Gross Imbalances
It seems no matter where I turn, the concern over foreign investment in U.S. Treasuries is heating up. Most recently, much has been said in the U.S. Congress regarding such investments. Specifically, as it pertains to China. I view this in some way as a mild form of xenophobia and the rumblings of a global return to nationalism. Nationalism and even relative isolationism is a key global phenomenon to watch very closely. Images of foreign concerns owning national assets is a pervasive fear across the globe be it in Germany, Japan, the U.S. or elsewhere. I cite these societies as examples but in most countries nationalism is so intense that foreign ownership is prohibited or severely regulated in some form or another.
The disconcerting issue isn't that foreign entities are acquiring U.S. debt, it's that the Federal government needs to gain control of its spending. It's paradoxical that spend happy politicians are arguing against foreign entities buying debt created by their fiscal irresponsibility.
For those who incoherently babble that the Chinese or some other nation are setting up to dump U.S. Treasuries, let's take a stroll down economics 101. What would happen if this came to pass? What happened when frightened equity investors finally capitulated in 2002? Smart money bought hand over fist. And, what would happen if the Chinese were to dump U.S. Treasuries. They would surely do so at a loss just as equity investors did in 2002. And, given the U.S. bond market is very deep and liquid, smart money would be more than happy to pick them up at a significant discount. Smart buyers would profit and China would lose. How often does one get an opportunity to buy the world's benchmark bond at a discount? Don't bet on China doing any such thing. What better way to create global stability than to have global entities intertwined in the issuance and purchasing of other's assets versus isolationist policies of decades past?
While I generally believe government deficits aren't a major concern unless they reach extremes, the reality is world governments are not an efficient "user" of capital. If they were, we'd all be communists. Thus, I generally view government overspending as a negative development in that it takes away from private investment and private job creation. Is it a coincidence U.S. government spending is up significantly and private job creation is weak? I think not. There are two major causes of overspending in the U.S.; military spending and medical spending. Today, the U.S. military spending far exceeds that of the remaining 192 countries on earth, combined. In addition, today the U.S. spends more on healthcare as a percentage of GDP than any major economy on earth yet healthcare is totally broken for a significant part of the population. Thinking in big picture themes? One could argue it doesn't get much better than this for military related stocks. Strange political bedfellows will likely unite at some point to curb military spending as social liberals and fiscal conservatives join to curtail spending for different reasons. And, the U.S. is soon (relative) due for a transformational market driven solution to healthcare that could have positive implications for innovation. At the same time, it could create profit squeezes for those benefiting under the current system.
As an aside, now is a perfect place for one of my favorite quotes by former U.S. President Dwight Eisenhower. "In the councils of government, we must guard against the acquisition of unwarranted influence, whether sought or unsought, by the military-industrial complex. The potential for the disastrous rise of misplaced power exists and will persist."
I state these imbalances for purely economic reasons not as any type of political statement. These imbalances have contributed to an unbalanced economy. Whether they are the cause or the effect is debatable. Is a return to volatility in asset markets a result of volatility in global politics and macro events? Most likely they are. These imbalances contribute to the U.S. current account deficits. We have a current account deficit for two intertwined reasons. One, we don't make enough of what the world wants and two, the world generally does not have economic policies that stimulate their own domestic consumption thus increasing the demand for U.S. goods and services. I guess one possible solution to this issue is to get the rest of the world to buy more missiles and tanks. That would definitely increase macro volatility.
Let's take this a little further. The calculation is too complex but if one adds up employment figures for state, federal and local government; defense related industries; retail employment; financial services; and the secondary jobs created in support of those sectors; what would one come up with as a percentage of the total employment figure? As a percentage of total GDP? How would this compare to historical figures? I suspect a disproportionate amount of the U.S. population is working in retail, making missiles, working for the government or trying to sell you a mutual fund or mortgage.
In a self-correcting economy one should never expect trends to last forever. I consider the U.S. to be the ultimate self-correcting system for many reasons including the fact that capital flows are the least restricted of any major economy on earth. While capital moves at a dizzying pace, the democratic process moves at a glacial pace. Personally, I believe this disconnect exacerbates unsustainable trends. It takes near crisis for social and democratic change. But, were governments more efficient, we'd see them taking an even more active role in mucking up the economy and stifling personal freedoms. This is exactly why the founding fathers made the political system require near crisis to create meaningful change. In the end, gridlock is a major reason why the U.S. economic system is so successful. Ultimately the process must find some type of balance. Are we nearing enough of a crisis that constructive change creating more economic balance is imminent? We are moving in the right direction or the wrong direction depending on one's view.
