The Size of the US Bubble

Addison Wiggin – July 12, 2011

  • President says you shouldn’t worry about the debt ceiling… three little charts say you should…
  • “Who would bail out the Treasury Department and the Federal Reserve?” and other impertinent questions…
  • Small-business owners throw in the towel, while Washington cuts red tape — for states and cities…
  • Legislation that would make it even easier to throw your money down a black hole…
  • Readers inquire about “transaction tax” and seize opportunity in China… others throw Pynchon at us… still others want to go deeper into the Sept. 11 rabbit hole… oy… and more…

   “Let me distinguish between professional politicians and the public at large,” opined the president during a press conference yesterday.

“The public is not paying close attention to the ins and outs of how a Treasury auction goes…

Move along, nothing to see here…

“We’re paid to worry about it.”

Never mind professional politicians are the reason we have a debt problem in the first place.

So you have a choice today, dear reader: Follow the president’s advice and don’t worry about the backdoor debt ceiling deal they’re cooking up inside the Beltway… or read on and prepare yourself for the consequences of what the “professional politicians” have wrought.

   “I’d love to see the size of the US bubble,” a reader writes after yesterday’s issue, “and where it would fit on the debt-to-GDP chart. Can you add that for tomorrow’s 5 Min. Forecast?”

Yes, it’s big bubble indeed. In fact, it spills past the margins of the chart we shared with you yesterday. Here, we’ve superimposed a yellow circle representing the United States:

The U.S. national debt is 5.5 times that of Italy — the largest debt in the eurozone and the cause of so much consternation in the markets this week.

   But the real story lies in the center of the yellow circle on this chart.

First, check out the bottom scale, plotting each nation’s debt-to-GDP ratio: With a $14.3 trillion national debt and a $14.7 trillion economy, the U.S. debt-to-GDP ratio is just shy of 100% — near Portugal-Italy territory, though not as bad as Greece.

Then there’s the left scale: credit default swaps — the “insurance policies” paid by the buyers of these nations’ government debt to cover themselves in the event of a default.

The total amount of U.S. credit default swaps outstanding is low, relative to many European countries. But at $4.58 billion, it’s nearly the same amount of credit default swaps outstanding on Lehman Bros. in 2008.

As you might recall, roughly $4.5 billion in default swaps was enough to wipe out AIG, then the world’s largest global insurance firm… with the requisite unassailable record.

   Perhaps those memories are weighing on the minds of credit default swap traders. The higher the cost of a credit default swap, the higher the implied risk.

The cost of insuring against U.S. government debt, while still low, has grown significantly since mid-May.

As of yesterday, it was 50 basis points — one-half of 1%:

By this reckoning, Uncle Sam is a worse bet than Germany now.

   The rise in the price of U.S. CDS coincides with the drama in Washington over raising the debt ceiling.

According to the Bipartisan Policy Center, tax revenue for the 29 days of August after the 2nd will total roughly $172.4 billion. That compares to $306.7 billion in spending.

Ordinarily, the Treasury would cover that $134.3 billion gap by issuing new Treasury debt. But after Aug. 2, it won’t be able to do so. That means Uncle Sam would have to immediately balance his books.

What would that look like?

Well, he’d have to choose his priorities. The Bipartisan Policy Center report breaks down the government’s Aug. 3-31 expenses in a way that shows what the $172.4 billion in revenue can cover… and what it can’t.

The Social Security checks would still be cut… but not income tax refunds. Medicare and Medicaid would be kept going… but not food stamps. Military contractors would still be paid… but not the troops.

They can move certain items above the $172.4 billion line and others below it… but something has to give.

   And as we pointed out yesterday, matters are even worse than that list of priorities reveals.

About $507.4 billion in existing Treasury securities come due between Aug. 3-31. To “roll over” that debt, the Treasury must issue new securities.

If the unthinkable happens, and the government isn’t able to “roll over” the debt?

$100 billion of that debt matures on Aug. 4. Another $100 billion matures a week later, on Aug. 11. That eats up the entire $172.4 billion in revenue expected for the month right there… before the government spends a penny on anything.

Unless the Treasury Department is sitting on some slush fund we don’t know about, it’s game over. The United States defaults… triggering those credit default swaps.

   “Let’s imagine,” said a Newsweek piece by Daniel Gross last spring, “a world in which the U.S. government, lacking the will to tax or cut spending, can’t scrape up the cash to stay current on interest payments and can’t roll over debt as it matures.”

“That would trigger a huge decline in the value of Treasuries and mortgage-backed securities. The balance sheet of every U.S. financial institution — JPMorgan, Goldman, Citi, your neighborhood bank, the Federal Reserve, money-market funds — would be decimated. There wouldn’t be a single solvent bank, insurer, or company in the United States.”

“The large multinational banks, which have significant U.S. operations and plenty of this stuff on their books, would likewise be wiped out. Oh, and foreign holders of U.S. debt… would be toast, too.”

