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USA current account deficit breaking point?

Unread postby Falconoffury » Thu 14 Jul 2005, 18:19:04

Will a breaking point occur if the current account deficit continues its upward trend? What about the trade deficit? What would happen? Would it mark a stock market crash and heavy recession (or depression). What is the government likely to do?

And lastly, what is the difference between a depression and recession in the economy? Is there something quantifiable that seperates them, or is it just a matter of opinion?

I figured I'd throw all these related questions together and see if some knowledgable people would help me.

edit: changed downward to upward
"If humans don't control their numbers, nature will." -Pimentel
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Unread postby nero » Thu 14 Jul 2005, 18:44:40

$this->bbcode_second_pass_quote('', 'W')ill a breaking point occur if the current account deficit continues its upward trend? What about the trade deficit? What would happen? Would it mark a stock market crash and heavy recession (or depression). What is the government likely to do?


These problems have been around for a very long time. The twin current account deficit and trade deficits have been around for 20 years, so I no longer hold my breath for them to cause the economy to crash. Some day maybe but the US government has an ace in the hole. All their debt is in US dollars. When the time comes the US government will probably simply inflate (depreciate) the problem away.

$this->bbcode_second_pass_quote('', 'A')nd lastly, what is the difference between a depression and recession in the economy? Is there something quantifiable that seperates them, or is it just a matter of opinion?


I think it is a matter of opinion and usage. My personal definition is:

A recession is a pause in growth that self corrects while a depression is the result of a fundamental problem with the economy that is not solved by the consequences of a pause in growth. A recession fixes some imbalance in the economy (such as the internet bubble or a housing bubble) and then the economy can resume it's growth. A depression may initially start like a recession but there is no self correcting mechanism that automatically kicks in to fix the problem. For example the Japanese economy in the 90s and the 30s in America.
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Unread postby Falconoffury » Thu 14 Jul 2005, 18:56:19

The current account deficit has been an issue for 20 years, I agree. Ever since George W became president, hasn't it become an even bigger problem than ever? If the current account deficit was a rubber band being stretched, will there come a day when that rubber band just breaks? If they try to inflate their way out of it, won't other countries dump dollars in favor of more profitable currencies? Won't that just create hyperinflation?
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"Bush, Bush, listen well: Two shoes on your head," the protesters chant
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Unread postby nero » Thu 14 Jul 2005, 20:03:46

$this->bbcode_second_pass_quote('', 'W')on't that just create hyperinflation?


No it does not create hyperinflation. An increase in inflation yes but that does not necessarily lead to hyperinflation. In this instance it would be very unlikely that out of control hyperinflation would result. The United States government fundamentally CAN afford to pay its debt, all it would take is higher taxes. Only countries that are unable to profitably raise taxes are likely to loose control to inflation.
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Unread postby jaakkeli » Thu 14 Jul 2005, 20:12:23

$this->bbcode_second_pass_quote('Falconoffury', 'I')f they try to inflate their way out of it, won't other countries dump dollars in favor of more profitable currencies?


They will, or alternatively they will demand really high interest rates to borrow more to the US. (No matter the inflation, with high enough interest it's always profitable.)

It doesn't really matter whether you default or inflate the debt away, both will have the same effects (ie. your "credit rating" and reputation as a country that takes decent care of its economy is ruined).
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Unread postby Falconoffury » Thu 14 Jul 2005, 20:21:03

And a damaged reputation will probably lead to damaged trade relations. I don't see how you could be writing this stuff off. If the government goes bankrupt, they will shoot up interest rates and taxes. In any case, it sounds like we are headed for big recession.
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"Bush, Bush, listen well: Two shoes on your head," the protesters chant
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Unread postby spot5050 » Thu 14 Jul 2005, 20:42:18

$this->bbcode_second_pass_quote('Falconoffury', 'A')nd a damaged reputation will probably lead to damaged trade relations. I don't see how you could be writing this stuff off. If the government goes bankrupt, they will shoot up interest rates and taxes. In any case, it sounds like we are headed for big recession.

