanding of potential energy could be useful.
https://fred.stlouisfed.org/series/W207RC1Q156SBEA
The net national saving includes households, corporations and public entities. For the longest time (see Feldstein and Horioka for example (1980), during an era when a tall banker was aiming to raise interest rates), it's been shown that, through some short term noise, savings and investments are joined at the hip.
Conclusion: democracies will run into trouble with debt.
When will it matter?
Title: Re: $27,000,000,000,000 US debt
Post by: Xaston on September 07, 2020, 04:15:06 PM
I think it is really pathetic that we are all so reliant on the government for so many things

Politicians want to get elected, and the message that we as the government will help you is a much easier message to sell to voters than the message that we as the government will not help you.
Title: Re: $27,000,000,000,000 US debt
Post by: Packer16 on September 07, 2020, 05:19:36 PM
When you look at the US debt, the collateral for the US debt is the US economy not just the US government as the Federal gov't can tax to get revenue (so it has a first lien against all cash flows the US economy generates)  We have less debt than either Japan or Europe.  So they will be the test for high debt servicing.  IMO we will not have any problems unless govt's decide to not pay debts which would imply that their first lien is impaired in some way. 

Debt reduces growth due to the cost of servicing the debt/repayment versus consumption. Given the low cost of debt (& the continued expectations of this as long as people repay the debt), the servicing cost is low. We will continue to have deflation as long a debt repayment occurs.  Lacy Hunt/Irving Fisher have a good framework to examine debt crises historically.  The podcast below outlines this framework along with Fisher's paper:

https://ttmygh.podbean.com/e/teg_0006/
https://fraser.stlouisfed.org/files/docs/meltzer/fisdeb33.pdf

As to innovation, innovation is the result of R&D & investment in intangible vs. tangible assets.  This investment is a cost according to accounting versus an investment.  The US investment in tangible & intangibles asset has increased from the low 20% of GDP in the late 70s to the mid 20% now.  The mix has changed from 14% tangible/8% intangible to 10% tangible/16% intangible. So US investment is still robust.  A big use of tangible assets going forward will be the rollout of a renewable energy infrastructure so tangible asset investment should go up going forward.   


Packer
Title: Re: $27,000,000,000,000 US debt
Post by: BPCAP on September 07, 2020, 05:58:13 PM
There is no exit strategy for the debt. No plan or easy answers, especially in a democracy.

We will borrow and print money--until we can't.

At least we enjoy being in the brick house in the Pigs' neighborhood, with Europe and Japan (and many "emerging" countries) in the houses made of stick and straw. We'll see the Big Bad Wolf get others before us.

But...you know in the real story, the Big Bad Wolf really did get the Pigs eventually in the brick house. He smoked them out, or remembered wolves live in packs, called his friends over, and they eventually found a way to gut the Pigs.
Title: Re: $27,000,000,000,000 US debt
Post by: Packer16 on September 07, 2020, 06:14:24 PM
The exit is to pay down the debt over time.  This will reduce growth over time.  We have seen the government debt go up but personal debt go down.  Worse come to worse there will be high taxes on either high income individuals or large companies as the first lien is called.  However, since most US debt is owned by US citizens most if not all the debt can be rolled indefinitely.  This is what is happening to Japan.  Watch Japan for clues to how a large internally owned debt is dealt with. 

Given the advances in technology & supply, we can monetize the debt with low/modest inflation. We have not reached the point where debt has crowded out investment as real rates are very low.

As outlined in the Fisher paper, as long as the debt is being serviced, any new money printed will decrease velocity thus no inflation & more deflation as aggregate demand is reduced to service/payback the debt. 

Packer
Title: Re: $27,000,000,000,000 US debt
Post by: BPCAP on September 07, 2020, 06:30:19 PM
The exit is to pay down the debt over time.  This will reduce growth over time.  We have seen the government debt go up but personal debt go down.  Worse come to worse there will be high taxes on either high income individuals or large companies as the first lien is called.  However, since most US debt is owned by US citizens most if not all the debt can be rolled indefinitely.  This is what is happening to Japan.  Watch Japan for clues to how a large internally owned debt is dealt with. 

Given the advances in technology & supply, we can monetize the debt with low/modest inflation. We have not reached the point where debt has crowded out investment as real rates are very low.

As outlined in the Fisher paper, as long as the debt is being serviced, any new money printed will decrease velocity thus no inflation & more deflation as aggregate demand is reduced to service/payback the debt. 

Packer

All of that is the exit of course, but it's also the optimistic (maybe overly optimistic case) scenario, one that is fragile to adverse contingencies (war, demographics, pandemic, real socialism, etc.). An exit and plan/strategy are two different things, especially when people in control at any given point in time have 1) short term incentives vs. large, and 2) no skin in the game.

The necessary exit for someone in deep credit card debt is somewhat obvious, but he has no real chance of reform if he doesn't do anything differently.

I agree we can amass debts and print money for quite some time. Probably much longer than anyone thinks. Or how or when exactly that manifests itself beyond deflationary forces, greater share of public vs private when it comes to balance sheet and the economy, lower real returns, etc.--is anyone's guess. Something could break, hard. When? Who knows.

Thinking of all this makes me a little more understanding when it comes to those dabbling in gold or Bitcoin. Who am I to say their fears are wrongheaded or that what yhey're doing isn't appropriate?
Title: Re: $27,000,000,000,000 US debt
Post by: Packer16 on September 07, 2020, 07:05:28 PM
I think it reflects the reality today. To expect the system to blow up is the pessimistic IMO.  The government debt is different than credit card debt because someday the CC holder will die but not the US.  If the US dies, then there will be bigger problems than all of our portfolios.  The fear of the pessimistic case clearly is driving bitcoin & gold but there is a large opportunity cost to holding gold/bitcoin versus CF generating asset like stocks & real estate.

