Making Obese Debt Levels Possible

Make no bones about it…this economy sucks eggs.  Just ask anyone who’s looking for a job and they’ll tell you, ‘no one’s hiring.’  Despite official decree from the National Bureau of Economic Research that the Great Recession ended in June 2009, an uncanny disappointment has emerged for nearly everyone living outside the beltway.

For the middle class, their most valuable asset – their home – has become their most underwater liability.  And for the lower class, the economic current has turned against them in earnest…no matter how hard or fast they paddle, it seems, they can’t move even a short distance upstream.

What’s more, college graduates are hitting the workforce with a noose of debt around their neck and few employment options…other than hawking coffee.  According to the Labor Department the unemployment rate for 16- to 24- year olds is over 17 percent.  What gives?

No doubt, it has been a peculiar recovery for anyone who has paused to consider it.  New economic growth has not been based on the spending of savings accumulated during the recession.  Nor has it been based on capital spending and investment.

Instead, as a substitute for real growth, the economy has been stimulated by deficit spending.  But it hasn’t been your typical, run-of-the-mill, honest deficit spending.  It has been something far more devious with the potential for consequences far more destructive. Let’s explore…

Money for Nothing

For each fiscal year the government has an established budget.  Depending on how much tax receipts generate and how much money is spent, one of three things can happen: a budget surplus, a balanced budget, or a budget deficit.  The United States, as in most countries, nearly always runs a budget deficit.

When the financial markets went cold in late 2008, the Fed began spending other people’s money like reckless idiots.  While this isn’t something entirely new, the volume and velocity they went about it is.  Moreover, to make this possible, they began finagling and interfering with markets in ways that would even make Alan Greenspan mess his trousers.

For there is honest deficit spending and there is dishonest deficit spending.  Honest deficit spending is funded by willing lenders loaning money to the government at a specified coupon.  Until 2008 this is generally where the U.S. Treasury procured its’ loans.

Since 2008, however, the U.S. Treasury and Federal Reserve have engaged in the sort of thing that pickpockets and purse snatchers can only dream of.  You may have heard of it… They call it quantitative easing and it works like this…

The Federal Reserve lends money to the big banks – for practically free – who, in turn, loan it to the U.S. Treasury at market rate.  It’s a sweet business for those on the inside. The Federal Reserve gives the big banks an essential product (i.e. money) for practically free and the big banks loan it to the government at whatever treasuries are yielding.

Currently, the 10-Year Note’s yielding about 3 percent.  So the banks get a nearly 3 percent markup for loaning money given to them by the Federal Reserve to the U.S. Treasury.  But that’s not the half of it.  For there is an essential question that must be asked: From where does the Federal Reserve get the money to loan to the big banks for practically free?

Making Obese Debt Levels Possible

The answer, alas, is so crude and rudimentary it pains an honest man’s brain.  The Federal Reserve doesn’t produce anything tangible to obtain its money.  It just makes a notation in its ledger and – out of thin air – magically has money to remake the world in its image.

This week there are plenty of financial stories to cover.  Of course there’s the big debt ceiling impasse.  What you won’t likely hear on the evening news is how the Federal Reserve’s 98-years of near continuous monetary expansion made these absurd and obese debt levels possible.  Nor will you hear of Congresses near unstoppable will to do the expedient…spend other people’s money to pay for all the goodies they’ve promised.  Nonetheless, this story is merely a distraction.

The real economic news will be found in a series of reports released this week.  Today, for instance, we’ll discover what new home sales were for June and we’ll get a reading of current consumer confidence.  On Wednesday we’ll find out about durable goods orders in June and on Thursday we’ll hear the latest on jobless claims.  Yet all of this is just warm up for the most anticipated data point on Friday…2nd quarter GDP.  Our gut tells us the U.S. economy will score a big fat dud across the board.

Remember, all the debt over the last several years was supposed to stimulate the economy, bring full employment, and even send bullet trains to the moon.  The Federal Reserve makes the money; the government spends it.  But what did the economics of the Fed yield?

For their efforts racking up the debt the Fed has been unable to create jobs, grow the economy, or facilitate commerce.  We don’t expect this from the government…nor do we believe they are capable of it.  Furthermore, if they keep it up, the economy could backslide for another decade – or more.


MN Gordon
for Economic Prism

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