In 1968, the U.S. has $1 Trillion in debt. Today the U.S. debt is now estimated at $50 Trillion. Money had gold backing back in 1968 but today it is only a credit instrument, no different than a Treasury Bond. Gold restrained credit from being created and minimized bad investment decisions since there was a limit on what could be lent. With a restriction in lending, only the best opportunities would be funded. Risk was therefore minimized by the lender. Borrowers had to qualify and their projects had to prove they could cash flow the loan.
Debt and credit are two sides of the same coin. One person has an asset and the other person has the offsetting liability. The dramatic expansion of credit caused the strong pace of globalization. The financial sector has become the largest borrower within the U.S. debt structure. In 1945, it accounted for 1%. Now it accounts for over 30%. In the 1950’s the U.S. was a manufacturing based economy but now we are a service-based economy. China now has many of our manufacturing jobs.
Over the last 45 years, this transition was accommodated by rising home prices and Americans were extracting “equity” from their homes to fund their lifestyle. This minimized the pain of transition from a manufacturing-based to a service-based economy. But now, the environment is changing. Housing is no longer assumed to be forever growing in value. The Fed is desperately wanting to keep inflation alive but the average American is no longer buying into the plan. This 4 1/2 decade sustained expansion brought about by credit expansion is now at the end of its cycle. A bust cycle is needed to cleanse the system. Generally speaking, the bust must be similar in breadth to the boom cycle. Either the length or depth must compensate for the extended boom cycle.
The private sector can no longer handle any more credit and this began in 2008. Inflation is currently masking the reality by distorting the numbers. The transition of the market to globalization brought forth a 95% drop in labor costs. This is a one-time event and it impacted the prices of manufactured goods during the transition. This is why the price of a PC has moved from $2,800 to $500. The labor factor is the major ingredient in the decline of the price. American workers built the first PC’s and now those same PC’s are built in China at 5% of the labor cost thus the consumer price index (CPI) has appeared to be reasonable but does not reflect the future challenges.
If we weren’t in dire straights, the Fed would not keep the interest rates at 0% through 2014. Global stock and asset prices have been the beneficiary of the credit expansion policies of recent years. Last year’s budget deficit of 8% kept the economy looking better than it would have with a balanced budget. This deficit is keeping the U.S. economy on life support. As long as the government spends on consumption, the hole will only get deeper. The constituency does not want their consumption payments to drop and Congress will accommodate that request.
Low interest rates can only be supported by massive money printing. This cannot be sustained forever. Unless honest money arrives on the scene soon, Our Heavenly Father only knows how ugly this will get. We must get back to honest money that cannot be manipulated.