Packer
Title: Re: $27,000,000,000,000 US debt
Post by: Cigarbutt on September 07, 2020, 08:56:57 PM
^The reality today is seeing many peaks.

1-Funds allocated to intangible assets are expensed from an accounting point of view but are captured in final GDP measures. American GDP per hour grew 1.79 per cent per year between 1870 and 1920, 2.82 per cent per year between 1920 and 1970 and 1.62 per cent per year between 1970 and 2014 (similar out to 2020). Where is the productivity miracle?
2-If there is no crowding out, why is the productivity of debt (amount of GDP per unit of debt incurred) falling in the US and globally?
3-Isn't the definition of a restructuring a new beginning and not an end in itself and is doing more of the same and hoping for something good to happen the best strategy?

Recently, a "friend" sent me a link in order to improve "productivity". i wonder if reading this link means wasting precious intangible time.
https://www.insidehook.com/article/advice/best-products-apps-productivity
Of public credit is a good essay.
Title: Re: $27,000,000,000,000 US debt
Post by: BPCAP on September 08, 2020, 11:36:14 AM
I'm neither optimistic nor pessimistic, just acknowledging that it's perhaps not smart to either panic or totally dismiss the debt and money printing issue.

I, too, believe in buying quality, cash generating businesses with competitive advantages. I don't like the idea that one needs bonds, gold, bitcoin, etc. to get them where they want to go.

Underlying the buy and hold thesis (and putting one's head in the sand when it comes to bigger picture analysis) is the assumption that stocks, etc. can only go up over time. That's been the case in the U.S. for quite sometime,;but worldwide and over time, we have been quite the exception rather than the rule. There's no guarantee our good fortune is permanent or unbreakable.

Countries of prosperity and law often found themselves in a very different system. I was told two stories, of investors in France in 1939 and Shanghai in 1949. Both never thought they had to do much differently as there would be a return to the mean and things would blow over. The only investment decision for both investors was to get out of town, forever, in retrospect.

Those stories and others like it have stuck with me (talk to an immigrant, especially ones from SE Asia, Africa, Eastern Europe and you'll have a greater appreciation and definition of risk). They have made me grateful for the time and place I was born. They also make me realize nothing is certain, despite what Bogle and Buffett say.

But, of course, I hope (and still think), these wisemen are more likely than not to be right.
Title: Re: $27,000,000,000,000 US debt
Post by: rkbabang on September 08, 2020, 01:53:31 PM
There is no exit strategy for the debt. No plan or easy answers, especially in a democracy.

We will borrow and print money--until we can't.

Exactly.  The best analogy for democratic government is it is like a cancer that will grow and consume more and more resources right up until it can't because the host is dead.
Title: Re: $27,000,000,000,000 US debt
Post by: LongHaul on September 09, 2020, 04:36:17 PM
I have no idea when country defaults will occur but if history is any guide they will occur.  There have been waves of cycles of default in history.  Frankly I don't think ANYONE really knows when and if a default or high inflation will occur - way too many variables.  Even the PHD economists have no idea and I don't trust their viewpoint.  In the US historically before ~1970 it seems like both sides wanted and had low debt.  THat is now gone and the mantra of more debt - no problem defies common sense.  Which means it is likely a higher probability to occur in my opinion.

https://en.wikipedia.org/wiki/List_of_sovereign_debt_crises
Title: Re: $27,000,000,000,000 US debt
Post by: Packer16 on September 10, 2020, 04:42:41 AM
IMO there are 2 factors most forget when talking about debt.  First, the debt is the first claim (via taxes) on the economy of the country.  As long as the country is viable, the debt never has to be repaid but just serviced.  Also, in the case of large domestic debt countries (incl US), the debt of a country is the lowest risk asset available to investors.  These are the reasons why Japan will not explode until either there savings disappear and/or there economy (GDP) declines sharply & permanently.  I am not saying changes in financial conditions will not effect the currency on the edges but in the currency game you are compared to the next best alternative & at this point all large alternative are worse.

Packer
Title: Re: $27,000,000,000,000 US debt
Post by: wabuffo on September 10, 2020, 06:35:32 AM
I tried hard to resist this topic - but its like cat-nip - so here goes.

1) Everything about how we think and talk about US Federal debt is wrong.  The framing is wrong and the structure is wrong.  Other than that...  8)

A sovereign issuer of currency that doesn't peg to gold runs a pay-go system.  There is no debt to pay back - its an accounting fiction.  "Debt", such as it is, will always get "paid back" by rolling it over at redemption time with new "debt".   There can't ever be a default for many reasons.   What matters is the real-time deficit spending relative to the size of the US and world economies, in the case of US deficit spending.  A sovereign spends first, creating a bank deposit somewhere in the private sector and then withdraws some of it via taxes or fees or legal judgements, etc...  In fact, what gives a sovereign currency its initial value is that it is the only thing with which the private sector can extinguish its tax obligations to the sovereign.  But that's an initial condition, after which the whole monetary system begins to run on its own as a flywheel.  The important thing to key in on is that sovereigns must run a perpetual deficit year-in and year-out. If they try to run a multi-year surplus, they will reduce money and unleash deflation.  So what matters is running a deficit that is "reasonable" in size over time.

