The outlook of the course of the U.S.’s financial revenue and expenditure for the next 50 years is very dim. Because the baby boomer generation born after World War II will begin to retire in 2011, the government has entered a period in which expense on health care and retirement is predicted to dramatically increase. Such increase will bring the unprovided implicit liabilities up to $114 trillion. These potential debts will gradually evolve into real debts in the next 50 years.
We should say that from the time the Jamaica System was established through 2007, the gap between America’s financial revenue and expenditure was never very wide, even though the U.S. had financial deficit most of the time — the biggest annual deficit was around $600 billion. After 2010, however, the U.S. government’s financial revenue and expenditure showed a significant divergent state and could not be converged. This was rather scary to the world.
Spending on welfare constitutes 58 percent of the U.S. government’s current financial expenditure. Such compulsory spending (including social security, health care and retirement) has been promised and cumulated by every U.S. administration during its campaign, so it is inflexible and difficult to condense. This percentage is predicted to go up to 80 percent after 10 years. By 2025, the U.S.’s tax revenue can only pay for the interest (predicted to shoot up to $1 trillion from the current $200 million per year) and welfare plan; the U.S. will not be able to spare any extra energy to do any thing else.
The deficit prior to 2007 was mainly relieved by foreign countries’ financing to the U.S. government. China, Japan and other resource states’ annual current accounts’ surplus mostly could cover 70 percent of the financing that the U.S. government needed. In 2007 China’s current account balance reached a record breaking amount — 400 billion U.S. dollars; but then in 2010, China’s surplus significantly reduced to $180 billion. It is estimated that in 2011 the surplus will continue to shrink to $120 billion. Japan and the oil countries have encountered similar situations after the financial crises.
But the amount of the money that the U.S. government must borrow every year is twice or three times what it was in the past. The financial deficit in 2010 was $1.35 trillion; in 2011 the budget deficit will be $1.65 trillion. This has formed a huge financing gap. When Geithner wants to borrow money, the not-so-independent U.S. Federal Reserve will have no choice but to purchase public debts. The full logic of “quantitative easing” can be found here.
The process of monetization of debt is “printing paper money” because after the U.S. Federal Reserve provides the money to the government, the government will distribute the money to every family in the form of tax reduction, which will increase the liquidity of the entire economy. Therefore, the U.S. Federal Reserve’s balance sheet already increased from $830 billion before the financial crises to the current $2.5 trillion. Among them, $1.1 trillion of the debt position is the U.S.’s national debts; the U.S. Federal Reserve is the biggest owner of the multi-debt position of the U.S. national debts. The remaining incremental debt position was just a different type of institutional debt. That is to say, the U.S. financial departments take the toxic assets and give them to the U.S. Federal Reserve as a security, in exchange for capital and then distribute the capital to the U.S. government’s bonds. This process means that the U.S. government is using public debts to exchange with the financial department’s worthless toxic assets. After the financial crises, the national debt possessed by commercial banks suddenly increased to $500 billion.
When expectations of growth and inflation are up, the American national bond market might just breed trouble, and even turbulence. Because currently almost all banks and insurance companies possess huge amount of national treasury bonds in their investment portfolios, if something suddenly goes wrong with the national treasury bond, the shock will be several times bigger than when Lehman Brothers closed its doors. So an anticipation has begun to spread around in the U.S.’s financial market since the beginning of this year: “Has the bull market for the U.S. debt that has lasted since 1981 finished?” The concept of such a bull market has never been shaken, even in mid-2004, when the U.S. Federal Reserve carried out an interest rate cycle in which the interest rate went up 17 times. However, the concept has become kind of fragile nowadays. In March of this year, Gross and PIMCO all short-sold their U.S. debt positions.
After the U.S. carried out the second round of quantitative easing, the yield of the U.S. long-term treasury bond has gone up instead of coming down. The yield for the 10-year term treasury bond went up to the current 3.4 percent from 2.4 percent; the yield for the 30-year term treasury bond went up to around 4.5 percent from 3.9 percent. This signal will make both Bernanke and Geithner very nervous. This has indicated that after executing the second round of quantitative easing monetary policy, more and more questions of the credibility of the U.S. Federal Reserve were raised. In order to suppress the long-term interest rate, the U.S. Federal Reserve needs to continue to expand the scope of the quantitative easing monetary policy. However, this might just further deepen the market’s anxiety and push investors to speed up their separation from U.S. dollars. In the end, the interest rate will again rise and that will require an even larger scale of quantitative easing to control it — as a Chinese idiom puts it, “to drink poison to quench thirst.” Before the U.S. can find a way to write off its debts with positive results in economic development, be honest, it is afraid that there are not many choices. Speaking from this perspective, there is no way to end the quantitative easing monetary policy.
