Toby Birch

Articles:

Demon Debt

By Toby Birch March 2006 ttg.com

Having previously written articles entitled Cable Conundrum as well as Coin
Clipping and Castration, it is now time to move on alphabetically. It may appear a little rich for someone from a bank writing about debt concerns given that borrowing is a key part of our business. However, this article refers to the ballooning of easy money in America which may well mark the beginning of the end of America’s Superpower status.

Before 9/11, America was already heading for recession following the bursting of the technology bubble. However, the terrorist attack created a mood of no surrender in which a recession was politically not an option. There then followed three years of incredible stimulus to the economy through the use of ultra low interest rates, tax cuts and increased government spending. As ever the road to Hell is lined with good
intentions, hence the title of the article. The attempt to stave off recession at any cost has created lots of mini-bubbles in the economy such as those seen in property, shares and bonds.

One symptom of an overbought condition is the very low level of yield compared to inflation on all of these assets. This has quite simply been caused by there being too much debt-inspired money sloshing around the economy. Interestingly, in spite of the surge of liquidity in the US financial system, this has failed to push the stock market back to anything like its previous levels and is a sign that all is not well.

The indulgence in debt closely mimics theuse of drugs by an addict. At first, the addict is in control and then steadily the drug begins to rule their life and more and more is required to achieve the same effect. Like any addiction, the longer it lasts, the worse is the cold turkey effect afterwards. We only have to look at the Japanese example where the crazy lending of the ‘80’s has left an indigestible millstone around the neck of the economy. In a self-fulfilling inflationary spiral, the rise in Japanese collateral values
was closely followed by increased borrowing against those assets. One thing we know about assets is that they can easily fall in value while debt has a nasty habit of constancy when the inevitable downturn comes along. In the case of America, the burned out consumer is now being encouraged to switch from stable long term borrowing rates to the far more volatile short
term rates in order to keep the property pot bubbling. While the Chairman of the US Federal Reserve will be retiring in early 2006,many Americans will not have the same luxury given that he has presided over one of the biggest debt explosions ever which in turn will mean that many Americans will have to work to their dying day just to pay off the mortgage.

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