Eric Sprott has released his latest MUST READ Markets At a Glance newsletter: Ignoring the Obvious.
The purpose of asset purchases by the Fed might no longer be improvements in the real economy, but rather a more subtle financing of U.S. government deficits. However, in the long run, expanding the money supply inevitably leads to inflationary pressures. Luckily for the Fed and the U.S. government, there is so much slack in the labour market that inflation might be years away. And, if we are right about the long run unemployment rate being structurally higher, then the Fed has all the room it needs to continue Quantitative Easing (QE) to infinity. This might allow them to continue to hide the true financial position of the government for many years to come.
Nonetheless, the rising GAAP deficit and the sheer size of the U.S. Federal Government’s liabilities to its citizens makes it clear that one day or another, services (health care, social security) will have to be cut. Financial alchemy can hide reality, but it does not provide any tangible services.
Europe’s (unresolved) experience with its debt crisis provides an insightful window into the future. Austerity measures in Ireland, Portugal, Spain and Greece have caused tremendous pain to their citizens (25% unemployment rates) and wreaked havoc in their economies (double digit retail sales declines).
Are we going to ignore the obvious?
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From Eric Sprott & Etienne Bordeleau
Not a day goes by without hearing about the fiscal cliff, the debt ceiling or another political deadlock. We would not disagree that some of these are important issues that need resolving but, in the grand scheme of things, they are relatively superficial.
As we all know, central banks around the world have been frantically expanding their balance sheets. While exceptional times might warrant exceptional measures, Figure 1 below paints a rather troubling picture. The monetary base, the amount of money in circulation in the economy, has expanded at an incredible pace. Since the mid-80s, the U.S. monetary base had been very stable at around 5-6% of GDP. Through fractional reserve banking, this amount was sufficient to maintain annual inflation around 2-3%. With the banking system collapsing in 2008-2009, it was necessary for the Fed to increase the monetary base. However, banks are now in much better shape than they were in that period and the benefits of monetary expansion seem to be waning.
The Fed is not the solution to every economic and social woe and trying to hide real problems (eg. structurally high unemployment and rampant poverty, unsustainable income inequality and exploding government liabilities) with money printing achieves nothing constructive.
FIGURE 1: U.S. MONETARY BASE AS A % OF GDP
Source: Federal Reserve Bank of St. Louis, U.S. Department of Commerce: Bureau of Economic AnalysisEmployment
First, while we are supposed to be in the midst of an economic recovery, about one in five Americans are on food stamps (Figure 2). As the chart below shows, this measure of poverty has been fairly steady for the past year. We also find it hard to reconcile this data point with the headline unemployment numbers, which seem to be improving. We prefer a more comprehensive measure of unemployment, commonly referred to as U6, which includes discouraged workers and those working part time against their will. By this measure, we see that “Total Unemployment” has come down, but remains extremely elevated at around 14% of the labour force. Moreover, food stamps and “Total Unemployment” tend to move together. If food stamps users stabilize at current highs, we believe that it is a sign that the natural unemployment rate in the U.S. economy is now significantly higher than it was pre-crisis.
FIGURE 2: EMPLOYMENT IS NOT AS GOOD AS IT SEEMS
Source: U.S. Department of Labor: Bureau of Labor StatisticsIncome Inequality
Second, income inequality has been growing steadily since the mid-1980s. Figure 3 shows the share of total U.S. income earned by the middle class and the top 5% of households. As of 2011, the top 5% of households brought home over 22% of all income generated in the country, whereas the middle 20% of households (quite literally the middle class) got less than 15%. Coupled with the unemployment picture, this shows that a majority of the U.S. population has been losing ground to the most wealthy. In a society that relies on consumption for 70% of its economic activity, this certainly does not bode well for the future, since the wealthiest traditionally do not consume much of their income. To top it off, the recent “fiscal cliff deal” just reduced disposable income further by increasing payroll taxes by 2% for all those working, putting additional strain on the working class and their discretionary spending dollars. (See Figure 3).
