This week, guests will interact with Federal Reserve Chair Janet L. Yellen and colleagues inside a benign bubble that no outsider can prick — a scripted symposium, manufactured for the select few in Jackson Hole, Wyoming.
Perhaps privileged attendees will finally dare to confront sobering truth — reckless suppression of benchmark U.S. dollar interest rates, as the Fed has done since 2008, locked all Americans into a dangerous financial bubble that rivals and enemies are sure to pierce, perhaps quite soon.
Cursory review of financial statements reveals extraordinary measures by which the Federal Reserve System has intervened in capital and currency markets since 2006. Yet, from recent testimony, we already know that Ms. Yellen, like predecessor Ben Bernanke, refuses to recognize the omnipresent bubbles that resulted.
The single most important clue for discerning financial excess inside the U.S. is the interest rate the U.S. Treasury pays on its 10-year notes. Professional investors who control the bulk of the world’s wealth price securities in reference to this rate — the lower it falls, the higher prices climb for most assets.
Dollar interest rates cannot remain low indefinitely
From 2007 to 2013, interest rates on actively traded and widely held 10-year debt obligations of the U.S. Treasury averaged 2.87 percent — ranging from a high of 3.74 percent in 2007 to a low of 1.91 percent in 2012. Steadily through this period, America began a retreat, ceding pre-eminence.
The last time comparable interest rates remained below 3.75 percent for a protracted time was from 1945 to 1957 — when America resolutely led the Free World. During this 13-year period, with the U.S. dollar backed by gold (for international investors), the average interest rate on 10-year U.S. Treasury notes was 2.63 percent.
In contrast, during the 49-year period from 1958 to 2006, the average interest rate on 10-year notes was 6.78% — nearly two and half times the average levels seen from 2007 to 2013.
Even if the rest of the world stood fully prepared to follow America’s lead, which is certainly not the case now, the Federal Reserve and the U.S. Treasury have little remaining latitude to press interest rates low while the government runs gigantic budget deficits.
America’s dangerous addiction to debt
At the end of 1945, America’s entire debt (households, businesses, governments, and financial institutions) stood at $350 billion — an amount 3.44 times the sum of all wages and all incomes earned by proprietors, other than farmers.
During the 13-year period from 1945 to 1957, when interest rates on 10-year Treasury notes were comparable to recent levels, the ratio of total debt to income averaged 2.76-to-1.
Scroll forward to 2006 — the year before the last major bubble started popping. At year-end, total debt was a whopping $44,436 billion, or 7.36 times wage and non-farm proprietors’ incomes.
Now consider 2013 — total debt at year-end reached $55,992 billion, a level that is 7.81 times total gross income from labor.
A case for extreme caution
For much of the time since 1945, securities denominated in U.S. dollars were the port of first call for foreign investors. No other currency and few other markets were as liquid and as prudently managed.
Someday soon, American currency will need backing stronger than empty promises and false hopes.
Meanwhile, the world desperately needs a currency for savers, one that will hold its value against the swarm of economically illiterate populists who believe that lies concerning financial matters will never be checked, nor liars punished.
Signs of inflation, and mounting frustration with American and western financial practices suggest that we near a new world, where the Federal Reserve, the U.S. dollar, and America’s governing class will go back to school, relearning lessons that brought down overstretched empires throughout history.
Always remember that when you buy a dream, eventually you live a nightmare.
• Charles Ortel serves as managing director of Newport Value Partners (NewportValue.com), which provides economic research to executives and to investment firms.
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