Not all governments are sovereigns - state, provincial, local (even national governments in Euroland) don't control or issue a currency and as such are like you and I.  Their debt is real debt and they can and do default - since in these cases they must find a way to balance cash flows over time (or run out of money).  Sovereign governments that issue sovereign debt in a foreign currency can also default. A sovereign that pegs to gold (like the old days) and then issues debt is also issuing debt in a de facto “foreign currency” if its currency is redeemable in gold.

2) The sovereign government's deficit spending is what provides "money" to the private sector.  The private sector then decides what the composition and mix of that money will be (including how much Treasury debt it wants to hold). 

In the case of the US government - it comes in three forms (via the US Treasury and its "bank", the Federal Reserve).  Here are the real-time balances of each liability type (as at Sep 2, 2020).

a) currency in circulation                                                                                                ($ 2.022 trillion USD)
b) bank reserves                                                                                                            ($ 2.851 trillion USD)
c) net Treasury bills/bonds held by the public (less: holdings of Tsy debt by the Fed)           ($16.444 trillion USD)

Thus at this point in time, the total liabilities of the Federal government are $21.316 trillion (the headline to this thread is wrong). These are by definition private sector assets and represent the cumulative sum total of total net deficit spending by the US federal government in its entire history. 

When I say the mix of these three liabilities is determined by what the private sector wants in terms of mix - it helps me to think of these three types of liabilities in the context of the Federal Reserve acting as a bank for the US private sector.  Like a bank, it offers its bank "customers" three types of accounts (which of course are liabilities of the bank):

1) vault cash  (= currency in circulation)
2) demand deposits  (= bank reserves)
3) time deposits, locked up for 30-days up to 30-years  (= treasury bills/bonds).

Historically, the US private sector has preferred the time deposit option because it is more liquid and because it earns interest (1 and 2 don't although 2 has in the past).  In fact, interest rates on all these liabilities are not free-market set - instead they are at the discretion of the US Treasury/Fed.  2) is less liquid because it can only be held by banks and thus not very helpful to the private sector.   The time deposits are risk-free and super-safe and thus are the world's best collateral for lending. In other posts on WFC and the Fed, I also showed that as the US Treasury deficit spends, bank reserves would accumulate in large and unhelpful amounts, so Treasury debt issuance performs an important reserve maintenance function.

3) Of course, we knows this but part of the deficit spending/US money creation goes overseas because of the trade deficit. 

The US more so than Japan, China or Euroland has more fiscal space because the rest of the world wants to net save a portion of its rising wealth in USD and USD assets by net exporting to us.  So not only does the US Federal govt need to run a deficit big enough for domestic savings needs, it must run an extra larger deficit to also accomodate the foreign sector’s need for the reserve currency.  The trade deficit causation is usually talked about in terms of over-consumption by the US when in reality the cause is net exporting by other countries to the US.   It is estimated 60% of 1), 30% of 2) and 20% of 3) are held by non-US residents, foreign banks or organizations and thus circulate outside the domestic US economy.

Will the US continue to be the world's super-power and reserve currency?  The US doesn't just have an advantage due its political system (constitutional republic) but more so than other countries it also has geographic advantages as well that reinforce its political and economic advantages.  I certainly wouldn't want to bet against it.

4) So - nothing to worry about?

Of course not.  But its not paying back the debt that we should worry about.  Its the real-time deficit spending.  As it spends in real-time, the federal government is competing with the private sector in buying goods and services and therefore it is affecting prices.  It is also affecting the real-time supply of money.   I like to measure the real-time growth in federal liabilities (money) by looking at the gold price.  That's because gold supply rises 1.8% per year.  Its not a perfect benchmark - but I feel it is the best one out there. Will that lead to currency debasement because right now federal liabilities are increasing much faster than 1.8% per year?  Gold seems to be feeling it.   Of course, supply is one factor, but demand for money is another.   In late March, worldwide demand for US dollars surged because of a global panic due to the virus.   Gold actually fell pretty sharply for a few weeks in March even as supply of dollars was increasing faster than gold's 1.8% typical increase.   That global panic has receded now, but supply of USD is still ramping though at a lower rate than April-June.   Time to worry?  Maybe - I own some GLD and GLD LEAP calls as insurance - so I'm not agnostic about all this stuff.

Anyway - this is all my opinion and of course, I could be wrong.  But its the model that I use in my head to try to understand the macro monetary flows and has served me well in trying to understand what's going on.

wabuffo
Title: Re: $27,000,000,000,000 US debt
Post by: LongHaul on September 10, 2020, 05:36:41 PM
Great post Wabuffo.  There is much regarding this I don't understand, not from your writing but because of the complexity of the topic.
Title: Re: $27,000,000,000,000 US debt
Post by: cubsfan on September 10, 2020, 06:17:30 PM
Great post Wabuffo.  There is much regarding this I don't understand, not from your writing but because of the complexity of the topic.

Ditto -  Fabulous post Wabuffo and great contribution. Learned a lot in how to think about the topic.
Title: Re: $27,000,000,000,000 US debt
Post by: scorpioncapital on September 11, 2020, 02:25:16 AM
Excellent post. I would also say that for those parts of society/government that can go bankrupt or have no printing press there is a very real risk of reduced quality of life. Usually this creeps on through user fees, more aggressive 'penalties' for all kinds of daily transgressions you may not even know you had done. Sometimes higher direct taxation. In a crisis, how much can a government squeeze its residents before they start cheating? Actually you see a lot of black market and corruption in some countries because people have lost faith in the government. Not just lies or policy, but too high costs, low services, and insufficient incomes.
Title: Re: $27,000,000,000,000 US debt
Post by: Cigarbutt on September 13, 2020, 04:51:24 PM
The insights in this thread are interesting, especially the fiscal room concept and the unrecognized intangible aspect.