FIGURE 3: SHARE OF AGGREGATE INCOME RECEIVED BY HOUSEHOLDS
Source: U.S. Census Bureau, Current Population Survey, Annual Social and Economic SupplementsGovernment Obligations
Another obvious problem is the liabilities of the Federal Government. The current cash reporting basis that the Department of the Treasury uses, vastly understates its deficit and future liabilities. Some estimates put the current unfunded liabilities of the Federal Government at about $222 Trillion and show an increase in the deficit from 2010 to 2011 of around $11 Trillion, which represents about 70% of the U.S. total GDP.1
Simple back of the envelope calculations can be made using the Treasury’s “Financial Report of the United States Government – 2012”, which comprises a detailed breakdown of its future financial obligations for health care, social security and other government services.2 This reporting is similar to what every corporation is mandated to calculate for the purposes of U.S. GAAP reporting.
Of course, accounting can always be “massaged” to improve one’s situation. This problem is most acute when there are many assumptions, like for pension and benefits accounting (a.k.a. social security and Medicaid/Medicare). ShadowStats makes the necessary adjustments and finds that for 2012 alone, the deficit amounts to $6.9 Trillion.3 This represents about 45% of annual GDP. While laudable, the current haggling by policy makers for a meager $2 Trillion in deficit reduction over 10 years represents only the tip of the iceberg.
A significant part of these deficits is caused by current and future health care spending. The Deloitte Center for Health Solutions recently published a report entitled “The hidden costs of U.S. health care: Consumer discretionary health care spending”, in which they analyze the many components of health care spending and how those expenses are underreported in official numbers. Figure 4 shows their estimates for total health care spending by age group for 2010.
FIGURE 4: TOTAL HEALTH CARE COSTS BY AGE – 2010, $ BN
Source: The hidden costs of U.S. health care:
Consumer discretionary health care spending, DeloitteFIGURE 5: U.S. POPULATION 65+ YEARS
Source: US Census Bureau 2012 National Population ProjectionsWhat is striking – but not that surprising – is the very large increase in health care costs faced by seniors. The report cites that “Seniors and Baby Boomers account for 64 percent of health care costs, but comprise only 40 percent of the U.S. population.” For seniors, total health care costs represent, on average, approximately $30,000 per person per year. Other estimates by Carnegie Mellon University professor Paul Fischbeck (although a bit dated) show that these annual costs increase dramatically as people age, reaching as much as $45,000 for 80+ year olds.4 Considering that GDP per capita was about $46,800 in 2010 and the income inequality mentioned earlier, these are figures that would put most households in dire straits.
Also, structural trends will lead to an ever greater share of the nation’s income being dedicated to health care. Figure 5 above shows the evolution of the U.S. population for the 65+ age group, as forecasted by the U.S. Census Bureau. The U.S. will end up with a steadily increasing segment of its population (from 13% in 2010 to 20% in 2030) composed of persons aged 65 and over. This matters for two important reasons. First, this means a smaller workforce contributing to GDP growth and paying taxes to support government programs. Second, and this is related to the first point, this trend will put tremendous pressure on social security and health care spending in the country, thus leading to structurally higher deficits.
These facts are by themselves troubling, but coupled with the population trends described in Figure 5, they become alarming. To illustrate the impact of overall population aging on total health care costs, we use the per capita numbers implied by the Deloitte study and apply them to the U.S. Census Bureau projections for all age groups. While we believe that those numbers fundamentally underrepresent health care inflation, we inflate per capita costs for each age group using the average “medical care” component of the U.S. Department of Labor Consumer Price Index. Finally we assume a 4% nominal GDP growth, which some might argue is overly optimistic when taking into account the smaller workforce we discussed earlier. In any case, Figure 6 shows the results of our simulation.
Only with the change in the composition of the U.S. population, total health care costs are forecasted to go from 22% of GDP in 2010 to over 30% in 2040. These are huge numbers! To put them in perspective, in 2011 total U.S. GDP was $14,500 Billion, so an increase from 22% to 30% of GDP would represent a $1.2 Trillion increase in health care spending in that year. If we increase the health care inflation rate by only 100bps, we calculate that by 2040, the share of GDP attributed to health care will jump to 40%.
FIGURE 6: HEALTH CARE SPENDING AS A % OF GDP
Source: US Census Bureau 2012 National Population Projections,U.S. Department of Commerce: Bureau of Economic Analysis, U.S. Department of Labor: Bureau of Labor Statistics & The hidden costs of U.S. health care: Consumer discretionary health care spending, Deloitte
According to the Deloitte study, about 60% of those costs are borne directly by households and the remaining 40% by the public sector (30% to Medicare and Medicaid). This means that households, of which the majority is either poor or in the declining middle class, will face an even larger squeeze in their discretionary spending.