The disconcerting issue isn't that foreign entities are acquiring U.S. debt, it's that the Federal government needs to gain control of its spending. It's paradoxical that spend happy politicians are arguing against foreign entities buying debt created by their fiscal irresponsibility.
For those who incoherently babble that the Chinese or some other nation are setting up to dump U.S. Treasuries, let's take a stroll down economics 101. What would happen if this came to pass? What happened when frightened equity investors finally capitulated in 2002? Smart money bought hand over fist. And, what would happen if the Chinese were to dump U.S. Treasuries. They would surely do so at a loss just as equity investors did in 2002. And, given the U.S. bond market is very deep and liquid, smart money would be more than happy to pick them up at a significant discount. Smart buyers would profit and China would lose. How often does one get an opportunity to buy the world's benchmark bond at a discount? Don't bet on China doing any such thing. What better way to create global stability than to have global entities intertwined in the issuance and purchasing of other's assets versus isolationist policies of decades past?
While I generally believe government deficits aren't a major concern unless they reach extremes, the reality is world governments are not an efficient "user" of capital. If they were, we'd all be communists. Thus, I generally view government overspending as a negative development in that it takes away from private investment and private job creation. Is it a coincidence U.S. government spending is up significantly and private job creation is weak? I think not. There are two major causes of overspending in the U.S.; military spending and medical spending. Today, the U.S. military spending far exceeds that of the remaining 192 countries on earth, combined. In addition, today the U.S. spends more on healthcare as a percentage of GDP than any major economy on earth yet healthcare is totally broken for a significant part of the population. Thinking in big picture themes? One could argue it doesn't get much better than this for military related stocks. Strange political bedfellows will likely unite at some point to curb military spending as social liberals and fiscal conservatives join to curtail spending for different reasons. And, the U.S. is soon (relative) due for a transformational market driven solution to healthcare that could have positive implications for innovation. At the same time, it could create profit squeezes for those benefiting under the current system.
As an aside, now is a perfect place for one of my favorite quotes by former U.S. President Dwight Eisenhower. "In the councils of government, we must guard against the acquisition of unwarranted influence, whether sought or unsought, by the military-industrial complex. The potential for the disastrous rise of misplaced power exists and will persist."
I state these imbalances for purely economic reasons not as any type of political statement. These imbalances have contributed to an unbalanced economy. Whether they are the cause or the effect is debatable. Is a return to volatility in asset markets a result of volatility in global politics and macro events? Most likely they are. These imbalances contribute to the U.S. current account deficits. We have a current account deficit for two intertwined reasons. One, we don't make enough of what the world wants and two, the world generally does not have economic policies that stimulate their own domestic consumption thus increasing the demand for U.S. goods and services. I guess one possible solution to this issue is to get the rest of the world to buy more missiles and tanks. That would definitely increase macro volatility.
Let's take this a little further. The calculation is too complex but if one adds up employment figures for state, federal and local government; defense related industries; retail employment; financial services; and the secondary jobs created in support of those sectors; what would one come up with as a percentage of the total employment figure? As a percentage of total GDP? How would this compare to historical figures? I suspect a disproportionate amount of the U.S. population is working in retail, making missiles, working for the government or trying to sell you a mutual fund or mortgage.
In a self-correcting economy one should never expect trends to last forever. I consider the U.S. to be the ultimate self-correcting system for many reasons including the fact that capital flows are the least restricted of any major economy on earth. While capital moves at a dizzying pace, the democratic process moves at a glacial pace. Personally, I believe this disconnect exacerbates unsustainable trends. It takes near crisis for social and democratic change. But, were governments more efficient, we'd see them taking an even more active role in mucking up the economy and stifling personal freedoms. This is exactly why the founding fathers made the political system require near crisis to create meaningful change. In the end, gridlock is a major reason why the U.S. economic system is so successful. Ultimately the process must find some type of balance. Are we nearing enough of a crisis that constructive change creating more economic balance is imminent? We are moving in the right direction or the wrong direction depending on one's view.
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