By Investment Contrarians
When we enter the 2013 fall season, we will surely be hit with yet more talk regarding government debt. As the U.S. hits the debt ceiling once again, political grandstanding will be the name of the game.
While the budget deficit has improved from the depths of the recession, it is still significantly large as it continues to pile onto the government debt total, now approaching $17.0 trillion.
The real problem is that politicians are shortsighted. They’re not interested in what will occur 20 years from now, but what will get them elected over the next couple of years. This causes a huge incentive problem.
Without real structural changes, the government debt is set to balloon to massive proportions. Because the federal government has run an almost continuous budget deficit for years, allowing our government debt to approach $17.0 trillion, unfunded liabilities including Medicare and Social Security are over $100 trillion.
The U.S. is not alone in its current state of a rising level of government debt. Japan’s total government debt just crossed the quadrillion-yen mark (1,000 trillion yen), or US$10.4 trillion. This is more than double the gross domestic product (GDP) of the nation. (Source: “Japan’s debt exceeds 1 quadrillion yen as Abe mulls tax rise,” Bloomberg, August 9, 2013.)
The solution that Japanese politicians are discussing to reduce their budget deficit involves increasing taxes. At some point, this level of government debt needs to be paid back, in addition to the higher costs of servicing it.
The problem is that running a budget deficit, which continues to add to the government debt, will begin to seriously hurt the economy, as increasing sums of money need to be used just to service the debt.
This is like an anchor slowing the potential growth rate of a country.
At some point, the government debt level becomes so large that it could potentially sink the ship.
Both the U.S. and Japan continue to have low interest rates on their government debt. Investors, for whatever reason, feel certain that they will get repaid without losing much money to inflation—a thesis I completely disagree with.
As I’ve stated many times, I would certainly avoid U.S. government debt. Frankly, you’re not getting paid enough interest to warrant the risks associated with government debt at this point in the cycle.
Not until we see the potential not only for the budget deficit to end, but also for the government to begin running surpluses, will perhaps dipping your toe into government debt makes some sense.
But, of course, I don’t see the federal government generating any budget surpluses for years to come, which means that the government debt will continue to grow unabated.
~ by Sasha Cekerevac, BA
This article was originally published at Investment Contrarians