Why ask questions if you have already made up your mind?
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Unread postby Kez » Fri 15 Jul 2005, 11:43:47

$this->bbcode_second_pass_quote('Falconoffury', 'T')he current account deficit has been an issue for 20 years, I agree. Ever since George W became president, hasn't it become an even bigger problem than ever? If the current account deficit was a rubber band being stretched, will there come a day when that rubber band just breaks? If they try to inflate their way out of it, won't other countries dump dollars in favor of more profitable currencies? Won't that just create hyperinflation?


I think that the rubber band will break one day if things continue. The interest on the debt is becoming a more significant portion of the budget each year, and getting bigger. That can't continue forever; eventually it will be bigger than the whole budget unless a lot of things are changed.

Last year, the government spent more money on the entire Medicaid program than the interest on the debt, but it wasn't bigger by much. This year, the interest payments on the debt will surpass Medicaid. This is billions of dollars that get tossed into a hole instead of spent elsewhere or simply returned to the taxpayers. If every month you had to take $25 dollars and just trash it, and continue that trend each month, eventually you are going to be unable to meet even your most basic needs.

http://www.cbo.gov/showdoc.cfm?index=6513&sequence=0

"The fastest-growing category of spending is net interest on the public debt; it rose by $18 billion, or 14.5 percent, through June. The increase in net interest payments was most pronounced in the third quarter, when costs jumped by $12 billion, or 28 percent, compared with the same quarter last year. Higher short-term interest rates accounted for much of that increase; growing federal debt and rising costs for inflation-indexed bonds also played a role."
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Re: USA current account deficit breaking point?

Unread postby marko » Fri 15 Jul 2005, 13:12:17

$this->bbcode_second_pass_quote('Falconoffury', 'W')ill a breaking point occur if the current account deficit continues its upward trend? What about the trade deficit? What would happen? Would it mark a stock market crash and heavy recession (or depression). What is the government likely to do?


I expect that we will have a depression and stock market crash BEFORE we have a day of reckoning on the current account deficit (which is largely the same as the trade deficit).

I say this because I believe that our current economic expansion is based completely on credit that is being extended on increasingly risky terms, mainly for mortgages, often based on an assumption that real estate prices will continue to rise rapidly. (This is the premise behind the growing number of interest-only and adjustable-rate mortgages.) I believe that housing prices in overheated coastal markets are reaching a limit due to the virtual inability of first-time buyers to enter those markets any more. Also, current prices are straining the ability of many buyers to meet monthly payments. Prices have stopped rising and started to fall for these reasons in Australia and the UK, and I feel certain that the same will happen soon in the US.

Economic growth in the US now depends on real estate prices rising. Rising prices have allowed consumers to increase spending despite stagnant incomes. As soon as prices stop rising, which they will probably do within a year, consumer spending will stall or drop. That by itself will mean recession. But that won't be all, financial sector profits now account for 30% of all profits in the US. Financial sector profits are mainly due to high mortgage and refinancing loan volume. As soon as real estate prices stop rising (they don't even have to drop), financial sector profits will dry up. That will mean an even deeper recession. The stock market will plunge, finally returning valuations (price/ earnings ratios) to or below historical norms. (Stocks have been historically overvalued since the 1990s despite the 2001 dip in prices.)

What happens in deep recessions? People lose their jobs. What happens when people lose their jobs? They fail to make mortgage payments. What happens when the millions of overextended new buyers can no longer make payments? A flood of distressed sales floods the real estate market, causing prices to plummet. What else happens? Financial institutions have to write off a large percentage of their assets, leading to widespread bank failures. Surviving financial institutions will tighten credit to try to protect their assets. Credit cards will be hard to get, as will mortgages. This, together with layoffs, will further cut consumer spending. Ultimately, I think we will be facing a depression comparable to the 1930s within a few years.

This will have the side effect of sharply reducing the current account deficit because demand for imported goods in the US will shrink dramatically. Depending on how well European economies hold up (East Asia, with its dependence on US consumption, will be toast), the US might even experience a current account surplus.

