It's one thing to hear fringe bloggers raving breathlessly against the collision course that the US economy is on. It is something else to see the Bank of International Settlements call for the baseline projection for US debt/GDP to hit over 400% by 2040. And this excludes the bankrupt GSEs, bankrupt Social Security, and the soon to be bankrupt Medicare. In a must read report, the BIS (of the central bankers' central bank) provides the much needed segue to the work of Reinhart and Rogoff, and in not so many words confirms that the entire developed world is now bankrupt on a discounted basis. With Debt/GDP ratios for virtually everyone expected to jump to over 400% in the bank's baseline scenario, it is no surprise why the Dow may well hit 1 quadrillion on nothing but Weimar and Zimbabwean ponzification, before it crashes instantaneously to zero. We exaggerate about the quadrillion, we do not exaggerate about the sovereign default. The current and previous administrations have doomed this country, just as all other administrations of the developed world have done the same, in order to bail out the banking system, in the greatest fatally flawed private-public risk transfer experiment ever attempted. Those who will walk out of it with virtually infinite wealth are about 0.1% of the US population (the same people who tell you now that all is well, and that their bonuses are fully justified). Those who won't, and will end up doing bad things to the aforementioned cohort, is everyone else. And the "everyone else" is getting angrier by the day, as they realize just how massive the wealth transfer scam truly is... if only they could tear themselves away from the iCrap, watching Tiger Woods' nonsensical Nike ads, or glower in schadenfreude as Simon Cowell rips another wanna be singer from head to toe.
Some key snippets from the BIS report:
Should we be concerned about high and sharply rising public debts? Several advanced economies have experienced higher levels of public debt than we see today. In the aftermath of World War II, for example, government debts in excess of 100% of GDP were common. And none of these led to default. In more recent times, Japan has been living with a public debt ratio of over 150% without any adverse effect on its cost. So it is possible that investors will continue to put strong faith in industrial countries’ ability to repay, and that worries about excessive public debts are exaggerated. Indeed, with only a few exceptions, during the crisis, nominal government bond yields have fallen and remained low. So far, at least, investors have continued to view government bonds as relatively safe.
But bond traders are notoriously short-sighted, assuming they can get out before the storm hits: their time horizons are days or weeks, not years or decades. We take a longer and less benign view of current developments, arguing that the aftermath of the financial crisis is poised to bring a simmering fiscal problem in industrial economies to boiling point. In the face of rapidly ageing populations, for many countries the path of pre-crisis future revenues was insufficient to finance promised expenditure.
There is no need to repeat just how horrendous the fiscal deficit picture is. Yet we will:
Overall fiscal balances have been deteriorating sharply – by 20–30 percentage points of GDP in just three years. And, unless action is taken almost immediately, there is little hope that these deficits will decline significantly in 2011. Even more worrying is the fact that most of the projected deficits are structural rather than cyclical in nature. So, in the absence of immediate corrective action, we can expect these deficits to persist even during the cyclical recovery.
Based on a very comprehensive data set, Reinhart and Rogoff (2009a) report that three years after a typical banking crisis the absolute level of public debt is on average about 86% higher than prior to the crisis. In those countries where the crisis was most severe, debt almost trebled. This time around, several countries are beyond this historical average: Ireland with increases in public debt of 98% between 2007 and 2009; and the United Kingdom with projected rises of 111% by 2011. Meanwhile, the United States and Spain – with projected increases of 75% and 78%, respectively, by 2011 – are not far behind.
We doubt that the current crisis will be typical in its impact on deficits and debt. The reason is that, in many countries, employment and growth are unlikely to return to their pre-crisis levels in the foreseeable future.8 As a result, unemployment and other benefits will need to be paid for several years, and high levels of public investment might also have to be maintained
It also bears repeating that recently the Bank of England estimated that the total loss in output as a result of the banking crisis could be large as $200 trillion. That's a lot of money.
Next, the BIS covers a favorite topic of ours, which continues to get virtually no coverage in the mainstream media - the increasingly problematic demographic shift, as all those deferred retirement obligations will finally need to start getting paid out.
More worryingly, the current expansionary fiscal policy has coincided with rising, and largely unfunded, age-related spending (pension and health care costs). Driven by the countries’ demographic profiles, the ratio of old-age population to working-age population is projected to rise sharply. Interestingly, this rise is concentrated in countries such as Japan, Spain, Italy and Greece, which are already laden with relatively high debts (Graph 2, left-hand panel). Added to the effects of population ageing is the problem posed by rising per capita health care costs.
