Global debt levels reached an
astronomical $217 trillion in the first quarter of 2017. That's 327
percent of the entire world's economic production (GDP.) Before the
financial crisis, global debt was “only” around $150 trillion,
meaning almost $120 trillion have been added to the debt in a mere
decade.
For individual countries, analysts
generally consider a debt-to-GDP ratio above 80-85 percent to be
“unsustainable.” A “sustainable” debt-to-GDP ratio is one in
which payments are made on time and in full and with the expectation
the debt will ultimately be eliminated. The U.S. debt-to-GDP was
106.1 percent in December 2016.
Neither U.S. debt nor global debt will
ever be repaid, because both are not only too large to pay now but
growing faster than incomes, putting repayment further out of reach.
This is true not only for government debt but private debt as well.
According to the Bank for International Settlements, household and
corporate debt in the world economy, as a share of GDP, amounted to
138% in 2016, compared with 115% at the end of 2007. For advanced
economies, that ratio was even more dangerous, averaging 195% last
year, compared with 183% at the end of 2007.” And with only a few
exceptions, most countries' public debt rose significantly over the
same period. So indebtedness in the world is far higher today than
at the start of the financial crisis.
At the depth of the financial crisis a
decade ago, the Fed launched a huge increase in the money supply to
prevent collapse of the banking system. The government rescued
Fannie Mae and Freddie Mac and bought hundreds of billions of dollars
of their debt and mortgage-backed securities. Later it decided more
monetary stimulus was needed because the economy was not rebounding
as hoped. So two other bond-buying programs (“quantitative
easing”) were initiated in the hope driving down interest rates to
stimulate consumer buying and spur the economy. While some financial
markets enjoyed a recovery, the expected overall economic growth
proved elusive.
After a decade of relative economic
stagnation, the Fed has now decided to unwind the $4.5 trillion of
Treasury bonds and mortgage-backed securities it has accumulated. It
cannot hold interest rates near zero forever since there are market
forces at work for higher rates and ignoring them would create
further economic imbalances with adverse consequences worldwide. The
Fed will reduce its holdings very slowly, at first by $10 billion a
month for three months, and then by a further $10 billion every
quarter to a maximum of $50 billion a month, or $600 billion per
year.
No central bank has ever been in the
position the Fed is now in. None has ever had a trillion dollars and
tried to divest itself of them. Austan Goolsbee, who headed the White
House Council of Economic Advisers under Obama, said, “The final
exam, with the grade yet to be determined, is can the Fed actually
get out of this stuff.”
David Blanchflower, an economist who
was on the Bank of England's monetary policy board, which faced the
same problem as the Fed, says when the bank began this unconventional
campaign (i.e., quantitative easing) “we had no idea what we should buy, how much, for how
long,” and there was no idea on the way of getting out.
Double-entry bookkeeping is the basis
of accounting. If asset values fall, then so too must total
liabilities. As explained by Mervyn King, former governor of the Bank
of England (the central bank of England, like the Federal Reserve in the U.S.): “For companies and banks, their assets are the future
stream of earnings discounted back to the present, while their
liabilities are the amounts owed to creditors...and the residual
value of equity. So as interest rates rise, the discount rate will
increase and asset prices will fall relative to incomes. A squeeze on
the value of total liabilities falls initially on the value of their
equity, making it more difficult to borrow. But it also increases
the likelihood that some companies and banks will default on their
debts. We could see a sequence of defaults in different sectors of
the economy and in different countries.”
The problem of the Fed in shrinking
its balance sheet by unloading its bonds and mortgages is discussed
more fully in my book The Impending Monetary Revolution, the
Dollar and Gold, including
penetrating inputs by monetary experts Gramm and Saving. Here are some
samples from them:
"Fed will have to divest its $1.4 trillion of mortgage-backed securities (MBS). This would send mortgage rates spiraling even if sales were spread over several years.
"Fed will have to divest its $1.4 trillion of mortgage-backed securities (MBS). This would send mortgage rates spiraling even if sales were spread over several years.
"Fed would still need to sell about $600 billion of U.S. Treasuries to reduce excess reserves in the banking system.
"Every increase in interest rates drives down the market value of Fed's Treasuries and MBS holdings, forcing it to sell more and more to lower the monetary base by the required amount. This depletes both the Fed's asset holdings and earnings.
"The monetary expansion that started as a response to the subprime crisis has evolved into a prolonged and largely unsuccessful effort to offset the negative impact of the Obama administration's tax, spend and regulatory policies....No such explosion of debt has ever escaped a day of reckoning and no such monetary surge has ever had a happy ending." (Italics added.)
"The monetary expansion that started as a response to the subprime crisis has evolved into a prolonged and largely unsuccessful effort to offset the negative impact of the Obama administration's tax, spend and regulatory policies....No such explosion of debt has ever escaped a day of reckoning and no such monetary surge has ever had a happy ending." (Italics added.)
It should be
remembered that the Fed totally missed predicting the Great
Recession. It said the worst that could happen would be a very mild
recession. Recently the Wall Street Journal recalled this by writing on September 21,
2017: “Given the way that investors are obsessing over the Federal
Reserve's most recent economic projections, it is a good time to look
back on where they were 10 years ago...In September 2007, it was
clear something was amiss with the U.S. economy...Fed policy makers
were worried...But their projections show they expected the storm to
pass quickly. They thought unemployment would only inch up a bit
over the next several years, never topping 5%. The economy would
expand 2.2% in 2008 before picking up to 2.5% in the following years.
Inflation would settle into just under a 2% rate. Three months
later the recession began.”
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