[This is the third installment of a blog series Tom is writing on the national debt crisis. The first two are here and here. – CZ]
The dollar has an enemy. It cannot be bribed or bargained with, cannot be killed or wounded, and certainly cannot be ignored forever. It is a cold, unyielding, inescapable foe.
This enemy is math. The math of growing federal deficits.
For three years, the federal government has run deficits in excess of a trillion dollars. As official Washington struggles to reach an agreement to raise the debt ceiling, one focus has been to raise it enough to get through the 2012 election and into the next calendar year. How much would that be? About $2.5 trillion. (Just the interest on this addition to the debt is likely to cost American taxpayers about $100 billion a year. That’s roughly $300 in taxes for every man, woman, and child -- $1200 for a family of four.)
As the government digs deeper into debt, one question will become increasingly pertinent: Who’s going to buy all of this debt on which we will pay the interest? It probably won’t be individual Americans, because with only a five per cent personal savings rate, we aren’t saving enough to absorb this amount of debt. Probably not pension funds, because they are about to experience the same demographic hit that Social Security faces and will begin depleting their surpluses, rather than building them. Foreign countries have been mopping up extra U.S. debt for years, but if the trade deficit remains steady at about $500 billion, and annual deficits are over $1 trillion, there may not be enough dollars abroad for foreign governments to buy all of the debt, even if they wanted to.
So who’s left? Well, when both foreign and domestic demand for U.S. debt declines, the only buyer left is the buyer that, over the past three years, has quietly overtaken China as the world’s single largest holder of Treasury debt: the Federal Reserve, which now owns over $1.5 trillion of Uncle Sam’s IOUs.
Since the financial crisis hit, the big banks buy government debt, then turn right around and sell it to the Fed for electronically printed dollars. Thus far, the rounds of “quantitative easing” have been designed to promote lending and attempting to achieve the Fed’s second mandate of full employment by pushing interest rates extremely low and holding them there. But the program has also conveniently mopped up $1 trillion in debt issued by the Treasury. A preview of how this policy would affect the economy as a whole if continued indefinitely to fund government deficits can be seen in the commodities market, where traders have rushed into hard assets and sent their prices skyrocketing in anticipation of a prolonged dollar devaluation.
A continually weaker dollar is likely if we follow our current path. That means higher oil prices, higher prices for other commodities, and thus more pressure on the consumer’s pocketbook, thus restraining economic growth. A weaker dollar quietly drains the wealth of Americans.
The only way to overcome the math is to change it—before it’s too late.