You’ve no doubt heard about the gigantic US government debt. Meanwhile, the mountain of debt has grown to the staggering amount of $ 31.3 trillion. In theory, of course, America can print unlimited dollars, so you would think that this is not a problem. However, the reality is different. In this article I explain in great detail how the mountain of debt and in particular the interest costs that America has to pay on it are a growing problem.
Debts in numbers
To understand why America can’t get around its mountain of debt, we need to take a quick look at the numbers. So at the time of writing, the United States has a debt of $31.3 trillion. Because of structural budget deficits, America is currently adding about $1 trillion a year to that mountain of debt.
The country is currently paying around USD 400 billion on those debts interest costs.
At the moment, the United States is still benefiting from the historically low interest rates that we saw in the past decade. For that reason, they pay relatively little interest on the debts in percentage terms.
The problem is that those historically low interest rates are currently causing skyrocketing inflation. To fight inflation, the US central bank raised interest rates at a record pace this year to the current 4 percent and expects to eventually raise interest rates to 5 to 7 percent.
As time goes by, this creates problems for the US government. More and more old debts are maturing, which the country must then refinance at the current interest rate of 4 percent.
Suppose America will soon have to pay an average interest rate of 3 percent on the total mountain of debt of $ 31.3 billion; then they pay annually $939 billion to interest costs.
By comparison, the country currently spends $800 billion annually on the US military. As a result, the interest costs would soon be higher than the annual costs for the entire army. Slowly but surely interest costs are starting to cut into America’s budgets and that’s where the pain comes in.
The budget under scrutiny
Every year, the United States brings in about $4.8 trillion in revenue, mostly through taxes. That’s the budget the US government has to deal with.
Right now, of that $4.8 trillion, it spends around $3.7 trillion on medical care, social security, and the like. In addition, 800 billion will go to the US military.
Below the line, $300 billion remains. Earlier I mentioned that the country currently spends 400 billion dollars annually on its interest costs. Ultimately, this results in a $100 billion deficit.
Revenue 4.8 trillion – 3.7 trillion – 0.8 trillion = 300 billion – 400 billion in interest costs = 100 billion shortfall
The chart below from the US Congressional Budget Office (CBO) summarizes this problem well. What you see is the total annual government deficit of the United States. The purple part is the regular expenditure (eg health care and military) and the blue part is the interest costs.
The CBO predicts that the total government deficit will increase to approximately 12 percent of the budget towards 2051. An important detail is that for this prediction they assume a scenario in which there are no recessions, crises, wars and other mischief.
This is therefore an extremely optimistic forecast, the outcome of which is still dramatic for the United States. It appears that the United States is in a so-called negative debt spiral.
The US is struggling with a structural budget deficit -> which leads to more debt -> which leads to a worse debt-to-income ratio -> to compensate for this risk, investors want higher interest rates -> because of the higher interest rate, interest costs rise and the government deficit decreases -> which causes the US to take on more debt…
This creates a dangerous vicious circle from which I can no longer see the United States breaking out. All they can do is try to postpone the misery as long as possible. This is only possible by printing more and more money and further inflating the mountain of debt… the ultimate consequence is then more and more and higher inflation.
The flight to hard assets
However, we cannot ignore the fact that the US dollar is currently the world’s reserve currency. That means the vast majority of global debt and trade is denominated in dollars. Many people have to pay their bills in dollars and that creates a ‘natural’ demand for dollars.
This year we have already seen the US dollar flex. All other fiat currencies have to lose out to the dollar and risk assets such as bitcoin and shares are also having a hard time.
Personally, I expect one last flight to dollars in the next 6 months – in combination with a recession. After that, however, the US central bank MUST cut interest rates to fight the recession and to to prevent that the interest costs of the United States are completely skyrocketing.
For that reason, I think inflation will be the main theme of the 1920s. Because of this dynamic and the approximate debt position the United States is currently in, I choose to protect my portfolio as much as possible with assets that the government cannot print.
Once the Federal Reserve is forced to cut interest rates, I expect the flight to US dollars to turn into a flight to hard assets. In theory, that’s the ultimate scenario for financial assets with the natural scarcity of bitcoin and physical gold. Both are therefore an important part of my portfolio.
Do you think it’s cool to read this kind of macroeconomic and geopolitical analysis? Then I have good news for you. Every week I produce a free newsletter on these kinds of topics.
I traditionally close the newsletter with an overview of my most recent investments in shares, commodities, bitcoin and physical gold. This way it also remains a bit transparent.
You can find me at ThomDerks.substack.com, will I see you there?
New shareholder letter 🖊️
This edition focuses on America’s debt problem.
– interest costs are skyrocketing
– more and more debt is needed to close the gaps
– inflation as the only way out
– how do I protect my portfolio against this? https://t.co/DSb4EEl1OA
— Thom Derks 🖊 (@_Thom_Derks_) December 5, 2022