The Persian Gulf emirate Dubai is seeking to defer debt payment on nearly $90 billion in liabilities from its state-run companies. Like many other over-leveraged enterprises and some countries across the globe, the government of Dubai made massive bets on real estate that have since gone sour.
But no matter where in the world such cases occur, the ramifications of taking on too much debt are the same. Unless the party in question can be bailed out, the deleveraging process usually leads to default and insolvency. It makes no difference whether it's a business, like AIG (NYSE:AIG), or Bank of America's (NYSE:BAC) Countrywide Financial, or a country,
U.S. Weak Dollar Big Threat To Economy
The Feds Have No Faith In Recovery
Mr. Geithner: Stop Passing The Buck On The Dollar
the entity in question must always be able to service its debt, either by generating revenue or taxation. If the enterprise or state becomes too extended, it becomes perilously dependent on perpetual economic growth or on perpetually low interest rates.
It's not just Latvia, Ukraine and Dubai that are cause for concern. Even economic giants like Japan and the United States need to take heed. The examples produced over the last few weeks and months should send a stark warning to the U.S. that we cannot continue to operate at our current levels of monetary and fiscal profligacy and expect the outcome of our Treasury auctions to remain positive forever. It is considered common wisdom that the appetite for sovereign U.S. debt, and for our currency, is inexhaustible. Common wisdom also had it not long ago that real estate values never fall across an entire nation.
The fact is that we've never been more overleveraged as a country. Our record national debt (defined as the total public debt plus intra-governmental debt held by trust funds like Social Security) now stands at over $12 trillion. Total non-financial debt (debt of households, businesses, state and local governments and federal government debt) as of the second quarter was a record $34 trillion. Household debt as a percentage of GDP now stands at 96.5%. That same debt expressed as a percentage of disposable income is at 129% - both just under their high water marks. Perhaps most surprising, given our record low and artificially induced interest rates, is that our Financial Obligation Ratio (debt service payments as a percentage of disposable income) is, at 16.6%, less than one percentage point off its all-time high. The icing on the cake: Our projected debt over the next 75 years is over $106 trillion. (For background reading on this problem, see Breaking Down The U.S. Budget Deficit.)
Our annual budget deficit of $1.4 trillion in 2009 shattered all previous records and the projections are that another trillion dollars in government debt will be added annually over the next decade. The amount of debt that needs to be rolled over each year is increasing because of the government's decision to finance our debt at the short end of the yield curve. The result is that the U.S. Treasury must sell trillions of dollars in debt into the market each year - and not merely find lenders to finance the difference between what our government takes in and what it spends during a given year.
The way to head off this nightmare scenario is for the U.S. to defend the value of the dollar now and stop the endless cycle of bailouts, inflationary policies and dependence on debt before the only person who shows up at our Treasury auctions is Banana Ben Bernanke with his printing press in tow.