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It Don’t Come Easy Leaving Quantitative Easing

It Don’t Come Easy Leaving Quantitative Easing

The rate on ten-year U.S. Treasury bonds rose from below 3 percent to 3.2 percent last week.

Signals abound that that Quantitative Easing morphs into Quantitative Tightening.

The rise in the bond rate follows the Federal Reserve, which devoured U.S. bonds when the economy tanked during the Great Recession, announcing the increase of the federal funds rate by a quarter percent. That third hike of the year prefaces perhaps a fourth one at the Fed’s December meeting.

“The really extremely accommodative low interest rates that we needed when the economy was quite weak, we don’t need those anymore,” Fed chairman Jerome Powell explained. “They’re not appropriate anymore.”

In other words, a strong economy makes extraordinary measures by the Federal Reserve unnecessary. Beyond this, the Fed chairman telegraphed more hikes.

“Interest rates are still acommodative, but we’re gradually moving to a place where they will be neutral,” Powell noted. “We may go past neutral, but we’re a long way from neutral at this point, probably.”

All of this led to a spike in credit card rates to historically high levels, worries in the housing market, and jitters, however temporary, in the stock market. Should inflation accompany economic growth, the Treasury bonds rate and the federal funds rate likely increase, which may adversely impact credit cards, the stock market, housing, and much else.

The real danger here involves something else entirely.

The United States owes creditors nearly $22 billion. The amount figures to soar in the coming decade. The Congressional Budget Office forecasts that deficits average in excess of $1 trillion per year for the next decade.

The supply of treasury notes necessarily expands, meaning higher rates to make them more attractive to buyers. Compounding this problem, the Federal Reserve shifts from Quantitative Easing to Quantitative Tightening. In other words, the federal government no longer enjoys such an eager and wealthy buyer of its debt as the central bank looks to return doing what central banks do and not permanentize the extraordinary measures it took during the Great Recession.

Taking on greater debt comes at the wrong time. Not only does the economy — currently growing at robust rate in excess of four percent — not require trillion-dollar deficits, the price of borrowing for debtors grows as a result of the government’s increased demand for loaned money coincides with the Fed’s unwillingness to continue to act as such a major creditor.

Interest on the debt, which the federal government paid at a 6-to-7 percent rate for most of this decade, projects, according to the CBO, to rise to 12.5 percent by the middle of the coming decade. This bad habit, like a lot of bad habits, grows more expensive.

The market tells us something here: quit borrowing so much money. The albatross forcing America into ever greater debt is healthcare costs. Healthcare amounted to about five percent of the budget a half century ago. The Committee for a Responsible Budget notes, “That share increased to 20 percent by 2000 and 28 percent by 2017. By 2028, one-third of federal dollars not spent on interest will go toward health spending, and by 2040, nearly 40 percent will. Even these estimates do not account for the erosion of the tax base resulting from the tax exclusion for employer-sponsored health insurance.”

But, unlike defense, Social Security, or any other program, simply cutting appropriations will not solve the spending problem. Americans, collectively, devote about 18 percent of the economy toward healthcare. A half-century ago, Americans spent about seven percent of GDP on healthcare. The government spends so much because it took on more responsibilities (Medicare Part D, Obamacare, etc.). But more consequently the government spends so much because Americans spend so much.

Want to cure our debt addiction? Operate on our sick healthcare system.

Hunt Lawrence is a New York-based investor. Daniel Flynn is the author of six books.

Published at Thu, 11 Oct 2018 17:41:53 +0000