OUTSIDE THE BOX
YOU have heard the old saying that banks will only lend to you when you don’t need the money. In a sense, that makes for a good lending practice.
Yet people and institutions lend to governments who both desperately need the money and are very far in debt. The US government literally spends nearly $2 billion each day that it does not have and much of it must be borrowed. The current outstanding US government debt is $15 trillion, which is greater than the total annual economic output of the country.
The global debt crisis has put many large and important economies on the brink of disaster. Yet these same economies have been able to borrow money at historically low interest rates. The central banks have lowered rates to push more money into the economies, hoping they would begin to grow. However, that has not happened.
Further, the central banks have followed this policy to control the one damaging thing that can most easily and most quickly kill an economy: fear.
The reason interest rates are low is that people are scared about their money. When there is strong economic fear, money goes into safe government debt. The demand for this debt is big so the governments can borrow at low rates.
Fear is what has driven trillions of dollars lending to governments. When there is fear, people want the supposed safety of lending to a government that can always repay the debt even with newly printed money.
What, other than fear, would make it financially prudent to lend money to a virtually bankrupt borrower at a near-zero interest rate?
But here’s the catch.
The world is being told that these damaged economies are going to come back soon at full steam ahead. If that is true, then here is what will happen.
If the economies in the West do start to pick up, then that means people will have more money to spend, create jobs, and then economies will grow. But when confidence comes back and the fear goes away, the flight to safe government debt disappears.
If you are not afraid to invest in your business expansion, which will make you a 10-percent, maybe 15-percent net profit, why would you loan money to the government at 1 percent for five years? If the economies start growing and lending to government at these very low rates fails, rates will go higher.
Over the next 10 years, the 30 largest global economies will need to refinance $36 trillion of their debt. Where is the money going to come from? Now here is where it gets dangerous.
The interest payment on that $36 trillion takes a large portion of these governments’ revenues. An interest-rate increase will cause a dozen Greek defaults and we are right back where we started.
Therefore, the contradiction is this. These governments must borrow more money to pay the debts they already have. They cannot afford to pay higher interest rates above current levels. If the economies improve, no one will loan at these cheap rates. The financial system goes back down.
From Bloomberg: “Treasury 10-year notes declined [meaning rates go up] the most in eight months after the Federal Reserve drove investors into riskier assets and reduced speculation of further debt purchases by increasing its assessment of the US economy.”
Here in the Philippines, there are so many interesting short-term topics to think about—from the President’s love life to the Chief Justice’s real estate.
Even on the economic front, we cannot seem to look beyond the next quarter or past the latest economic-growth estimate. The stock market moves forward and last week’s action is forgotten while thinking about tomorrow’s trading but rarely about next year.
The Philippines has been fortunate to escape any significant damaging effects from this ongoing crisis. The predictions of planes loaded with overseas workers coming home and remittances drying up have not happened. The outsourcing industry is still experiencing large growth.
Philippine economic growth in 2011 was dismal, but cheer up. Credit Suisse just upped its forecast for 2012 to 3.5 percent from 3 percent. Of course, that’s lower than in 2011 and is barely enough to move even slightly forward, but hey, it could be worse.
The Philippines is not worried and is being short-sighted.
The greater economic problems lie just around the corner.
On a personal note, I look forward to seeing all of you who will attend my seminar this Saturday. However, we are fully booked as I want to keep it small for better two-way communication. I might have another in April. Please e-mail me at email@example.com if you are interested.
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