Every year the US Government releases its Annual Report to its citizens. It is always interesting to see where we stand. Chart 4 below shows a 2016 balance sheet for the U.S. government. The assets are $3.4 trillion comprised mostly of student loans. The liabilities are $22.75 trillion comprised of two thirds federal debt (principal and accrued interest) and one third federal employee and veterans’ benefits. If I were Secretary of Treasury, Jacob Lew, I might have discounted that student loan asset inasmuch as most of that receivable is either in arrears or non-performing. I also wonder why the government does not treat Medicare, Medicaid and Social Security Benefits as a debt net of the corresponding trust fund asset. The explanation is that $5.5 trillion trust fund liabilities are off the “big balance sheet” because they are offset by assets on Agency balance sheets. I guess they wash which means that all these programs are fully funded? In fact, agency debt is de facto guaranteed by the taxpayers. So I don’t understand why they don’t just consolidate into the US balance sheet and round it up to $30 trillion?
When Will We See Profits from Operations
The U.S. Balance Sheet might be a little frightening but the trend line for receipts and disbursements should induce panic. The chart below is a little hard to interpret, but I can help. I have been looking at this report long enough that I actually get it now. The BLACK LINE is total receipts. The Color Bars add up to total non interest spending on categories like defense, Social Security, Medicare and Medicaid. The blue line is historical and projected total spending (which includes interest) from 1980 to 2090. In a sleight of color, Mr. Lew shows the real problem in white hoping that it will be ignored.
Prior to the crash of 2008, receipts and non interest spending were pretty closely matched with a wonderful period prior to the dot com crash where receipts even exceeded total spending including interest! During the last 8 years receipts plunged and non interest spending hemorrhaged, Thank goodness we have the world’s reserve currency and were able to control interest costs. Of course, we see a projection that by 2020 we will be back in balance with no primary deficit.
If one of our managers gave us this kind of rosy projection, we might ask to see the historical trend line supporting that wonderful future and we might also ask what is the interest rate assumption underlying the growth in net interest expense.
Look At the Net Operating Deficit
As shown below the government managers want us to believe they were on the right path for a believable turnaround until last year. The budget deficit fell from $1.089 trillion in 2012 to $438 billion in 2015. In 2016, however, the budget deficit spiked to $587 billion on the back of a 50% increase in net operating costs. In another interesting sleight of color, Mr. Lew portrays the budget deficit in red and the net operating deficit in white. In fact, the budgeting process for this management team is worthless and we as owners should just look at the net operating deficit. Our managers have overspent their income in every year since 2012 and they doubled the loss from 2015 to 2016. Since 2012 they have cumulative net operating losses of $4.45 trillion. So why would we believe anything in the projection from this management team about the future primary deficit and return to normalcy by 2020.
Interest Is Toxic
An even more important question is the cost of debt. Every year I look for the assumptions underlying the projected cost of capital and cannot find the assumption. This is a really important variable especially in a rising rate environment where the cost of funding accrued interest will keep rising. If we ever return to a 1980 environment where the cost of 10 year government debt was close to 20%, our creditors will basically own America.
Why Don’t We Care?
When I talk to even the most sophisticated financial people about this debt trap I get a lot of eye rolling and yawns. It dawned on me that no one cares. Is it the law of large numbers? Is it a “kick the can down the road?” Is it confidence in our ability to reschedule the debt because the U.S. Dollar is the reserve currency? Is it because the politicians plan on swapping the Grand Canyon for Chinese debt? Or is it because we are all hooked on this heroin masquerading as legitimate finance? Maybe it is an intellectual recognition that $30 Trillion of debt is a problem – BUT NOT MY PROBLEM.
My finance teachers always taught there are only 3 things you can do with debt, default on it, render it worthless by printing money or hyper-inflating or rescheduling it. There is one thing for sure that distinguishes governments from its citizens, they will never pay it back!!!!
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Rob McCreary, Chairman
March 7, 2017
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