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Wednesday, March 30, 2011

Debt: The Original Frontier

*for all you whiners out there complaining about our debt. Most of you are Reagan sympathizers so some history is in short order. And PS: Congressman Ryan said "if we don't vote for this, it will be armageddon financially." So said the presidential runner up in support of you guessed it, TARP, the biggest Wall Street bailout package of all time. Hummmmm, looks a little like Reagan, smells a little like Reagan, maybe its Reagan reincarnate! Won't Nancy be happy...

And isn't it interesting that as US debt rose so goes the stock market?

The Reagan/Bush/Clinton Bull Market:
September 30, 1982 "Temporary" $US 1,290,200,000,000
End 1982: What the hell! Distinction between "temporary" and "permanent" ceiling eliminated.

As most students of the U.S. stock market know, the great bull market on the Dow began in August 1982, from a level of 776 points.

Eleven years before that, in early 1971, the U.S. Treasury's debt ceiling was "permanently fixed at $400 Billion. That fiction was maintained for eleven years, through "temporary" debt ceiling increases. By late 1982, actual Treasury debt was three times the permanent "ceiling of $400 Billion, so the decision was made to eliminate the distinction between "temporary" and "permanent"

From that point in 1982 until almost the end of 1995, the Dow and the level of U.S. debt rose in almost lock step with each other. In fact, barring the two years after the crash of October 1987, you could come pretty close to finding the level of the Dow by taking the level of U.S. Debt and dividing by 1 billion.

That has all changed since the middle of 1995. While the rate of increase in U.S. debt has definitely slowed down, the rise on the U.S. stock market (as measured by the Dow) has accelerated.

There are three main reasons for this:

1. From early 1995 until the "Asia Crisis" hit in mid 1997, foreign Central Banks led by the Bank of Japan bought almost all newly created U.S. debt. That relieved all pressure on U.S. interest rates, and freed up domestic capital to pour into the stock market.

2. Americans themselves abandoned the banks and real estate in favor of the stock market. Ever since early 1995, the last remnants of U.S. savings and an avalanche of borrowed money have been flowing straight into stocks.

3. Because existing capital and new borrowing were flowing into equities, price rises in the producing economy ground to a virtual halt. This was hailed as the "end of inflation".

The Three Great Bull Markets

Treasury debt actually fell throughout the 1920s. There was a huge surge in business productivity.

At the beginning of this period, the U.S. was probably the most dominant nation, in terms of both wealth and military power, that the world has ever seen. Again, this period was one of huge increases in business productivity and very minor increases in government debt.

1982 to date:
U.S. government debt rose from $1.2 to nearly $5.7 TRILLION. In 1985, the U.S. became a net debtor nation for the first time since before WW1. Ever increasing volatility in all financial assets, notably in currency exchange rates. Financial crises endemic throughout the period.

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