However, economic conditions will cause the US government budget (fiscal) deficit to balloon. At present, the budget deficit is funded largely by foreign buyers, mainly East Asian central banks recycling dollars sent to East Asia as a consequence of the current account deficit. When the current account deficit disappears and the US economy tanks (and Asian economies along with it), it is unclear how the US fiscal deficit will be funded. East Asian countries will no longer have a huge flow of dollars to reinvest. The obvious solution would be for the Federal Reserve to create dollars to buy Treasury bills. However, this solution would have the effect of undermining the value of the dollar and eventually causing hyperinflation. Hyperinflation would reduce to insignificance the external debt of the US (the result of years of current account deficits).

The enablers of the US current account deficit are the East Asian countries that sell exports to the US and then use the dollars they receive to buy US debt. I do not think that they will upset this apple cart or force a correction in the current account deficit. If they cut off the flow of credit to the US, they would lose the customer on whom they have become dependent.

Instead, I think that the correction will come when the US economy, built on a foundation of risky debt, implodes when that debt has to be written off.
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Unread postby Falconoffury » Fri 15 Jul 2005, 16:33:19

How long can an interest only mortgage last? Will we have people 55 years old still just paying interest and no closer to paying off their homes??? I thought the whole point of getting into a 30 year mortgage was so that you can one day own your home and live comfortably during the last few decades of your life. This is virtual slavery. You can never get ahead I guess.

Unfortunately, I think after peak slavery will only change form. It will appear more like it has before the fossil fuel age. You know, with chains, whips, laboring, little food, etc. The kinds of stuff that would shock the middle to upper class USA citizen today.
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Re: USA current account deficit breaking point?

Unread postby Kez » Sat 16 Jul 2005, 02:20:20

$this->bbcode_second_pass_quote('marko', 'I') say this because I believe that our current economic expansion is based completely on credit that is being extended on increasingly risky terms, mainly for mortgages, often based on an assumption that real estate prices will continue to rise rapidly.


I'm certainly no economics expert, but I think that's what's happening too. It seems pretty obvious when you hear about all the new mortgage options, and people risking their futures in even more risky ways these days.

What a lot of the mortage companies are pushing in my area is for the homeowner to go interest only, and put his cash instead in indexed annuity funds. These kinds of annuities are only 2-3 years old due to new legislation. Well that's great and all if the market can keep going, but if it doesn't, they are not gaining much, if anything, and still own no equity in their house.
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Re: USA current account deficit breaking point?

Unread postby MonteQuest » Sat 16 Jul 2005, 03:10:23

$this->bbcode_second_pass_quote('Falconoffury', 'W')ill a breaking point occur if the current account deficit continues its upward trend? What about the trade deficit? What would happen? Would it mark a stock market crash and heavy recession (or depression). What is the government likely to do?


We have basically three choices:

1. A huge increase in exports.

2, A huge increase in the US savings rate.

3. Raise interest rates. (current govt policy)

We are exporting our inflation and it comes back to us in the form of foreign central bank monetize debt as low interest rates. As the trade gaps widens, the dollar will decline, but as long as China pegs to the dollar, the cycle continues. The central banks don't seem to want to let the market correct.

The FED is raising short-term rates in an effort to rein in the asset speculation and the "hidden inflation", but as long as the carry trade continues, the long-term rates will stay low continung to fuel the speculation. Greenspan's "conundrum."

The carry trade is borrowing low interest short-term rates and lending/investing in higher interest long-term rates. Borrow from Japan at 1.5% and invest/lend in US long bonds at 4.25%. Pocket the difference. But as short-term rates reach long term (FED at 3.25% now) the risk for investors grows. So, how long will the central banks fund our debt? No one knows.

The FED will raise rates until something breaks, then monetize the debt by printing money which could lead to hyperinflation.

$this->bbcode_second_pass_quote('shortonoil', 'I')t appears that the FED is in a 1.5% straight jacket. If interest rates fall below about 2.5% the US won’t attract enough foreign money to cover our gigantic current account deficit. If interest rates rise above 4% the bond carry trade market folds and takes the $243 trillion derivatives market with it. That would bring down most of the country’s major financial institutes. As oil prices increase, that forces higher interest rate requirements to attract the additional money needed to finance the account deficit. As I’ve posted here before in “The $80 barrel fallacy”, I think the time is near at hand when the FED’s magic money machine is going to run out of gas.