The following will be light on numbers but here’s the most recent long term CBO outlook:
https://www.cbo.gov/system/files/2020-09/56517-Budget-Outlook.pdf

Of note, the CBO people periodically report how reliable their “forecasts” are but base their self-administered conclusions on short term segments (year to year) in an auto-correlated way and longer term trends are missed, often wildly so. It’s hard to “see” the longer term outcome from here as the picture will be, as always, very dynamic but there are reasons to think that economic growth (tax revenues) will be muted and that government expenditures may surprise on the upside. The potential resilience is enormous so this exercise is more like trust but verify. The fiscal room and human ingenuity will be tested, i would say.

Back to the future (unaudited), from previous CBO disclosures (all debt measures correspond to government debt held by public):
-From 2000. The theme had to do with surpluses(!). Mid-range scenario expected for public debt to GDP, for 2020, was an actual net negative position (all debt reimbursed and more!).
-From 2010. The theme was more like a new normal. Worse-case scenario expected for public debt to GDP, for 2020, was at 80 to 90%.
-From 2020. Public debt to GDP will be at about 98%. The theme is (IMHO) unusually optimistic under the circumstances as it is assumed that, somehow, the very deep secular trend that has been deeply entrenched for decades will resolve with a free lunch and a debt to GDP at 109% is expected by 2030..

-----

Let’s try to kill the pessimistic thesis. The US is used as an example because of its size but similar concepts are playing out in most large developed economies and even China. Japan just reported that there was actually no limit whatsoever under any circumstances concerning the amount of government debt that they can issue… The US has the cleanest dirty shirt but it holds the international reserve currency.

--

From an international perspective, in 2003, Mr. Buffett weighted in on the question.
https://archive.fortune.com/magazines/fortune/fortune_archive/2003/11/10/352872/index.htm

Since then, the trade deficit has relatively decreased to some degree but remains somewhat negative, meaning that there are net capital flows going into the US. Looking back, this happened also to a similar degree in the late 1800s when the international capital was invested in productive capacity: industrialization, not consumption. Where is the international capital going now and is it invested in productive capital? Mr. Buffett was worried that a persistently high negative current account balance would mean a declining ownership of real domestic assets. If one follows the numbers, this has not really happened. Dissecting the numbers, the net international capital flows going into the US, mostly, are not coming in as equity purchases or foreign direct investments, they are coming in to buy US government debt. This results in a situation where the international holders of the debt assets (who are also the prospective buyers of newly issued US government debt) would not benefit from rising rates or from a depreciation of the USD. Even in the absence of the final gold restraint repealed in 1971, the US continues, absolutely unabated, to hold an exorbitant privilege. Isn’t it bothersome that there does not exist a limit on how negative the trade balance can be for a country that has a growing net negative investment international position? So, the net capital flows go into debt, as a first but non-effective lien on US economic capacity and that part does not really answer the question as to the productivity of the negative balance so let’s look at the domestic aspect.

--

From a domestic perspective, playing with basic math, domestic savings equal domestic investments adjusting for the current account balance. Since the negative current account balance (savings glut from others) is funneled to additional debt, one can focus on the domestic aspect of this question: is the net debt issued at large going to productive use or to consumption?

It appears clear that the only way total debt could reach today’s levels is because of low and declining interest rates and it is quite obvious that rising interest rates with today’s and tomorrow’s debt levels are simply an impossible proposition. Given that interest rates have become now mostly managed (and to be yield-curve controlled), domestic policy makers have developed a domestic exorbitant privilege, thereby removing another natural restraint to debt.  Isn’t it bothersome that there does not exist a limit on how high the government debt can be for a country that has growing unrecognized off-balance sheet liabilities? The key question therefore remains: Is the debt going to productive purposes? Can we grow out of it, eventually, assuming present secular trends?

Net national savings (government, households and corporates) have been going down and are now net negative meaning a corresponding trend for net investments. This means that the capital assets after depreciation will have a tendency to go down. The general conditions of infrastructures may be a reflection of that. From that perspective, it is hard to argue that debt (government included) is going to productive purposes. This would suggest a negative self-feeding and eventually non-linear loop.

What about the intangible investments that may not be recognized as lasting value because of modern accounting’s ‘failure’ to grasp the lasting value of these expenses? There may be some kind of delay and evolutionary changes may become revolutionary but, so far, these productive expenses have not showed up in productivity numbers and in overall GDP growth, in fact, quite to the contrary.

So far, tangible effects of residual tangible and intangible investments are not supporting the argument that debt is going into productive use and are supporting the argument that debt is going mostly into consumption, various non-productive ‘services’ and status-quo maintenance.

--

Periodically, it has been argued that the market has been better suited to recognize the intangible value created by intangible investments. A basic premise here on my part is that the net worth of a country should be correlated to its net earnings. The graph can be updated to September 2020.
https://fred.stlouisfed.org/graph/?g=Egr#0

Clearly, something has been going on here, with an upward trend occasionally disturbed by incomplete(?) corrections.