“In this dystopia, who, precisely, would be able to make good on the insurance sold on U.S. government debt? The last time we had a set of events that were supposed to trigger large-scale payment of credit-default swaps, the system basically shut down. All the investors who bought insurance on financial instruments from AIG got paid off in full only because the U.S. government bailed the company out.”

“Who would bail out the Treasury Department and the Federal Reserve?”

Who, indeed?

This is at the heart of the scenario we lay out here — the one in which Washington’s credit card is cut up. We urge you to give it a look. After all, Aug. 2 is only three weeks away.

But really, what do we know? We’re not “professional politicians”… we’re just part of “the public.”

   For the moment, stock traders are shrugging off any fears about the debt ceiling — or about Italy, which took 150 points off the Dow yesterday. Today, the major indexes are flat.

   Earnings season is under way… and if Alcoa’s report is any indication, disappointments are in store: Quarterly profits doubled the year-ago figure, but its raw materials costs are rising — the “margin squeeze” we’ve warned about since last November, coming into view now.

   Gold is on the high end of this week’s trading range as we write — $1,554. Silver is down about 1%, to $35.38.

The dollar index still hovers around 76, as the euro has stabilized just below $1.40.

   The U.S. trade deficit ballooned in May to $50.2 billion — the biggest level in nearly three years. Most of that can be blamed on surging oil prices.

   To our bulging file of threatened municipal bankruptcies, we add Central Falls, R.I.

The city of 19,000 north of Providence was once home to a busy textile industry that’s long gone. The government was counting on a windfall from a privately run prison. The prison was built, but the windfall never materialized. Now the city is stuck with $80 million in pension and retiree health care obligations.

The library has been closed. So has the community center: No more subsidized lunches for seniors, no more health screenings. The trash is still being picked up and the cops still answer the phone — for now.

As we’ve indicated in our new forecast, there’s a lot more where this is coming from. It’s why one of the special reports we recently issued includes a state-by-state rundown of accumulated debt and pension obligations. It’s a real eye-opener. You can still get a copy here.

   The creators of new jobs are feeling no more optimistic now than they did a month ago. The National Federation of Independent Business’s monthly small-business optimism index fell last month from 90.9 to 90.8.

That’s a figure “solidly in recession territory,” the group says.

Indeed, the number never got that low during the 1991 or 2001 recessions. This is the fourth straight month of decline. Sixty-nine percent of the owners surveyed say it’s a poor time to expand their businesses.

“Small-business owners are registering a vote of ‘no confidence’ in the federal government,” says NFIB chief economist Bill Dunkelberg. “Between the deluge of new regulations and a Washington policy agenda that is largely ignorant of Main Street needs, stubbornly low consumer spending and grave concern among small firms about the federal budget, there is not much to be optimistic about as a small-business owner.”

   But Washington is cutting red tape for others. The Office of Management and Budget is telling federal agencies to make things easier on state and city governments.

“The effort puts a special emphasis on eliminating duplicative reporting requirements,” reports Governing magazine. “Being required to submit the same information again and again to secure funding from similar but distinct programs can waste precious personnel and other resources. That can be a huge problem at a time when states and cities are already cutting back.”

Aww, they have to submit forms in triplicate? Guess it’s OK when it’s small businesses (who actually produce things for a living). But government agencies? We can’t have that… no way.

   And as long as we’re descending into the absurd, we have H.R. 2411, the Reduce America’s Debt Now Act of 2011.

Sounds like something we could all get behind, right? Who’s against reducing the debt? Even if it’s a modest proposal to cut a little bit of waste from an agency here or there, saving only a few million, it must be a good idea, right?

The idea behind the Reduce America’s Debt Now Act of 2011 is — get this — to set up a system under which you can voluntarily have a portion of your paycheck withheld to reduce the national debt.


You can already send Treasury a check to reduce the national debt if you like, but freshman Rep. Rick Crawford (R-Ark.) wants to make it easier for you — by including a line on your W-4.

Don’t think of it as a charitable contribution, though. Under the bill, your withholdings won’t be tax-deductible.

   “I am continually shocked,” writes another, “when I see the market going up and the economic news getting more dire by the minute. Am I missing something?

“I have been short the Dow and long the metals for a very long time and the metals have done beautifully, but the Dow is giving me agita! I know you don’t necessarily give your views of market direction, but I feel like I am insane and I am wondering if I am!”

“’Please explain if you can why with the terrible economic landscape that we should be shrugging off the news and forging ahead? I think when the market cracks it is going to be really ugly… uglier than the 2008-09 debacle!”

The 5: We agree. But as the late Lord Keynes said, “The market can remain irrational longer than you can remain solvent.” Keynes won a fortune, lost it all, and then won it all back again during the Depression-era markets of the 1930s in London.

   “With apologies (or attribution… not sure which) to Pynchon,” writes the reader who kicked off our discussion surrounding conspiracy theories, “‘Just because we’re paranoid doesn’t mean they’re not out to get us’.”

