Monday, August 15, 2016

Lunatic Congressional Financing

The average citizen thinks that Congressmen have an intimate knowledge of government financing. That’s a totally wrong assumption. Picture a black box with an opening on the left and one on the right. Insert one tax dollar into the left slot and low and behold two dollars drop out of the right hand side. Nobody in Congress knows what the internal machinery of the box includes, but it works. The amount they can spend on the budget is twice what they get in tax collections.

There is a not so small black box called the national debt. It doubles in size every 10 years, but it’s no big deal, there has never been a problem with it. Since it’s just a bunch of numbers, it’s size lies in the virtual world of mathematics. You couldn’t trip over it even if you wanted to.

Then remember the archaic banking practice of saving money for retirement? You’d give the bank a dollar and 12 years later get back your dollar and another one as interest. There was no black box, you doubled your money in 12 years. It was called “Compound Interest,” the Eighth Wonder of the World.

In today’s world, you put a dollar in the bank and in some countries, you’ll get back 95 cents a year later. So if you examine the basics of banks loaning depositor’s dollars, that is fading into oblivion. All the bank does anymore is regulate transactions between different parties.

The thing to remember during the Congressional emergency of 2008 that lead to all of the quantitative easing, if the banks had failed, the US Government would have had no financial infrastructure to borrow from.

The problem today is this, there is absolutely no reason to save money, there is every reason to spend it. With that reasoning, there is no new money left in the banks for the government to borrow. Plus those retiring, are withdrawing the money deposited into the banks over the last 50 years. What the government is losing on the national debt on the back end from redemptions, is not being made up for on the front end.

Of course the financial markets seem to think everything is just great. You can draw all sorts of graphs on the bond market, but when interest rates approach zero you enter an undefined world that changes the perspective of how people view money.

What we do know is this. The government borrowed about 24 trillion dollars and has spent every penny of it. Congress knows they can’t pay the interest on the amount borrowed (the national debt) if rates were to rise to 8%. The banks have no more real money for the government to borrow. The Treasury and the Federal Reserve are printing dollars. T-bills are being presented for redemption and the Federal Reserve is purchasing every bill presented. This is what keeps the interest rates low. If there is no buyer, rates go up until there is a buyer.

What we have here is a situation that is artificial. As rates approach zero, the definition of a bond deteriorates. At zero it has no meaning. You can borrow for free. Low rates imply low risk, when in actuality, most of these new government homeowner borrowers couldn’t come up with 5 percent down, to close the deal. Loan qualification tests are now meaningless. Negative interest rate bonds are laughable. The trouble is, there are many people out there that think we are in a viable market. At some point people will realize that the emperor has no clothes, and then the game will then be over.

Carry the logic a step further. Scenario one, when people realize they are worthless, they will try to sell them for half price. On a one-year bond, that implies an interest rate of 50 percent. Of course that will never happen, the Fed will buy all bonds. Scenario two, the government will print 17 trillion dollars (electronically) and pay off the debt. That would be the effect, but in reality, they would print dollars to pay for all government payments to the citizens (Social Security, Welfare, etc). This would allow them to continue to “borrow” (Print) and kick the can down the road. The sad thing is, we are already there.

My only question, can we ever get back to a reasonable interest rate for savings? I am afraid the answer is no. Hyperinflation solves all of these problems by making new ones you wish you’d never met.

The great thing about credit cards, if a Starbucks Latte is $4,000 you don't have to plunk down or count out 40 100 dollar bills just for a cup of coffee. Kind of makes you smile for all the wrong reasons, go figure.


Anonymous said...

you are absolutely right Jim, it's about taking advantage of the opportunity, some call it being "money hungry" but not me. So please tell me what is the timeline, that's important for people like me, I don't have the liquidity to be short for eternity.
I'm not a doom and gloom guy, what should be my strategy?

Jim in San Marcos said...

Hi Anon 1:56

I'd like to help you, but my strategies haven't made me wealthy, but I live good.

There is no real answer to your question. If there was, we would all be rich. The trouble is, if we were all rich, we would all in essence be no better off than our neighbor. That's kind of the way it is now.

The only thing I can offer as a tip, is October of this year, there is something about that month that the stock market has never liked in the past.

Anonymous said...

If the game is rigged, October could be a good month. Stocks up 100%.