Conclusion
To conclude, 20% of the population is on food stamps, an ever increasing gap between the wealthy and the rest and ever-increasing health care spending are all deep rooted and immensely important problems that get a ridiculous fraction of the attention that they deserve. The impact of these issues on both government finances and future economic growth are enormous.
As we discussed, the purpose of asset purchases by the Fed might no longer be improvements in the real economy, but rather a more subtle financing of U.S. government deficits. However, in the long run, expanding the money supply inevitably leads to inflationary pressures. Luckily for the Fed and the U.S. government, there is so much slack in the labour market that inflation might be years away. And, if we are right about the long run unemployment rate being structurally higher, then the Fed has all the room it needs to continue Quantitative Easing (QE) to infinity. This might allow them to continue to hide the true financial position of the government for many years to come.
Nonetheless, the rising GAAP deficit and the sheer size of the U.S. Federal Government’s liabilities to its citizens makes it clear that one day or another, services (health care, social security) will have to be cut. Financial alchemy can hide reality, but it does not provide any tangible services.
Europe’s (unresolved) experience with its debt crisis provides an insightful window into the future. Austerity measures in Ireland, Portugal, Spain and Greece have caused tremendous pain to their citizens (25% unemployment rates) and wreaked havoc in their economies (double digit retail sales declines).
Are we going to ignore the obvious?
1 See website of Professor Lawrence Kotlikoff of Boston Universityfor details: http://www.kotlikoff.net/opinions 2 Updates to his calculations for FY2012 should be made available in the near future. 3 Our calculations are similar to those carried by ShadowStats. 4 Our calculations are similar to those carried by ShadowStats. http://www.shadowstats.com/
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“Are we going to ignore the obvious?” Who is we? Sheep don’t read for the most part. I’m stacking. I know Sprott is stacking. Look for converts. That’s what I’ll do.
Et tu, Eric?
Every time something needs to be cut, (and it does) it’s always soc security, medicaid, and never ever the Empire and its global military bases (over 600 in over 100 different countries).
They should roll back the wild ‘defense’ spending, before throwing grandma in the snow bank. I’m no liberal, which means I dislike big government in every area, including military adventurism. How much did the destruction of Iraq cost? Afghanistan? Now we’re moving into Africa. Maybe they will give us a discount.
Slash the military budget in half. Bring our troops back and put them on the MX border to end the drug war intruding into the USA. Cut corporate welfare to zero and let them sink or swim on their own. Free market will decide.
What use would the other half of that defense budget serve? East coast breached by a handful of box cutters in a excruciatingly slow “attack”. If someone had wanted the US, they’d have taken it.
When the Derivatives Collapse that’s when we will see our just rewards. Don’t listen to anything else and keep stacking.
Yep, that and the bond market. Thanks to the Bernanke Fed, bonds are in quite a bubble these days and continue to be. Some of the air seems to be coming out of it, though, as money is rotating from bonds and back into stocks again. Still, debt IS a huge problem and just about every western country but those who export lots of raw materials is up to their eye-balls in it. Our current debt is costing us around $400B in interest payments and that’s with an interest rate of around 2%. At a more typical interest rate of 4-5% will be where this gets very interesting as interest costs skyrocket to $800-1000B. Oh, well. As some say, who cares what the monopoly money system does? Unfortunately, it will still affect almost all of us, one way or another.
“Luckily for the Fed and the U.S. government, there is so much slack in the labour market that inflation might be years away.”
I really don’t buy that one for an instant. You only have to look at John Williams real inflation figures published at Shadowstats to know official inflation figures are total BS. What about cost push inflation? An increase in the money supply will inevitably lead to an increase in the cost of producing finite raw materials. The idea that you can only have inflationary problems when there is no slack in the labour market is total crap. Zimbabwe had hyperinflation and high unemployment.
Also I really don’t think China, Russia, Brazil, South Korea and other emerging countries in Asia, holding large amounts of US government debt, will tolerate the continual debasement of the US$ for much longer. There will be payback as a lot of countries around the world are clearly sick and tired of the USA. As Jim Willie has said, a new Trade Settlement system has been set up and is ready to go. When it’s introduced the trillions of US$ held by foreign central banks will be returning home which could well kick the USA into the third world.