Right around the first peak (following link from 1999), it was argued that the market should be relied upon to judge the value of intangible investments. Recognizing realized gains and market value of traded securities would have better reflected the ‘true’ economic progress. The proposed reform would have also conveniently contributed to deeply needed upward adjustments in the national private savings rate.
https://fraser.stlouisfed.org/files/docs/historical/frbphi/businessreview/frbphil_rev_199907.pdf

Right around the second peak (housing bubble), it was argued that raising house prices were based on fundamental and often unrecognized intangible (including hedonistic) principles. Mr. Bernanke, in real time, failed to appreciate the disconnect and failed to assess the potential consequences as the downturn started. In retrospect, he (and his tribe) attributed the “bubble” to others (!) including international cash flows leading to global demand of mortgage-backed securities (!) and to the fact that financial institutions were affected by a growing component of intangible assets and “declining quality of capital” during the run-up (!) among others, giving little attention to the very unusual low interest post dost-com response leading itself to unusual leverage and, in large part, to the result we know of now and to the more-of-the-same monetary policy response that the Fed has engineered, so far, in response to the central thought process.

And the trend is again up, reaching new heights, and the underlying justification is still based on the notion of unrecognized intangible value. It may be different this time?

--

(http://www.haver.com/comment/200911r.png)
It is being reported that the US annual deficit will reach about 26K per household for 2020.

A country (especially if it can print money) is different from an individual or a household as it is, in theory, a perpetuity. However, individuals and households have to live with certain constraints that are conducive to survival which equates to a variable but definite deadline. There was no doubt that the country would survive the virus as the concern was always centered on the host. The virus will be eventually conquered and may even disappear but the crying wolf says that the host will live on.

In David Copperfield, Dickens described how the difference between happiness and misery was really a function of the bottom line. I wonder about the risk of the transition between Great Expectations and Hard Times.

Apologies for the shared negativity but it seems to me that the debt expansion is extremely foolish and nobody I know gives a hoot.
Title: Re: $27,000,000,000,000 US debt
Post by: LongHaul on September 13, 2020, 06:45:51 PM
Wabuffo,

What is your best guess then to how this plays out in the US and Japan which have a lot of debt but also have their own currency?
Seems like could be a big cost at some point.

Is the most likely scenario high inflation and higher taxes with lower spending in the US and Japan?

Also,  how about historically all the countries that defaulted - Russia and Argentina in the last 25 years.  They had their own currency but issued dollar debt but still defaulted - couldn't one have argued that they could of just issued more debt in local currency and paid back their USD bonds rather than defaulted?  I wonder if it is sometimes easier politically to just default and screw the creditors.

It is interesting to me that if there is debt to the public of 200% of GDP then at "normal interest rates of say 5% interest costs alone would be 10% of GDP which is much harder to keep paying.

Title: Re: $27,000,000,000,000 US debt
Post by: wabuffo on September 14, 2020, 05:46:25 AM
From 2000. The theme had to do with surpluses(!). Mid-range scenario expected for public debt to GDP, for 2020, was an actual net negative position (all debt reimbursed and more!).

CB - one of the more interesting periods of economic history (for a nerd like me) was the 1997-2001 period of consecutive federal surpluses.  The United States was actually paying down its Treasury debt!   But be careful what you wish for.  It unleashed a period of monetary deflation and (along with China's entry in the WTO in 2001 ramping up the trade deficit) triggered the beginning of the mortgage crisis that blew up years later.  There is an interesting macroeconomics book to be written about this period but no one is writing it, unfortunately.   Sad.

wabuffo
Title: Re: $27,000,000,000,000 US debt
Post by: wabuffo on September 14, 2020, 05:59:44 AM
What is your best guess then to how this plays out in the US and Japan which have a lot of debt but also have their own currency?  Seems like could be a big cost at some point.

I'm probably going to disappoint you but I see a lot of one-timers here.  For one, tax revenues during the pandemic have collapsed.  The biggest source of Federal Tax revenues is employment income.  It brings in around $3t per year - give or take.   Here is a graph of federal employment withholding taxes on a rolling 2-week basis using the Daily US Treasury statements (here - I'm trying to simulate a rolling 2-week national payroll account extrapolated for an annualized number).

(https://i.ibb.co/Jnb703W/Employment-Withholding-Taxes.jpg)

The US is running about $500B+ below where it should be in annualized federal tax revenues for employment payroll withheld at source.   Hopefully that should normalize at some point.   

In addition, most of the spending programs are one-time in nature and are ending at the Federal level.  While there may be continued support - it looks like it will be at lower levels.  So the history of these kinds of one-time shocks or national economic crises (like wars) are that the deficit blows out for a few years but then reverts back to its normal run rate after a few years' time.

Is it possible that this time is different?  Are politicians starting to buy into the MMT prescriptions of running much larger deficits has very little cost?  I have no idea.  But as I said, I am getting a bit nervous that MMT is being bandied about as an excuse to really blow out Federal spending.   That's new - but I don't know if its really gone mainstream yet.

wabuffo
Title: Re: $27,000,000,000,000 US debt
Post by: Cigarbutt on September 14, 2020, 06:06:42 AM
^Debt like greed is good, with the proviso that it needs to be kept to a reasonable level and for productive purposes. The definition of those terms is up to you.
The 1997-2001 period is interesting (this was the time i started to take investing seriously) indeed but it's not clear if it's worth it to discuss what is correlation or causation and the direction of such?
What is amazing though is the idea that cycles no longer exist. When we entered the macro-prudential era, the initial terms of the contract implied to alternate between using a margin of safety and then building it (which IMO is the second-best approach) but this MMT thing just feels like a huge free lunch.
Title: Re: $27,000,000,000,000 US debt
Post by: wabuffo on September 14, 2020, 06:14:06 AM
The 1997-2001 period is interesting (this was the time i started to take investing seriously) indeed but it's not clear if it's worth it to discuss what is correlation or causation and the direction of such?

