The gravity defying melt-up continues to push up the S&P which gained another 1.4% for the week. Volume was light on all four of the up days; volume was heaviest on the one down day. The VIX index slipped solidly into complacency territory; it dropped down to levels last seen in May 2008, well before the Lehman implosion.
The few economic data releases were mostly weak. Consumer credit was projected to hold steady; instead, it cratered–falling $11.5 billion. With 70% of the US economy depending on consumption, plunging credit levels indicate that any recovery in consumption is not around the corner. Weekly jobless claims surprised to the downside. They were expected to fall; instead they spiked up to 460,000, again suggesting that the so-called recovery is on shaky ground. The ISM services index came in slightly better than expected.
Technically, the S&P is still in a highly overbought position–on both the weekly and daily charts. Both time frames are still signaling multiple negative divergences that are usually associated with a loss of momentum and upcoming price reversals. We’ll see if next week brings us this pullback.
The Bank for International Settlements, the central bankers’ central bank, recently released a forward-looking paper titled: The Future of Public Debt: Prospects and Implications. The paper explored the question of how concerned “should we be about…high and sharply rising public debts?” Because “So far, at least, investors have continued to view government bonds as relatively safe.”
The outlook was horrific: “fiscal balances have deteriorated sharply, by 20-30 percentage points of GDP in just three years. And unless action is taken almost immediately, there is little hope that these deficits will decline significantly in 2011.”
Also, the BIS reminds us that “the current fiscal policy has coincided with rising, and largely unfunded, age-related spending (pension and health care costs)” which when combined with aging demographics, means that these debt-laden countries will have fewer working people (as a percentage of the population) available the soaring debts.
Where does this lead? The charts below reveal a grim picture. The dashed red line is the baseline scenario (the expected case, with no changes). In the US, public debt is on track to exceed 400% of GDP, and this even excludes unfunded Social Security, Medicare and Medicaid promises. Adding these debts to the private sector (household and corporate debts) results in total debt to GDP that exceeds 1000%.
This is akin to a household earning $100,000 annually (most of which is spent on taxes, shelter, food and other living expenses–leaving very little for debt service) BUT which is laden with $1 million in debt. Unless the family can borrow at near-zero interest rates, this debt load is unsupportable. The family is bankrupt.
For the US, this projection is catastrophic. Well before the US reaches such a debt level, it would suffer a funding and currency crisis. In short, the US would default and our economic, social and political system as we know it would collapse.
The US, and much of the rest of the world’s economic powers, are heading toward the edge of a cliff. This is 100% certain. The math is indisputable.
The question is: can our leaders (our politicians) muster the will and the courage to steer us away from the cliff’s edge?
Economic history, according to Niall Ferguson, argues strongly that the answer is no. This same problem is what brought down almost all empires over the last 2,000 years.
Let’s hope that this time is different.