All elements of government piss me off but what really hacks me off is when Obama shoves ‘All In’. I don’t like being a bargaining chip in that stack. He can print another heap of chips at no cost to him. We just get played for the losers cuz’our taxes built that first stack.
And another thing. the government is going to solve the retirement and health care problems
Like Spain president Rajoy, they’ll steal our IRAs
Like Japan’s finance minister, they’ll ask us to jump into early graves.
Like F***fein of GS (just made $400 million on manipulating food prices–starve
Social Security Disability fund will go broke in 4 years.
Slack in the labor market has nothing to do with inflation at this time. Inflation at 10% now and will be much more later. It has everything to do with scarcity of food, a tipping point where many more than 50% of the people rely 100% on government transfer payments and faith in the buying power of currency collapses and FIAT is seen to be rapidly approaching the value of the salty outhouse TP that Ed B was talking about. Wince
“Like Spain president Rajoy, they’ll steal our IRAs”
If that happens, the gauntlet will be well and truly thrown down and war declared.
As we’ve discussed, AG, I have a plan afoot to handle this situation and am hoping for them to keep the PPS (Paper Ponzi Scheme) alive long enough for me to transfer enough money from paper in the system into PMs outside the system to live reasonably well no matter how badly these clowns botch things up. No way to know beforehand but having a plan seems better than not having one.
“Social Security Disability fund will go broke in 4 years.”
Speaking of SS, has anyone else noticed that every time a new estimate comes out on when SS will be broke, the date is a lot closer than the previous estimate? Yeah, I expect it to be getting closer as time passes but it is getting closer 3-4 times faster than time is passing! 2057 became 2044 became 2037 became 2031 became 2024. Not sure what the latest number is, though, as they seem to have stopped giving out these estimates… probably don’t want a sheeple stampede on their hands any sooner than necessary. Hmmm… suppose that this is why the Gov has bought a couple of billions rounds of ammo lately?
Come what may, I am extracting what I can get from the SS system before it implodes and am converting it to in-hand phyzz. Why not? It’s MY money!
To think this crap is going to continue for years to come is mind boggling.
The bigger picture is subservience of the 95% to the ruling class, the top 5%. They are slow boiling away personal wealth and methods of accumulating it. They want total control.
They manipulate markets to make paper attractive, pm’s unattractive. People fly into the corral door they open only to be slaughtered. When the paper markets crash, so do pm prices. When tax hikes take effect, so does transfer of generational wealth. They are using our fiat to buy American home/commercial mortgages. They have enacted laws to exact their desired outcome years in advance.
Solutions? We are one to two degrees away from controlling the GOP. Talk of a third party is anathema. The TEA Party sent shivers up their spines. We are two election cycles from taking over the GOP. Facing the radical left is not problematic if we the New GOP use a hybrid of William Buckley genius with Saul Alinsky tactics with a large portion of Reagan Conservatism tempered with Kennedy (JFK/RFK) liberalism.
Repatriate oversea holdings and bring US durable manufacturers home to employ the unemployed. If we employ the middle class, they will buy the products they make. Revaluate the USD, raise interest rates. China can keep what they have to build their middle class. To keep from losing power over their people if they dare a gold backed currency with Boom/Bust economic cycles, they will be forced to float their currency which will bolster Western currencies.
They will take down stocks and pm’s imminently, to take away our wealth. If you have fiat to invest in a crashed stock market and bullion base of support, you will come out wealthier. Many will not make do. The American Right must fuse with the TEA Party to take Congress from the GOP Establishment in 2014 and 2016. Their must be concessions on social issues with an iron rod rule over finances.
I am a member of what I call “the forgotten class”. Not in the top 5% or in the bottom 90%. No one ever mentions us. We are the invisibles of the 90-95% class. Like someone half-way up the ladder, we get clipped by both the group above and the group below. :-(
Not complaining, just saying.
http://rt.com/business/news/us-major-deposit-withdrawal-740/
It begins!
Argintus
One of the consequences of the hundreds of billions of funds transferred is they will wander to the money market accounts. The MMA managers are desperately trying to find investments that offer yields with some modest CYA safety while bringing in enough income to keep their homes in the Hamptons. ’Where are the customers yachts, he asked?’ But I disgress.