“I have been a longtime reader and fan,” writes another in the same vein. “I even saw I.O.U.S.A. in a local theatre. You have taught me a lot about economics and finance.”

“Pertaining to today’s 5, I’m afraid the rabbit hole is much deeper than you think.” “I don’t know who is responsible for Sept. 11, but it wasn’t terrorists crashing planes into buildings. Nor was it thermite explosives. Please have someone on your staff read a copy of Where Did The Towers Go? It is independent research by a Ph.D. in mechanical engineering — Dr. Judy Wood. She doesn’t speculate as to who did it, or why the Towers were brought down, but her explanation of HOW is quite compelling.”

“Agora is always asking us to believe fantastic opportunities in high-tech. How about daring to question some of your assumptions? For years, I bought the ‘official’ story too.”

The 5: We’re happy to question our assumptions. And yours. We don’t necessarily believe the Bureau of Labor Statistics (BLS) when they publish the “official” jobs numbers. But those are the numbers that move the market, and that’s what we’re most keenly interested in here.

   “Was it in The 5 recently that I read where the government might impose a 1% fee on all banking transactions,” writes another reader with a more practical question, “even moving your money from one account to another?”

“Do you know anything about it?”

The 5: The proposal is the brainchild of Rep. Chaka Fattah (D-Pa.). He envisions a bank transaction tax replacing the federal income tax. On the surface, it sounds like a good idea… but we haven’t looked into it further. Fattah has proposed the regime change every year since 2004. Most years, he can’t even line up a co-sponsor.

   “In December last year, purely on a whim,” writes a reader from abroad, “I left England to visit Shanghai. I hired an interpreter (for peanuts) and asked her to take me on a tour of schools where English is taught.”

“At the very first school, I was offered a job to teach English, even though I’m almost 75, and I took it, because it’s very well paid. But first, I asked my interpreter to take me to the nearest income tax office, so as to register there. D’you know what? They weren’t interested in me. Too much trouble involved. Go and work without paying tax, they said. I am.”

“In January, I contacted my nephew in Michigan, who is a welder, but has been out of work for two years. I told him to come to China. He came with his pal, Randy, who is also a welder. I put them in touch with my interpreter. She took them to a town in central China where automobiles are made. On the day that they arrived there, they were both hired, in two jobs — welding during the day, and teaching welding in the evening.”

“I haven’t been to visit them yet, but they have reported to me that the local beer is good and that their salaries allow them to live very comfortably. And like me, they’re not expected to pay tax. They’re now planning to bring their wives out to China, too.”

“Just wanted to let you know in case any of your readers are thinking of swapping sadly declining America for a new and relatively prosperous life overseas.”

The 5: Just curious, why was “the nearest income tax office” your first stop?


Addison Wiggin
Agora Financial’s 5 Min. Forecast

P.S. “President Obama on Tuesday said he cannot guarantee that retirees will receive their Social Security checks Aug. 3,” reads a story just in from CBS News, “if Democrats and Republicans in Washington do not reach an agreement on reducing the deficit in the coming weeks.”

Political posturing? Sure… but as we point out above, something has to give.

Even if the debt ceiling issue is resolved, we believe the time will come when America’s creditors will throw up their hands — and cut off Washington’s credit card. It won’t be the first time in the nation’s history. Nor can we forecast when it will happen… but the sooner you start to prepare, the better. We spell it out in five new special reports — which you can get here.


Recent Alerts

Here Comes the AI Cartel

Maybe you saw the news earlier this week: An outfit called the Center for AI Safety issued a 22-word statement — as dire as it is terse. Read More

A Deal in D.C., a Wipeout on Wall Street

Debt ceiling deal, U.S. Treasury auctions, Wall Street liquidity, Fed policy reversal, BlackRock recession call, gross domestic income, GDI, Maryland license plate snafu Read More

Climate, Carbon… and Control

“The climate change agenda is not about climate change,” says Jim Rickards. “It’s about total political and economic control of the population.” Read More

White House’s New Witch Hunt

Go figure: The stock market is at nine-month highs, but the Biden administration is amping up its jihad against short sellers Read More

The Biden Bleed

Presidents have meddled with the SPR for political purposes. But Biden is really leveling up. Read More

Natural Gas Gets Blacklisted

The EPA — with Team Biden’s blessing — proposes an overhaul of U.S. power plants by 2042. Read More

Green Smokescreen

Ray Blanco is on the lookout for presumed do-gooders… blowing “Green Smoke” up our collective rear ends. Read More

“No Blood for Chips!”

Fair warning: This edition of The 5 might be the most controversial issue we’ve ever published. Read More

The Dollar’s Death March

Nine years after The 5 started writing about “de-dollarization,” you can’t get away from headlines about it now. Read More

The “F” Word

No sooner did G7 leaders sit down yesterday than they declared they’re doubling down on sanctions targeting Russia. Read More