Saturday, September 16, 2006

The US is Insolvent (and headed towards bankruptcy)

If we wanted to sum up the financial/economic knowledge of our current leaders - I think this quote by Joe Biden says it all:

“We’re going to go bankrupt as a nation,” Biden said.
“Now, people when I say that look at me and say, ‘What are you talking about, Joe? You’re telling me we have to go spend money to keep from going bankrupt?’” Biden said. “The answer is yes, that's what I’m telling you.” - Joe Biden (July 16, 2009)

Unbelievable. People sometimes confuse insolvency with bankruptcy. There are basically two types of insolvency. You can be insolvent and remain out of bankruptcy - as long as you have the cash flow to pay your debts. Insolvency simply means that your liabilities exceed assets.

From Wikipedia:

Balance sheet insolvency
-Having negative net assets – in other words, liabilities exceed assets.

This is obviously not a good development and is typically the first step towards bankruptcy. The next step is cash flow insolvency - which means that you do not have the cash to pay your debts as they come due.

From Wikipedia:

Cash flow insolvency
-Unable to pay debts as they fall due.

Cash flow insolvency is the final step that leads to bankruptcy. You can be balance sheet solvent (a problem arises if your assets are illiquid - and you cannot sell them to raise needed cash), and still be cash flow insolvent - and forced to file bankruptcy. This is why financial analysts focus on a company's 'cash flow' - and not just the balance sheet. There have been many investors who have been burned - when a company's balance sheet looked strong - but the company simply ran out of cash. Liabilities and assets don't mean a whole lot if a company can't pay its bills.

The obvious truth here is that if you are balance sheet insolvent (the U.S. has been insolvent for years) and are rapidly approaching cash flow insolvency - spending more money is obviously very unwise. The only reason we're not bankrupt already (due to out of control spending) - is because other nations and investors are loaning us the money to remain cash flow solvent. Without this additional money (cash flow) - we will not be able to meet our debt obligations - leading us to default on our debt - and ultimately bankruptcy. It's the same for individuals, companies and governments.

The biggest problem we face today is that with all of the 'stimulus' packages and 'bailouts' - the United States will be required to borrow 3 times the amount of money in fiscal 2009 - as it did in 2008. This is not a small number (estimated budget deficit of $1.8 trillion) - and the trends are not good. As Dr. Martenson mentions below - if we can't borrow this money by selling Treasuries - the only alternative is printing more money. As I've mentioned before - this will lead to a dramatic decline in the dollar, sky-high interest rates - lots of very bad things happening.

As for our current leaders in Washington D.C. - they are either completely ignorant of financial/economic matters - or they are deceiving us. I'll let you decide.

jg - July 17, 2009

The US is Insolvent (and headed towards bankruptcy)
Friday, July 17, 2009, 10:59 am, by cmartenson

Last night, in Boulder Colorado I had the honor to present a 1 hour mini version of the Crash Course ideas to an audience that I estimate to be in the vicinity of 300+. Sponsored by Transition Colorado, who did a remarkable and professional job of organizing and managing the event, this talk was attended by more young people than any other talk I have yet given.
This was extremely heartening.

Dr. Albert Bartlett was in attendance, which was a great honor for me, although I confess to being nervous at the thought of covering exponential growth with him in the audience. Kind of like giving meditation advice to the Dali Lama is how it seemed. Nonetheless, I now have a picture of myself with a man I am sure will be recognized through time as being both right and unwavering in his views on exponential growth and population.

At the talk I necessarily had to gloss over some important details and one of those concerned the statement that “The United States is Insolvent.”

I originally wrote about this unpleasant fact back in 2006 and today, unfortunately, the situation has only deteriorated. I want to revisit that topic because there is really nothing more onerous to the future prosperity of a country than going bankrupt. If you care about the future prosperity of the US, you need to understand this situation.

Yesterday, my jaw literally dropped when I read this statement made by Vice President Joe Biden;

“We’re going to go bankrupt as a nation,” Biden said.
“Now, people when I say that look at me and say, ‘What are you talking about, Joe? You’re telling me we have to go spend money to keep from going bankrupt?’” Biden said. “The answer is yes, that's what I’m telling you.”