This leads us to the obvious conclusion that any assessment of the government fiscal situation based on a short-term perspective is incomplete and at best misleading. A key question is to what extent such accrued liabilities should be reflected in debt estimates. Concerns about both fiscal sustainability and intergenerational equity demand that the accumulated net discounted value of all future revenues and expenditure commitments scheduled in current laws be added to the current debt stock. Currently, however, there is no unique source providing such estimates. And uncertainty about future policy, demography and productivity growth raises issues about how this information should be presented and used (see eg Auerbach (2008) for a discussion).
That said, existing studies report that the magnitude of the long-term fiscal imbalance – the present value of unfunded liabilities arising from ageing – is very large. Hauner et al (2007) estimate the change in the primary balance required to equate the net present discounted value of all future revenues and non-interest expenditures to the debt levels prevailing at the end of 2005 for seven major industrial countries (Canada, France, Germany, Italy, Japan, the United Kingdom and the United States). The authors report that in order for these countries to pay off all their financial liabilities, they would require an average improvement in their budget balance excluding interest payments of 4.5% of GDP. For the United States and Japan, the estimate is 6.9% and 6.2%, respectively.
The persistent stickiness of low interest rates is another troubling point, and the BIS discusses this as well.
So far, the build-up of public debt in industrial countries has taken place against the backdrop of an exceedingly low interest rate environment. Despite low inflation, the real interest rate (in effective terms) at which governments are able to finance their deficits and roll over outstanding debt obligations has been falling since the late 1990s, reaching almost zero in some countries in the wake of the monetary policy response to the financial crisis (Graph 3, left-hand panel). However, as the graph reveals, the situation is changing quickly even without a change in monetary policy-controlled interest rates. Real borrowing rates rose through 2009, and are poised to continue increasing with the reversal of the current zero interest rate policy. Added to this is the fact that the crisis is likely to reduce the potential output growth rate for some time to come (Cecchetti and Zhu (2009)).
The right-hand panel of Graph 3 is indicative of the severity of the problems that governments face. It plots a measure of the difference between the real interest rate and real growth on the horizontal axis and the ratio of the primary surplus to total debt on the vertical axis. The higher the differential between the real interest rate and potential output growth, the larger the required structural primary surplus as a proportion of the previous-period debt level needed to maintain a stable debt/GDP ratio. Turning to the graph, for debt/GDP to remain stable, a country must be above the 45-degree line on the graph (which appears relatively flat due to the differences in the horizontal and vertical scale). The data show that the current fiscal policy is unsustainable in every country in the graph. Drastic improvements in the structural primary balance will be necessary to prevent debt ratios from exploding in future.
And if the last chart was not enough to stop you dead in your tracks, the next one is the piece de resistance.
Presented without commentary:
Well, one little comment - essentially at this point the entire world is bankrupt. Yet the bankers will keep on trending the market higher and higher on ever declining volumes, to perpetuate the illusion that things are getting better. If that means that GETCO will quote a market of 1,000,000 x 1,000,000,000 for 2 shares of SPY at some point in the future, we would not be surprised. It is merely an artifice for the financial kleptocrats to cash out from as high a point as possible as they try to sucker ever greater numbers of people into the parabolic phase of the ponzi. Yet the numbers don't lie. No matter what Obama does, no matter how he spins the CBO data, or how much healthcare reform is presented as revenue generating, the final outcome is now certain, and it involves the chain bankruptcies of every developed nation. And since the developed world is merely a cheap source of commodities and processed products for the developed world, the BRICs of the world will be next.
Previously, few dared to discuss the ponzi openly. With the BIS now getting into the fray, the issue of sovereign insolvency is now front and center. Of course, few will dare to forecast when the great unravelling will begin. And neither will we, suffice to say that as more and more people read disclosure such as the above, coming from the most legitimate of financial institutions, the more people will awake to the true cataclysm that has now enveloped Western society, which if the Roman empire was any indication, is in last days. Except unlike the Roman case study, the barbarians are not at the gate: they represent 90% of the population of America itself and are already inside the gate. And they are getting angrier with each passing day.