"For the federal government to run a surplus, the private sector must run a deficit (ie, borrow to consume or spend)."   

wabuffo
Title: Re: $27,000,000,000,000 US debt
Post by: rb on September 14, 2020, 06:48:52 AM
Wabuffo,

What is your best guess then to how this plays out in the US and Japan which have a lot of debt but also have their own currency?
Seems like could be a big cost at some point.

Is the most likely scenario high inflation and higher taxes with lower spending in the US and Japan?

Also,  how about historically all the countries that defaulted - Russia and Argentina in the last 25 years.  They had their own currency but issued dollar debt but still defaulted - couldn't one have argued that they could of just issued more debt in local currency and paid back their USD bonds rather than defaulted?  I wonder if it is sometimes easier politically to just default and screw the creditors.

It is interesting to me that if there is debt to the public of 200% of GDP then at "normal interest rates of say 5% interest costs alone would be 10% of GDP which is much harder to keep paying.
As Wabuffo explained earlier.

In respect to countries that issue debt in their own currency the debt is not so much real. It is money that a country owes itself. Japan is actually the best case of this because they haven't been running trade deficits. So those JGB that are the private sectors' assets. So what actually happens will be dictated by the private sector's appetite for assets and the associated impact with that. In your example you mention interest rates of 5%. OK, well what's gonna cause rates to go to 5% and what effect will that have on the economy?

To take your Japan example, if you're gonna have debt paydown in Japan that will be because the population will want to hold less bonds. That means that they will take that money and spend it which will actually be a very positive thing for Japan.

In the case of Russia, they had to borrow in foreign currency. That's because they were running current account deficits. Basically they were a net importer of goods. These goods were sold in rubbles. But none of the exporters wanted to hold rubbles so they exchanged them for dollars. Then the Russian government had to go out there and borrow those dollars in order to balance the equation.
Title: Re: $27,000,000,000,000 US debt
Post by: Cigarbutt on September 14, 2020, 07:02:38 AM
The 1997-2001 period is interesting (this was the time i started to take investing seriously) indeed but it's not clear if it's worth it to discuss what is correlation or causation and the direction of such?
"For the federal government to run a surplus, the private sector must run a deficit (ie, borrow to consume or spend)."   
wabuffo
Thanks for the reminder related to elementary school math. :)
However, even if the saving, investing or withholding have to achieve mathematical balance, this balancing does not mean net saving or, equivalently, net investment will be high, zero or negative. The balance also does not mediate what is consumed and what is invested. The following graph shows the mathematical balance always at zero but does not help to understand what has happened to the saving or investing trend:
(picture borrowed from O'Shaughnessy Asset Management and saved for an example here)
(https://portalvhdst3l6zspf51mvl.blob.core.windows.net/osam/blogphotos/photo_1878.jpg)

If you want to apply this 'concept' to what has recently happened with Covid (just an acceleration of deeply entrenched secular trends IMO), look at the following:
(picture borrowed from Goldman Sachs and saved for an example here)
(https://www.edgeandodds.com/wp-content/uploads/2020/09/image-23.png)
The government borrowed to compensate for the recipients in need of saving (the areas under the negative and positive curves do match quite nicely) and to support consumption and now we're back to where we were before (long term trend line) except that debt to GDP has risen to a significant degree.
It's hard to swallow that the recent rise in debt is "not so much real". ???
Title: Re: $27,000,000,000,000 US debt
Post by: LongHaul on September 14, 2020, 01:46:26 PM
Thanks for the response Wabuffo and others.  I think the big deficit is more than one time and has been higher in the last 12 years than historically.

https://www.brookings.edu/policy2020/votervital/how-worried-should-you-be-about-the-federal-deficit-and-debt/#:~:text=For%20fiscal%20year%202019%2C%20which,GDP)%20in%20the%20previous%20year. (https://www.brookings.edu/policy2020/votervital/how-worried-should-you-be-about-the-federal-deficit-and-debt/#:~:text=For%20fiscal%20year%202019%2C%20which,GDP)%20in%20the%20previous%20year.)

I have no idea what might make interest rates rise.  I really don't understand how they have been this low.
But I think it is very likely that they go up over the next decade to at least over the inflation rate.  Especially if you get a big country that defaults and scares the crap out of the
other democracies.  Historically financial panics came about when big banks or borrowers went under.

700 year low of interest rates.
https://www.visualcapitalist.com/700-year-decline-of-interest-rates/
Title: Re: $27,000,000,000,000 US debt
Post by: Spekulatius on September 14, 2020, 06:35:11 PM
Thanks for the response Wabuffo and others.  I think the big deficit is more than one time and has been higher in the last 12 years than historically.

https://www.brookings.edu/policy2020/votervital/how-worried-should-you-be-about-the-federal-deficit-and-debt/#:~:text=For%20fiscal%20year%202019%2C%20which,GDP)%20in%20the%20previous%20year. (https://www.brookings.edu/policy2020/votervital/how-worried-should-you-be-about-the-federal-deficit-and-debt/#:~:text=For%20fiscal%20year%202019%2C%20which,GDP)%20in%20the%20previous%20year.)

