First, a personal story. In the seventies, my wife and I had rented an apartment in Ramot, Jerusalem using the last of our funds. I had finally found a job with Bank Hapoalim in Ramat Eshkol. It was winter in Jerusalem, cold and raining. My only pair of "good" shoes were worn and walking to the bank, water seeped through the holes and made my day miserable. So what does one do in a situation like this? I wrote my father who at the time was farming in Zululand, South Africa and explained my circumstance, requesting a loan at any interest rate. He wrote back "Harry, the young Africans on the farm are running around barefoot. Work it out. Too bad, so sad, Your Dad." Believe it! That was my first lesson in fiscal responsibility, and I have never forgotten it. Love you Dad.
The evils of compound Interest - A SUPER INDICATOR
The SUPER Indicator: If you want to know when to really worry, Watch US bond yields. When they start to rise it will indicate the beginning of the end of this long term bull market.
To make it simple, a household earns $100,000 p.a. They owe the banks, credit card companies and mortgage broker a combined amount of $100,000. The average interest on these loans is 3%p.a. The household income is used to pay interest, food, mortgage and other living expenses. Every year our household renews the debt by approaching the creditors and negotiating an extension for another year, except that the debt next year is $103,000 ($100,000 principle + $3000 Interest). Assuming that the household accounts are in order, the following questions need to be considered....and while we are considering, keep in mind that the household is The US situation today.
1. Can the household income (GDP) be increased by working harder and finding extra productivity? At the moment US Debt equals 100% of GDP (2011 Third quarter figures) and growing by the month. So far in 2011 Real GDP growth is about 1.5%-2%.
2.Should we increase our debt to try and keep afloat, in the hope that conditions improve in the the future or should we cut back and try and live within our means?
3.Should we devalue our means of payment so that we repay our debts with devalued dollars, further enraging our creditors. For the record, a single household cannot do this, but the US government can. The risk is that the paper money loses all its value.
4.And of course, the $64,000 question. Will our creditors continue to renew our loans. Or will they approach us and say that they are aware of our household figures and that since we don't appear to be doing anything about curbing the debt, they will only renew the debt at 4% p.a. or even higher. The consequences are obvious.
The US Treasury (Our household) raises funds by issuing Treasury Bills in the hope that there is strong enough demand to keep interest rates steady. So the yield (the effective interest rate) on US treasuries is a critical indicator. The situation in Europe is slowly spiralling out of hand, with governments raising funds at about 7% p.a. and most European government debt is well above GDP and compounding.
The slowdown in emerging markets is not helping the situation. So as we move into 2012, it might pay to remember that hundreds of millions of people are without shoes.
Life is uncertain. Eat dessert first - Ernestine Ulmer
Don't believe the world owes you a living; the world owes you nothing--it was here first - Robert Burdette
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