Analysis of America’s Debt

One recent news item did get quite a bit of attention from the mainstream media but perhaps not for the right reasons as I’ll show in this posting.

 

The United States Bureau of Economic Analysis released itsestimates for the American Gross Domestic Product for the 3rd quarter of 2011.  Much to analysts’ surprise, the real gross domestic product, the output of goods and services produced by labour and property located in the United States, grew an at annual rate of 2.5 percent in Q3 2011.  This was up from the 1.3 percent increase in real GDP in the second quarter of the year.  We must keep in mind that these numbers are preliminary and that the more accurate “second” estimate will be released on November 22nd, 2011.  Growth in real GDP accelerated because of increased personal consumption expenditures and nonresidential fixed investment, all at the expense of reduced savings.

 

While all of this news is just wonderful, here’s the most pertinent paragraph from the press release:

 

“Current-dollar GDP — the market value of the nation’s output of goods and services — increased 5.0 percent, or $185.8 billion, in the third quarter to a level of $15,198.6 billion.  In the second quarter, current-dollar GDP increased 4.0 percent, or $145.0 billion.” (my bold)

 

Remember that number – $15.1986 trillion.

 

Now let’s take a look at the latest United States federal debt numbers from the Debt-to-a-Penny website:

 

 

The federal debt is now $14.9396 trillion. 

 

Now let’s look back one year to see what the federal debt looked like on October 27th, 2011:

 

 

The federal debt grew by $1.5347 trillion over the one year period for an average growth of $4.205 billion per day.  If we take the current difference between the third quarter GDP at $15.1986 trillion and the current federal debt of $14.9396 trillion, we end up with $259 billion.  At an average daily debt accrual rate of $4.205 billion, we end up with 61.6 days to make up the $259 billion difference.  In case you haven’t figured out where I’m heading with this, that’s roughly 62 days until America’s debt-to-GDP reaches the 100 percent mark.  While I realize that both GDP and debt accrual numbers are moving targets, I’m betting that the magic number will be reached on December 28th, 2011.  Think of it as a very slightly belated Christmas gift!

 

Why is the debt-to-GDP number of 100 significant?  Let’s take a look at the CIA World Factbook’s ranking of the world’s debtor nations from 2010 to see what kind of company the United States shares:

 

 

An even better look at government gross debt as a percentage of GDP can be found at the IMF’s website.  Here is a graph showing both historical debt and projected debt levels for several nations where my readers reside:

 

 

Notice the lines showing the debt of Greece and Italy?  As well, notice that the world’s overall debt-to-GDP level is much lower than that of the United States.

 

An economist by the name of Arnold Kling from the Mercatus Center at George Mason University has released a working paper entitled “Guessing the Trigger Point for a U.S. Debt Crisis” which I have referred to in a previous posting.  In his paper, Mr. Kling states that a given level of debt will not necessarily trigger a default since default depends on a host of external factors such as external confidence in the debtor nation’s ability to pay back creditors and more importantly, its ability to increase the level of taxes and the political condition of the nation.  For example, investors may tolerate a higher level of debt-to-GDP for the United States because they have confidence in the current regime.  Should that confidence change because of an election or because of external factors such as a world-wide depression or recession, the confidence level of investors may drop so that they will only tolerate a much lower debt-to-GDP ratio.  Another impact on investor’s willingness to hold Treasuries could depend on interest rates; this could function as a double-edged sword.  As both debt and interest rates rise, investor’s nervousness will increase because they perceive an increased repayment risk.  Because that risk is rising, the bond markets will demand a higher interest rate premium which will increase the repayment risk further. 

 

With a debt-to-GDP level of 100 percent, the United States’ debt level is now on the high side among its OECD peer group.  Certainly, Japan is an exclusion; their debt level is nearly 200 percent of GDP but they have the good fortune that their debt is largely held by their own citizens, making default much less likely.  Here is a graph showing that currently only 5 percent of Japanese government bonds are held by foreign investors:

 

 

On this chart from the Treasury Department, we can see that the same cannot be said for the United States:

 

 

Foreign governments hold $4.5725 trillion worth of United States debt with China holding $1.137 trillion and Japan holding $936.6 billion.  Guess who’s mercy we’re at?

 

Taking this information into consideration, it becomes most apparent that the Congressional Debt Reduction Special Committee had best put partisan politics back into their briefcases, settle down and get the job done.  With the debt issues in the Eurozone appearing to be far from over, it looks like the world is becoming an increasingly hostile place for investors.

 

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