I have no idea what might make interest rates rise.  I really don't understand how they have been this low.
But I think it is very likely that they go up over the next decade to at least over the inflation rate.  Especially if you get a big country that defaults and scares the crap out of the
other democracies.  Historically financial panics came about when big banks or borrowers went under.

700 year low of interest rates.
https://www.visualcapitalist.com/700-year-decline-of-interest-rates/

Interest rates were low in the 50’s and 60’s too, especially considering there economic growth. The spending from the Vietnam war was one factor increasing inflation and interest rates.

This is a Fiat System and it is build on trust. Once trust wanes, all bets are off. The Fed will lose control of the narrative, the USD May sell off, inflation will rise. Once the cat is out of the bag, it will be very difficult to get it back in. last time this happened we needed a Volker to ale some hard decision. We will see what happens next time.
Title: Re: $27,000,000,000,000 US debt
Post by: scorpioncapital on September 15, 2020, 04:23:00 AM
And how did Volker erase decades and years of mistrust? I mean in countries like Greece or Argentina you have serial default for their entire history, one after the other but far enough apart that old incidents are forgotten. I would say a short memory does more to clear distrust (temporarily) than any action by a harsh central banker. Even still you would expect average rates to be permanently higher the more such incidents exist.
Title: Re: $27,000,000,000,000 US debt
Post by: wabuffo on September 15, 2020, 07:24:01 AM
I have no idea what might make interest rates rise.  I really don't understand how they have been this low.

They are low because the rate paid on US Treasuries at issuance is at the discretion of the US Federal government.  It can be zero forever, if that's what the Treasury decides. 

That's because:
a) the US Treasury spends first, creating new reserves in the banking system's accounts at the Federal Reserve. (this creates new financial assets for private sector)
b) then the US Treasury comes in and removes these excess bank reserves via borrowing (conducts an asset swap with private sector for previously created financial assets). 

In true monetary and economic terms, its not really borrowing and using that word confuses everyone. US Treasury debt issuance is a hygiene activity for bank reserves - otherwise they would accumulate and drown the banking system.   TINA - there is no alternative.  In fact, the private sector prefers a Treasury asset over a bank reserve because bank reserves are illiquid and trapped at the Fed.  Treasuries are used as collateral because there is a shortage of credit-risk-free collateral around the world.  So even in a world of zero rates on bank reserves and zero rates across the entire yield curve, there would still be a preference for US Treasury debt due to its liquidity and safety as collateral.

The only real constraint is not borrowing capacity, then, because its not really borrowing.  The real constraint from deficit spending is currency debasement.  If there is enough currency debasement such that there is obvious inflation, then what will the Fed and US Treasury do?  That's the big question.  I don't have an answer - but the Fed is hinting that they will tolerate it and keep rates low for a long time to compensate for undershooting inflation in the past.  There do not appear to be any Volcker's at the Fed.  And I say all this while believing that the Fed is not as powerful as everyone believes (the real 800-lb gorilla of monetary policy is the US Treasury).

In addition to there being no Volckers (who I think is overrated frankly), I would add that there are no Greenspans either (who I think was the best Fed Chairman ever).  Despite the grief Greenspan gets, he always kept an eye on the gold price (as well as other commodities) and used it to guide Fed policy.  There's some quantitative proof for this.  Greenspan kept the USD more stable in price vs gold for longer than any other Chairman of the Fed.  To this day I'm convinced that Greenspan kept his target at $350/oz (10x the old gold price peg pre-Nixon closing the gold window in 1971).  The average price of gold during his long tenure averaged pretty much at this target price (with a +/- $50 band).   

1) Here's a table I once made up (and just updated for Powell) to show how Fed Chairman since 1971 have done vs the price of gold.   Greenspan shines.  (so does Yellen actually - though she wasn't there long enough to really tell).

(https://i.ibb.co/NpJ03vT/Fed-Chairmen-and-Gold.jpg) (https://ibb.co/Y815WC0)

2) Here's an academic study by George Selgin (I recommend reading his stuff if you are interested at all in central bank operations) that also hypothesizes that Greenspan followed gold in his rate decisions. [not sure if this link works - so I will attach a pdf of this academic paper as well]

https://www.semanticscholar.org/paper/The-Price-of-Gold-and-Monetary-Policy-Lastrapes-Selgin/c5d577dd46e898781bfeff704436a483b6ac72db?p2df (https://www.semanticscholar.org/paper/The-Price-of-Gold-and-Monetary-Policy-Lastrapes-Selgin/c5d577dd46e898781bfeff704436a483b6ac72db?p2df)

But I think it is very likely that they go up over the next decade to at least over the inflation rate.  Especially if you get a big country that defaults and scares the crap out of the other democracies.  Historically financial panics came about when big banks or borrowers went under.

Well every reserve currency default is different.  But it is interesting to examine how the UK lost its reserve currency status after World War I.  In its case, there were two reasons
1) it spent heavily to fund its war effort during World War I and eventually lost its military pre-eminence to a rising United States whose entry into WWI was the difference-maker in winning that war.
2) it borrowed heavily to buy supplies and armaments from the US to fight WWI - but its borrowings were largely in USD rather than GBP.  The UK also made a mistake trying to re-peg its currency to its pre-WWI gold price unleashing UK deflation.

So perhaps those are the two red flags for to watch for reserve currency loss:
a) getting eclipsed as the most powerful military in the world, and
b) and being forced to conduct sovereign borrowing in a currency that is not your own.