What surprised me was not the admission by a sitting US Vice President that the nation is headed towards bankruptcy. I suppose that's pretty clear to everybody by now so why not just tell it like it is? What got me was that the statement, as expressed, displays an unbelievable ignorance of finance and economics. The claim boils down to the idea that the way to avoid bankruptcy is by spending money.

If this is somehow possible, I sincerely hope that Mr. Biden sees fit to share the secret with the millions of people that entered bankruptcy this year. Otherwise, it will have to stand as a jaw-droppingly inane comment.

But it clues us into the mindset of at least some of the DC leadership and that gives us some sense of how much faith we should place in their efforts to centrally manage everything from car companies to secretive trillions handed out to untrustworthy bankers.

Instead of blind faith, we might prefer to trust in our own ability to look at the data and ask, “how is this going to work?”

This morning I finally read an exceptional document put out by Sprott Asset Management (Toronto, Can.) which exactly and precisely lays bare the magnificent funding problems that DC has created for itself. Titled “The Solution…Is The Problem” it opens with a statement of fact, “In fiscal 2009, the United States must find buyers for almost three times the debt that was issued last year.”

Three times, or 300% more debt sales by the US government this year compared to last year. How will that happen? Rather than just sort of assume that this will somehow get done, this report breaks down the potential purchases of US debt by specific classes of purchasers and provides a mid-year report card on how each one is doing in their quest to buy 300% more than last year.

The results are not encouraging.

We begin with the largest buyers of debt outside of the United States – ‘Foreign and International Holders’ (#2). This group accounts for the largest source of external capital for US debt purchases and represents a very important group to float the deficit. They collectively purchased $564 billion last year, and the US will require them to increase their purchases to $1.6 trillion in 2009. Thus far, they have only purchased $465 billion to March 2009, which is halfway through US fiscal year - and well behind the pace needed to triple last year’s purchases.

Current data does not bode well for further purchases either. In fact, April Treasury data revealed that ‘Foreign and International Holders’ were net sellers of US debt from March to April 2009.4 This is not surprising given the public comments from officials in China, Japan, Russia and Brazil concerning the level of debt issuance by the United States and its potential impact on the US dollar.

The report continues on covering all ten classes of purchasers and it turns out that only one, “Other Purchasers” is on track to triple their purchases over last year. The other nine? Most are well off of the pace needed to cover up a massive gap.

How will the shortfall be covered? In reality there is only one option and it is the reason I own gold. As the Sprott paper concludes:

As we hope the breakdown above has revealed, the future solvency of the United States as a nation state is currently in jeopardy. It is in far deeper trouble than the mainstream press cares to admit. There are simply not enough new buyers of debt on this planet to support the spending programs of the United States government - and it appears that current holders of debt are beginning to sell. Because it is impossible to balance the budget from outside sources of capital, the only source of funds left for the US, in all reality, is continued money printing.

Such money printing represents a breach of the public trust required to operate a fiat money system. We trust that they will operate the money machine responsibly and they trust that we will go about our daily lives and be productive. Instead the Fed is aiding and abetting the largest printing operation in history and is steadfastly refusing to be audited in any way shape or form. If confidence and transparency are required elements for the sustainable continuation of a fiat money system, the US dollar is in for a rough ride.

While the short term wiggles and jiggles of the markets, and their attendant mouthpieces in the media, do their best to confuse us, it is the larger trends that will illuminate the way.

There can be no doubt except that the US government is financially insolvent. While we may not know the exact timing (this year, next?) or the exact mechanisms (raise taxes hugely? Renege on entitlement benefits?) we can be sure that past profligacy will translate into future hardship and reduced prosperity.

And the shame of it all is that it did not have to be this way. History is thoroughly unambiguous on this matter; spending beyond ones means inevitable ends in tears. No exceptions. How did we manage to forget this?

As I probe further into this country’s recent past, the time of my grandfather and great-grandfather, I am reading of people who understood that prosperity resulted from a combination of productivity and living well within ones means. I wonder what changed and how we so completely forgot the lessons of the (very) recent past that today it is possible for a Vice President of the country to state that spending is the key to avoiding bankruptcy and then walk out of the room with his head held high.

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