From: allin
The United States faces significant challenges regarding its national debt and fiscal deficit, with potential economic implications for the future. As of early 2024, the US federal government debt stands at 29.1 trillion, resulting in a debt-to-GDP ratio of 125% [00:00:54]. This ratio has risen steadily since the pandemic began in 2020, when federal government debt was 21 trillion [00:01:08]. Since then, federal government debt has increased by 80%, while GDP has climbed 38% [00:01:16].
The Big Debt Cycle Explained
Expert Ray Dalio, author of “How Countries Go Broke,” explains that these debt issues are part of a mechanical process known as the “Big Debt Cycle” [00:04:01]. These cycles typically last about 80 years, encompassing multiple shorter-term debt cycles (averaging six years) [00:06:30]. The US has been in its current “Big Debt Cycle” for approximately 80 years [00:06:46].
Dalio likens credit to blood, bringing nutrients to the economy, and debt to plaque that can build up in arteries, constricting the circulatory system [00:07:26]. The key question for economic health is whether the debt generates enough income to service it [00:07:47]. If not, debt grows, and its service costs consume more and more consumption [00:08:25].
The Role of Central Banks and Monetization
When a government faces high debt and a large supply of debt needs to be bought, a “heart attack” can occur if demand doesn’t meet supply [00:08:46]. Unlike individuals or companies, governments, particularly those with reserve currencies, can print money [00:09:45]. If the central bank (e.g., the Federal Reserve in the US) does not print money to buy the debt, interest rates must rise, constricting borrowing and weakening the economy [00:09:56]. Alternatively, the central bank can print money and “monetize” the debt, which is inflationary and lowers the value of the debt [00:10:21]. In either scenario, holding debt becomes undesirable [00:10:33].
EXAMPLE
The US government is currently running a nearly 24 trillion over the next decade [00:02:22].
Economic Implications and Warning Signs
Steady inflation from large stimulus during the pandemic led the Federal Reserve to raise interest rates, increasing borrowing costs [00:01:23]. Long-term interest rates on US debt have spiked to levels not seen since just before the 2008 Global Financial Crisis [00:01:42]. This means a significant portion of government revenue (nearly a quarter) goes solely to interest payments on existing debt [00:11:36].
The Death Spiral
A “death spiral” occurs when too much debt necessitates borrowing to service existing debt [00:18:59]. Investors perceive this as risky, leading to higher interest rates, which further increases the debt burden and the need for more borrowing [00:19:13]. Key red flags include:
- Debt service becoming large [00:19:39].
- Holders of debt selling off their assets beyond new supply [00:19:50].
- Long-term interest rates rising while short-term rates are stable or falling [00:20:00].
- The currency depreciating, particularly relative to gold or Bitcoin [00:20:20].
When central banks monetize debt, it leads to inflation and lower purchasing power [00:21:55]. Assets might go up in dollar-denominated value, but the real purchasing power of that money declines [00:15:05]. For example, from 1966 to 1984, US equities had a negative real return when adjusted for inflation [00:40:32].
Investment Strategies in a High-Debt Environment
Investors should focus on assets that benefit from reduced money value and monetization [00:27:15]. Gold is considered an international, mobile, and relatively private store of wealth, used by central banks as a reserve currency [00:27:30]. Bitcoin also shares some of these characteristics [00:27:36]. Commodities, in general, have declined in real terms over long periods due to productivity gains [00:30:23].
NOTE
It is crucial for investors to look at returns in “real dollars” – what can actually be bought with the money [00:41:14].
Dalio recommends diversification, including uncorrelated assets like gold, to reduce portfolio risk, especially in a leveraged market [00:39:11]. Productive assets are desirable, particularly those that can grow revenue and income during inflationary periods and currency devaluation [00:33:20]. However, technology and AI bring disruption, and investing at high prices, particularly with rising interest rates, carries significant risk [00:37:37].
Addressing the US Debt Crisis
Dalio uses a “risk gauge” to assess the US’s position. For long-term government debt, the risk gauge is at 100%, meaning it’s at its highest historical level of risk based on projected supply, demand, and debt service [00:43:09]. While the US is not currently in the “seizure” stage (debt crisis actively unfolding), its condition is “very bad” [00:44:09].
Ray Dalio on the US debt problem
“If I’m speaking to you as the government policy makers your condition is is very bad. You’re not in the middle of it now… but you have to change your diet, you have to change your behavior, you have to maybe have a stent put into an equivalent.” [00:44:57]
Dalio proposes a “3% solution”: the US must cut its deficit to 3% of GDP from the current projected 7.5% [00:47:32]. This requires cutting the deficit by roughly $900 billion annually [00:48:08]. There are four primary actions that can be taken to resolve a debt crisis:
- Increased Taxes: Citizens lose assets and income [00:46:21].
- Cutting Spending (Austerity): Leads to a loss of government services and benefits for citizens [00:46:32].
- Central Bank Buying the Debt (Monetization): Increases inflation, devaluing currency and assets [00:46:40].
- Restructuring the Debt: Results in currency devaluation and losses for asset holders [00:46:55].
Urgency and Political Challenges
The proposed solution requires swift action, ideally “now” while the economy is relatively strong, because it’s difficult to implement cuts during a downturn [00:48:45]. The longer action is delayed, the more drastic future cuts will need to be due to compounding interest [00:52:49]. Significant spending cuts could naturally lead to lower market interest rates, reducing the government’s interest expense [00:51:52].
IMPORTANT
“The faster you cut the less you have to cut.” [00:53:05]
Political will is a major obstacle to addressing the US debt issues. Politicians often prioritize spending for constituents over long-term fiscal responsibility [01:13:30]. The current political climate, characterized by internal conflict and international tensions, makes agreement on a plan particularly challenging [00:55:57].
Broader Geopolitical and Social Context
The US fiscal policy and debt challenges are intertwined with broader global trends:
- Internal Conflict: Political polarization in the US is intensifying, testing the legal system and leading to potential fragmentation between states and the federal government [01:01:08].
- International Conflict: A shift away from a cooperative world order towards “might is right” dynamics is fueling conflict, including a “technology war” (e.g., in AI chips) and increased military spending [01:02:05].
- AI and Job Displacement: The rise of AI could lead to significant job losses, increasing demand for public support programs and potentially exacerbating existing economic and social challenges [00:56:51].
- Climate Change: This is also a significant economic issue that will add to future expenses [01:02:46].
These confluence of factors create an environment of high tension and potential for significant turbulence over the next decade [01:05:08]. While productivity gains from new technologies like AI are positive, their financial impact may not be immediate enough to address the current supply-demand imbalance in debt [00:57:18].
Ultimately, the future strength of the United States depends on its ability to address its fiscal challenges and implement difficult economic policy changes quickly [01:14:44].