The Age of De-Leveraging

The following presentation comes to us from Seeking Delta reader Jason Leach. Jason is Director of Research and Portfolio Manager at Craven Brothers Wealth Advisors in Dallas, TX. He is also a CFA Charterholder.

The presentation is a fabulous info-graphic on how we arrived at our current economic situation, where the economy stands today and where we may be heading in the future. Feel free to read below or click on over to the Craven Brothers site and view.

 

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Weekend Reading

Quote of the Week:

As commercials for Fram oil filters used to say, “You can pay me now or pay me later.” In our case today, “pay me later” is a perpetuation of weak banks, substandard growth, persistent unemployment and stymied productivity. Better to do takeunders of banks now than to hire an undertaker for the whole U.S. economy later. ~Andy Kessler

Links for the Week ending Nov-20, 2010

The Canadian Century

Last week, in A Supply-Siders Investment Thesis, I mentioned Dr. Canto thinks the US should pursue a similar fiscal strategy as that of Canada in the mid-nineties. More on that topic from David Hay of Evergreen Capital Management, via John Mauldin. After reading The Canadian Century: Moving Out of America’s Shadow David makes the following points:

1. Canada was in worse shape than the the US is currently. Interest expense, for example, was around 33% of government revenue versus approximately 10% for the US currently.
2. Canada’s success was not without sacrifice. Government spending and employment was cut, targeted tax increases were made, the welfare system was modified and the Canadian Pension Plan (their version of Social Security) was reformed.
3. As a result of these actions, the federal budget was balanced in three years and a surplus was run for 11 years thereafter allowing Canada to cut its federal debt nearly in half. Not only did they reduce debt but also saw GDP growth of 3.3% versus the developed-world average of 2.7%.

Canada, by most any measure, is better off for the changes they made. The question remains, is there enough political will and foresight to make similar changes here?

Source: http://www.investorsinsight.com

A Supply-Siders Investment Thesis

“If you put the federal government in charge of the Sahara Desert, in 5 years there would be a shortage of sand.” ~Milton Friedman

Last week, I had the opportunity to attend a presentation titled “Around the World in 90 Days” by Dr. Victor Canto. Dr. Canto is the founder of LaJolla Economics and earned his Ph.D. in economics from the University of Chicago. He is very much a proponent of supply-side economics and in 1983 wrote The Foundations of Supply Side Economics.
It is from this Chicago school of thought that he made his presentation.

The presentation was divided into two sections; the first half covered his macro-economic outlook while the second covered his investment thesis based on this outlook.

Is the current trajectory of Public Debt reversible?

In John Mauldin’s latest letter he takes a look at recent research from the Bank of International Settlements. The paper titled, “The future of public debt: prospects and implications”, covers the remarkable increase in public debt among industrial nations since the beginning of the latest financial crisis and its implications for the future. The entire paper can be found here but one table in particular got my attention.

Table 3
Average primary balance required to stabilize the public debt/GDP ratio at the 2007 level
Over 5 years		Over 10 years	Over 20 years	Memo: Primary balance in 2011 (forecast)
Austria	5.1	3.0	2.0	–2.9
France	7.3	4.3	2.8	–5.1
Germany	5.5	3.5	2.4	–2.0
Greece	5.4	2.8	1.5	–5.3
Ireland	11.8	5.4	2.2	–9.2
Italy	5.1	3.4	2.5	0.0
Japan	10.1	6.4	4.5	–8.0
Netherlands	6.7	3.7	2.3	–3.4
Portugal	5.7	3.1	1.8	–4.4
Spain	6.1	2.9	1.3	–6.6
United Kingdom	10.6	5.8	3.5	–9.0
United States	8.1	4.3	2.4	–7.1
1 As a percentage of GDP. Sources: OECD; authors’ calculations.

This table shows the average primary balance that must be achieved over a 5, 10 or 20 year time period in order to return the debt/GDP ratio to 2007 per cent of GDP levels. A primary balance is essentially the difference between revenues and total outlays before interest expense.

What caught my attention is how realistic is the 2.4% primary balance required for the United States to return to 2007 debt levels within 20 years. Since 1930, a period of 80 years we have achieved a primary balance in excess of 2.4% of GDP in eight years, or 10% of the time. Five of these years were consecutive, from 1997-2001, during the boom years leading up to the bursting of the technology bubble.

A 10% frequency; doesn’t seem highly likely but it is realistic, right? It gets worse when you consider current forecasts for the next five years, 2011-2015. The average foretasted primary balance deficit is 5.1% per year. If these forecasts prove accurate it would require a primary balance surplus of, on average, 4.9% per year for fifteen years to get back to the 2.4% needed over the entire 20 year period. How many times has the 4.9% required surplus been achieved in the past eighty years? Exactly once; 6.3% in 1948.