US national debt currently stands at $19.9 trillion and, at the rate it’s going, is set to surpass $20 trillion in 2017. Gary Shilling, publisher of the must-read Insight newsletter, said this is not a problem until we either see “a tremendous amount of inflation or a complete breakdown in confidence in US Treasury obligations.” Once that happens, the world’s largest economy is at risk of an exploding ‘debt bomb,’ as he puts it:
“Government debt in this country is about 80% of GDP—federal government debt—and that’s the net debt in the hands of the public. We throw out the debt where one government agency is lending to another…(because) when government collects Social Security payments from everyone, the Social Security Administration sends that to the Treasury and then the Treasury issues them an actual government bond, but that’s an intergovernment transfter and doesn’t really have anything to do with markets and so on, so we exclude that…
We look back at the point in which the interest on the government debt was the highest it ever was and that was back in the 70s and that did not upset the apple cart and we say, ‘What will it take to get there?’ Because, you see, the whole argument here is this ‘debt bomb,’ it’s the idea that government debt gets to the point that the interest on that debt becomes a huge chunk of the deficit and that adds to the debt and then the whole thing then grows asymptotically.Seth Klarman’s 2021 Letter: Baupost’s “Never-Ending” Hunt For Information
Baupost's investment process involves "never-ending" gleaning of facts to help support investment ideas Seth Klarman writes in his end-of-year letter to investors. In the letter, a copy of which ValueWalk has been able to review, the value investor describes the Baupost Group's process to identify ideas and answer the most critical questions about its potential Read More
Well, we didn’t get there in the 70s and, of course, now with low interest rates, we are way below where we were then so to get back to where we were in the 70s, which was the highest interest on the federal debt in relation to the economy, you’d have to get back to government interest costs of about 8% and they’re now about 2%. Now, that could happen, but you’d have to have a tremendous amount of inflation to get there or a complete breakdown in confidence in US Treasury obligations and, boy, that would be a pretty tough world either way.”
See Gary Shilling on US Debt Bomb, Financial Shocks for more.
The two scenarios of inflation and a breakdown in confidence are unlikely to come all at once or without any warning signs. Rising inflationary pressures, a commensurate rise in yields (and interest costs for borrowers), an increasing number of defaults, and less willingness by investors to lend capital (a loss of confidence), will be the most likely process we’ll see play out in the years ahead.
Of course, as we discussed on our podcast a few months ago, the US could sell off trillions in federal assets, which Trump has reportedly considered, though, given the structural imbalances facing the US (and most other developed economies), this won’t eliminate the problem but merely delay the inevitable.
Assuming the US (or Trump) doesn’t take this drastic step at some point in the future, when should we expect the debt bomb to hit? That’s where Dr. Alan Beaulieu at ITR Economics comes in. Consider US Economy to Skirt Recession Until 2019, Hit a Brick Wall in 2030:
“(Dr. Beaulieu’s) call for a 1930s-style Depression around 2030 is a mathematically-derived forecast based on a number of converging trends: global inflation, healthcare costs, entitlement spending, and a burgeoning national debt.”
The timeline for his 2030 call (including a 2019 recession) was first laid out in a 2014 book titled, Prosperity in an Age of Decline, and we conducted an in-depth book interview with Dr. Beaulieu on FS Insider two years ago (see Is the US Headed Towards a Great Depression? ITR Economics’ Dr. Alan Beaulieu Explains).
So far, this has been the best analysis presented on when a US debt bomb is likely to hit. When we look at the most desperate governments around the world aggressively expanding their money supply, which is helping to drive a bitcoin carry trade, Dr. Beaulieu believes the trigger will start with Japan:
“Their numbers are worse than ours in terms of debt and demographics. They don’t have enough children and they don’t like immigration.” Eventually Beaulieu sees the Japanese government having to sell US Treasuries in such large quantities that it puts downward pressure on the US dollar and leads to higher interest rates. Japan “begins a trend that starts to snowball,” he said. (source)