For the U.S., the right way to safely dismantle the bomb of debt bubble is to reform its expensive and inefficient health care system. This is almost the only hope for the U.S. government to rebuild finance balance. Currently in the United States, the total expenditure on health care for its people constitutes 17 percent of its national income. In the total expense of health care, the involvement of public departments — the funding provided by the U.S. federal government, state governments and local governments — occupies up to 46 percent. If one also considers that different levels of U.S. government also provide tax reductions and exemptions for the purpose of health care, then the percentage of public investment will surpass 60 percent. Such government involvement is almost twice as much as other developed countries’. The acceleration of aging population means that the rising costs of social security and health care will be shouldered by a smaller and smaller working population. The financial state of the U.S.’s health care protection and social security system will dramatically deteriorate.
The U.S. must significantly reduce the high cost of its social welfare so that its real competitive strength can rise again. Because the U.S. is never lacking the systematic energy of “reconstruction, innovation and reinvestment,” once economic cost is reduced, it will then be possible to speed up with full force toward the conversion of new energy and new knowledge services. When the expectation of an increase in long-term return appears in the economy, then it will attract more and more capital to continue to return to the United States. Then the U.S. dollar and its capital assets can lift up and rebound; household debt ratio will stop deteriorating and begin to improve; spending can start to increase sustainably — this is different from the short-term effect stimulated by the tax reduction policy; the government tax base will stabilize and will steadily reduce deficit.
But, the U.S. needs to have patience to carry out an effective long term policy because the creation and birth of a new economic factor and model require initial financial impetus; investments in education, research and innovation; and necessary tax reduction to stimulate the cluster burst of entrepreneur spirit and creative activities. All these signify that, at the least, people must bear with the continuous increase of government debt and financial deficit for quite some time. This requires public political tolerance.
However, as the economy gradually returns to solid foundation, employment can grow steadily and sustainably. Therefore, it will support the increase of revenue, lead to growth in spending, enterprise profits, capital investment and government tax revenue, and all the way to improvement of the financial deficit. Only by then can we be sure that a long cycle of new global economic development has begun (the last cycle began with the IT revolution in the ‘80s in the last century. It pushed the economy to rise continually until the new economic bubble broke in 2001, and then the spillover effects of the new economy still pushed the economic prosperity continued for five more years).
The possibility of seeing the above process before 2013 is zero; it is unrealistic to expect more from a president who is going to go through a presidential election. Because of this, Obama has brought up a loose deficit reduction objective, “cut $4 trillion in deficit in the next 12 years,” but it now looks more like just a campaign slogan. Americans consider that debt, deficit and inflation are threats, but not top priority issues. They will not economize on food and clothing in order to “balance again.”
When the U.S. resolves its debt problem, it tends to use, to a certain degree, a partial solution called “fleecing of the flock.” All American elites are very clear about this in their minds, but it is a paper window that they can not pierce through. Persistant “quantitative easing” can lead to crises in newly emerging countries: economic hard landings accompanied by serious inflation; significant decreases in investment efficiency and return; huge amounts of capital beginning to leave; currency depreciation. Correspondingly, the financing environment in the United States will improve greatly, and pernicious global inflation pressure will go away as the capital bubble breaks.
This matches the characteristics of the Americans’ personality: If I have to resolve my own problems, I might as well transform them into everyone’s problems, and finally I will be the one to fix everyone’s problems, because the U.S. dollar has the so-called structural monopoly power. In the last 40 years in the Jamaica System, Americans were very good in using time and speed differences in inflation to realize the transfer of fortune in large scale capital movements. The break-up of the former Soviet Union, the great recession of the Japanese economy in 1990 and the 1997 Asia financial crises were all similar outcomes of such movements.
Speaking from this point of view, China must be extremely careful in the coming years.
By Liu Yuhui
Translated By Pak Ng
16 June 2011
Edited by Gillian Palmer
China – China.com – Original Article (Chinese)