At present, there does not appear to be any clear and present danger to the United States' reserve currency status under either condition a) or b).   Finally, I would add another competitive advantage that the United States has.  Its geography:
https://worldview.stratfor.com/article/geopolitics-united-states-part-1-inevitable-empire (https://worldview.stratfor.com/article/geopolitics-united-states-part-1-inevitable-empire)

wabuffo
Title: Re: $27,000,000,000,000 US debt
Post by: Munger_Disciple on September 15, 2020, 11:23:51 AM
Quote
They are low because the rate paid on US Treasuries at issuance is at the discretion of the US Federal government.  It can be zero forever, if that's what the Treasury decides.

wabuffo,

By this do you mean that the Federal Reserve is a subsidiary of the US treasury? I thought the Fed set the interest rates (used to be ST only, now possibly the whole yield curve).

-MD
Title: Re: $27,000,000,000,000 US debt
Post by: wabuffo on September 15, 2020, 01:47:20 PM
By this do you mean that the Federal Reserve is a subsidiary of the US treasury?

Munger_Disciple - the first part of your question opens up a very interesting thread.  Who owns the Federal Reserve System?  Of course, the simple answer is that its conduct is regulated by Congress.  The Fed is a product of the 1913 Federal Reserve Act and the US Treasury is the arm of the Executive Branch that manages the public purse as per the laws passed by Congress (taxation, spending, debt limits, etc).

But what exactly is the ownership structure of the Fed?  In what ways is it independent of the US Treasury?  In what ways is it dependent on the US Treasury?

Many people mistakenly think that the Federal Reserve System is a private entity because chartered banks must purchase "shares" in their local Regional Federal Reserve Bank in order to become a Federal Reserve "member bank" and have access to the Federal Reserve.  Thus, the conclusion must be that the Federal Reserve System is owned by the chartered member banks and is therefore a quasi-private organization.  But there was a recent Federal Court Case (U.S. v Wells Fargo) that decided this issue.

https://law.justia.com/cases/federal/appellate-courts/ca2/18-1746/18-1746-2019-11-21.html (https://law.justia.com/cases/federal/appellate-courts/ca2/18-1746/18-1746-2019-11-21.html)

In this case, the Federal Court ruled that the "shares" in the regional F.R. banks owned by chartered banks are really debt contracts of the Regional F.R. Banks and that net profits of the Federal Reserve System all belong to the US Treasury (and not the chartered banks through their "shares").  So there you have it -- the US Treasury owns the equity of the Federal Reserve.  In addition, the settlement balances in checking accounts created for the benefit of chartered banks (i.e., bank reserves used for clearing payments in the Federal settlement system) that the Fed creates are also a product of the US Federal government even though they are "unappropriated dollars".  IOW - the chartered banks trade a private sector asset for a public sector asset (i.e, a bank reserve - which in turn is "an asset" of the Fed govt via the US Treasury).  So much for the idea that bank reserves can be "withdrawn" from the Fed to make loans....

Basically at the inception of the Federal Reserve, the US Treasury "purchased" a payments system infrastructure (a public good) and provided it to the central bank in exchange for an equity claim equal to 100% ownership (and retaining all "profits" the Fed makes).  The Fed thus becomes the US Treasury's subsidiary (ie, the US Treasury's bank) performing three important functions: a) running the US Treasury's general account for spending and taxing transfers to/from the private sector banks, b) running the national payment clearing system with the chartered banks that are members of the Federal Reserve System, and c) acting as custodian/transfer agent for the US Treasury's debt issuance by recording all transactions and ownership.

In an earlier post, I said the Federal government has three types of liabilities:
a) currency in circulation
b) bank reserves
c) US Treasury debt.

One can now see that, in effect, these are all, ultimately, liabilities of the US Treasury (some directly, some via the Fed).   Currency is minted (or printed) inside the US Treasury organization and delivered to the Fed when it issues an order to the US Treasury to provide it with currency (that's why the Secretary of the Treasury signs US banknotes and not the Chairman of the Fed).  We saw that the Federal Court basically ruled that even bank reserves created by the Fed are unappropriated "property" of the US Treasury/Federal Government.  And of course (c) is obviously an obligation of the US Treasury.

After its creation and throughout most of its history, the Fed built up its balance sheet by issuing currency to the private sector in exchange for Treasury bills/bonds.  Since the Fed ran a very asset-light balance sheet, the remainder of its balance sheet came from banks freely adding reserves to use the payments system by borrowing them from the Fed in exchange for collateral (more Treasury bills/bonds).  In fact, right up to the GFC crisis, this was the typical Federal Reserve balance sheet - dominated by holdings of US Treasury holdings on the asset side and banknotes (ie, currency in circulation) on the liability side, each accounting for 90% of the respective sides of the Fed balance sheet.

All in all - a long way of saying that the only way the Fed is independent is in how it sets the interest rate on reserves.  In all other ways, operationally as well as equity-wise it is dependent on the US Treasury and the US Federal Government and its accounts really should be looked at in consolidation with the US Treasury.  It is no more independent on most of its activities than the Post Office is.

wabuffo
Title: Re: $27,000,000,000,000 US debt
Post by: Munger_Disciple on September 15, 2020, 09:20:46 PM
Thanks wabuffo for such a lucid explanation of the interconnection between the treasury department and the fed. So it seems the only thing fed can do independently of the treasury dept is to set interest rate on bank reserves and treasuries and control what assets can the private sector can own. By purchasing MBS, treasuries, munis and corporate bonds, the fed is effectively taking them off the private sector hands, thus forcing the private sector into riskier assets to get any return.