Rules are being written now by the snakes in the Senate banking committee to remove the safety net of the MMA, allowing managers to ‘break the buck’ If that happens investors could see their holdings marked to market, down 3-5%, if the investments drop in value. Bernanke has even called the trillions in MMAs a national resource, a bulwark against financial failure. I guess the means your money can be used as a fire break to stop systemic FIAT failure, but what do I know.
This happened to Lehman, partly precipitating their crash and earlier when another MMA fund broke the buck. It nearly broke the system and the Fed stepped in to rescue the values, bravely pissing on the flames while pulling on their Brown pants.
MMAs are terrible places to park money. They typically yield 2-5 BPS. The MMA managers keep 95% of the income and in the case of Fidelity, 105%, with a charitable give back of 10BPS to give the MMA owners $50 per $100,000. They hythecate and rehypothecate your money, shoving it into the burning casino like coal into the Titanic’s boilers. Full steam ahead. At least they’re using FIAT and not human bodies. Hmmm, I guess Saturday is a piss off day. Kind of like Friday and the rest of the week IMO
PS Thomas You are correct when you talk about boiling off the wealth. It’s like boiling the frog. It has taken a century of the Federal Reserve control of this country’s finance to get to this point. The elites think in terms centuries, giving their DNA damaged offspring the marching orders to control the world. What we have now is a world wide regime of mentally ill, pederastic elites who think of we, the people, as locusts and viruses, fit only to be removed in some demented Agenda 21 scourging
We are now saddled with over $70 trillion in private, corporate and governmental debt and yet only $65 trillion in net worth. This debt to worth ratio might be ok for a private citizen but this country is broke and can’t afford this monumental debt.The wealth slips quietly away while debt increases. All is going according to plan.
The international banking cartels, led by the Fed, ECB and B O J are doing what no army could do; impoverish the people before taking over. Being destroyed by debt is slower than being destroyed and taken over by invading armies. It accomplishes the same result but without all the bodies, destroyed buildings and wastage. Kind of like a FIAT Neutron Bomb. It kills the people and leaves the buildings. How goddam humane. I really detest bankers. Wars just adds to the profits of the bankers, aa a collateral benefit picked up along the way.
Mary Jo White: Fox In Hen House – Taibbi
Few really grasp, the exceptoin being you bloogers here, that the primary function of FIAT money is to take title to hard assets by using counterfiet notes. The last 100 years as has finally accomplished that goal.
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The mass transfer of all assets to the Bankster Class is nearly complete, they own almost everything of value and are now finding it difficult to find enough ignorant sheeple to continue to support the FIAT backed asset grab.
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Essentially, the Banksters have destroyed their own system of turning the common citizens into indentured debt slaves by destroying employment opportunities that might allow them to service their debts and to redeem their prommisory notes; oops, too bad.
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Monetizing the debt is their last resort but this time it isn’t going to work, the saturation of debt, private and public, is too high for any meaningful chance to recover. A total collapse of the FIAT is all that remains.
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You’re right “keep stacking” …. food, water, medicine, ammo, fuel, etc. precious metals will provide little nutrition when the time comes.
but buy farm land too…!
“precious metals will provide little nutrition when the time comes.”
Neither do my boots, tools, truck, or a thousand other VERY useful items. Something need not be edible to be damned useful. PMs fit in that category and they WILL have their time. My guess is that their time will arrive once all the dust has settled and the smoke cleared from The Great Collapse… and not a day before then. During the collapse is when the two most precious metals will be brass and lead.
One more thing. There is a stat that makes every pronouncement about dodging the Global Fiscal Cliff as complete BS and MOPE.
US Mega banks hold $7.8 trillion in assets, 69% of all US bank assets. Derivatives held by the same banks?—$212 trillion
Debt to worth ratio 27 to 1.
Quoting this from ZH, I admit that as a former banker, I’m not that smart. Non oxymoron there. But any banker who is honest, a group that could could fit in a phone booth with room left over for Superman and Lois Lane to do the wild thing, knows this is a recipe for disaster. No honest banker would loan a nickel to a company or person who had this debt to worth ratio, particularly when it’s clear and evident that the borrower was completely insolvent and illiquid. If you hear anyone claiming we are on the road to recovery, recall this statistic. Any alleged recovery is the bastard step child of a SNAFU and a FUBAR. I call it a Fiscal Clusterf***
The Emperor not only has no clothes. He’s getting a bankster daisy chain in the pubic square.