Government Debt - Termites in the House
The Casey Files
By Bud Conrad for Casey Research
Jul 3, 2006
As I write, gold has rebounded handsomely over the $600 mark,
perhaps putting a stake through the heart of the recent steep
Or, perhaps not.
After all, it isn't the fundamentals, per se, that are currently
causing gold to spike. It's largely just the chattering of the
trading community based on their reading of the tea leaves revealed
in the Fed's latest press release.
In order to make any real sense of where gold should be trading,
and will be trading soon enough, you have to look deeper,
much deeper, into the entrails of government spending. And few
people are better at that than Bud Conrad, a senior researcher
here at Casey Research.
Bud, who sports a degree from Yale and an MBA from Harvard, spends
more time than any person I know looking intently under the hood
at the hard data to take measure of the real state of the economy.
Bud recently had lunch with David M. Walker, head of the U.S.
Government Accountability Office (GAO) and then followed up with
him on the outlook for the U.S. economy, especially as it relates
to deficit spending.
His report follows, below. It's important. Read it. Pass it along.
Chairman, Casey Research, LLC.
Government Debt: Termites in the House
By Bud Conrad
Recently I had the pleasure of having lunch with the Comptroller
General of the United States, David M. Walker. He heads up the
U.S. Government Accountability Office (GAO), the government's
internal watchdog. As he was about to give a talk on out-of-control
government deficits, he had in his briefcase a chart on the size
of the government's obligations over time. Our discussion about
those obligations over lunch was followed by an email exchange,
and Walker kindly helped me source additional GAO data, all of
which allowed me to confirm my analysis of the budget with projections
from the Congressional Budget Office (CBO).
I have also met with Douglas Holtz-Eakin, head of CBO, who can
competently recite the situation of six different budget projections
without notes. The combined scenarios of the GAO and CBO provided
me with the basis to create the following projection of the U.S.
A clear picture emerges of
a government completely out of control. The blue line is the
history of the U.S. Federal Government debt. The green line shows
the path we are now on, with debt soaring to impossible levels
against projected GDP. Importantly, the source isn't some crazy
hand-waving blogger: these are the government's own projections-and
we all know they have every incentive to accent the positive.
If this is the best they can do at this point, then you know
things are not just bad, they are calamitous.
This glimpse at the future clearly shows that the debt of the
U.S. will, in the foreseeable future, go from being a troubling
yet manageable fraction of the economy to being several times
the size of economy. That can't happen without serious repercussions.
The government will be spending money they don't have, which
means creating more of it out of thin air and diluting the value
of all the dollars that came before. It doesn't take a Harvard
MBA to know that the kind of deficits projected above guarantee
a persistently weak dollar, higher inflation and higher interest
rates going forward.
You may be right to criticize this analysis as only one of many
scenarios being developed all the time and that there are other
assumptions that lead to other estimates, and you would be right.
But I've looked at the assumptions, as has David Walker, and
it is more likely that the assumptions have underestimated
how serious the situation could become, maybe by a significant
margin. For example, in the projections above, the interest rate
paid by the government stays flat. Interest rates fell for 23
years and have only just recently bounced off of 45-year lows.
The odds of interest rates staying at these low levels for decades
into the future are, in my opinion, nil. I have analyzed the
scenario of the impact of higher interest rates. The problem
can get out of hand because it feeds on itself: higher interest
rates lead to higher interest on debt, which leads to higher
debt, which leads to greater loss in confidence in the dollar,
which leads to higher interest rates and the loop makes itself
Who is responsible for this sin of profligate spending? You could
start by pointing a finger at the House of Representatives as
they are constitutionally charged with holding the purse strings
of the U.S. government. They voted for the spending and programs
we are now saddled with, they pass tax programs, and vote in
the big supplemental bills that fund the wars.
Entrusted with allocating the biggest sums of funding in the
world, they clamor for more and, in the process, act like termites
chewing away at the fiscal underpinnings of the economy, assuring
the future bankruptcy of the nation. And it is not just the modern
politicos that are responsible, but a failure to pursue sound
monetary policies that extends back decades. Why do they do it?
That answer is easy and reflective of human nature they do it
to curry favor with their constituents in order to get reelected.
Which further points the finger at us, the American public, who
instead of voting the bums out for wasting our money and handing
a legacy of debt to our grandchildren's grandchildren, happily
pocket the pork belly doled out and reward the most prolific
spenders with our votes.
The bottom line is that debt and deficits are baked into the
cake, exacerbated by the demographics of retiring baby boomers
and a government that not only shows no intention of slowing
its spending, but quite the opposite. In fact, like a penniless
smoker breaking a child's piggy bank to buy a pack, the debt-addicted
government has already spent the supposed "Trust Funds"
of Social Security and Medicare.
The government is closer to bankruptcy than anyone who has not
studied the situation can guess. You will hear government apologists
claim that the government can't go bankrupt because they are
the government, and along with a complicit Federal Reserve, they
can meet any debt obligation because they have the printing press.
That is precisely the problem. They can print any amount of money
they want. That has been theoretically possible since we went
off the gold standard in 1971.
It is this loss of any constraint on government spending that
has let the genie out of the bottle. The track is now laid. The
long-term future of the dollar is not in question. And to the
extent that it is the basis of all other currencies, the reserve
currency of the world's central banks, all currencies are doomed.
Gold and the quality companies that produce or competently explore
for it (our focus in the International
Speculator) should no longer be viewed as entertaining speculations,
but as portfolio requisites.
Bud Conrad holds a Bachelor of Engineering degree from Yale
and an MBA from Harvard. He has held positions with IBM, CDC,
Amdahl, and Tandem. Currently, he serves as a local board member
of the National Association of Business Economics and teaches
graduate courses in investing at Golden Gate University. Mr.
Conrad, a futures investor for 25 years and a full-time investor
for a decade, is also a regular lecturer for American Association
of Individual Investors. As a senior researcher for Casey Research,
LLC., he produces original research and analysis for the International
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