Deflation and Stagflation; An Ominous Portent
http://www.peakoil.com/post84807.html#84807

$this->bbcode_second_pass_quote('', 'A')nd lastly, what is the difference between a depression and recession in the economy? Is there something quantifiable that seperates them, or is it just a matter of opinion?


A recession is a period of general economic decline; specifically, a decline in GDP for two or more consecutive quarters.

A depression is a period during which business activity drops significantly. High unemployment rates and deflation often accompany a depression, but nothing specific like a recession.

A recession is like the economy has "fallen down," a depression is a matter of "not being able to get up."
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Unread postby CrudeAwakening » Sat 23 Jul 2005, 01:54:42

$this->bbcode_second_pass_quote('Falconoffury', 'I') thought the whole point of getting into a 30 year mortgage was so that you can one day own your home and live comfortably during the last few decades of your life. This is virtual slavery. You can never get ahead I guess.

Unfortunately, I think after peak slavery will only change form. It will appear more like it has before the fossil fuel age. You know, with chains, whips, laboring, little food, etc. The kinds of stuff that would shock the middle to upper class USA citizen today.


Yeah, I think virtual slavery, or at least 'wage slavery', is a fair representation. But perhaps this is the logical conclusion of allowing banks to create money. They seem to be the primary winners in this whole sorry mess, reaping more and more interest from ever increasing mortgages while the debtors among us struggle to keep up with interest payments, let alone paying off any principal. Is this really a system created by the people, for the people?
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Unread postby agmart » Sat 23 Jul 2005, 03:21:16

Deflation is what makes depressions harder to reverse, people are less likely to spend and corprations are less likely to invest if prices are expected to fall.
Another definition I've heard: its a resession if my neighbor is out of work, its a depression if I'm out of work.
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Unread postby nuhax » Sat 23 Jul 2005, 04:38:59

A detailed explanation of depression and recession is here:

"http://economics.about.com/cs/businesscycles/a/depressions.htm

"So how can we tell the difference between a recession and a depression? A good rule of thumb for determining the difference between a recession and a depression is to look at the changes in GNP. A depression is any economic downturn where real GDP declines by more than 10 percent. A recession is an economic downturn that is less severe.
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Re: USA current account deficit breaking point?

Unread postby MonteQuest » Sat 23 Jul 2005, 12:32:07

$this->bbcode_second_pass_quote('MonteQuest', ' ')
We have basically three choices:

1. A huge increase in exports.

2, A huge increase in the US savings rate.

3. Raise interest rates. (current govt policy)

We are exporting our inflation and it comes back to us in the form of foreign central bank monetize debt as low interest rates. As the trade gaps widens, the dollar will decline, but as long as China pegs to the dollar, the cycle continues. The central banks don't seem to want to let the market correct.

The FED is raising short-term rates in an effort to rein in the asset speculation and the "hidden inflation", but as long as the carry trade continues, the long-term rates will stay low continung to fuel the speculation. Greenspan's "conundrum."


The FED tried raising short-term rates as I predicted. It didn’t work; created Greenspan's "conundrum." So now they pulled off a new tact; get the Chinese to raise them for us. Now this has some far-reaching consequences.

When the Chinese revalued the yuan, more than US$200 billion of purchasing power was lost. That $200 billion is the decline in value of U.S. dollar M-3 alone; a broad measure of money supply. If you had your money in dollar denominated assets on the morning of July 20, 2005, you were 2% poorer by the time you left for work.

In the short-term especially, the U.S. trade deficit will rise. Why you ask? As the dollar drops our exports become cheaper. Won’t that narrow the deficit?

No, this small devaluation will not move the factories that make the products American’s consume back here; we will just pay more for them. The U.S. trade deficit exists because the factories that produce the real production are increasingly in other countries. We cannot compete with third-world wages making first world products.
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Re: USA current account deficit breaking point?

Unread postby cube » Sat 23 Jul 2005, 17:54:02

$this->bbcode_second_pass_quote('MonteQuest', '.').......
The U.S. trade deficit exists because the factories that produce the real production are increasingly in other countries. We cannot compete with third-world wages making first world products.
I believe that "true" economic growth results from usefull production. However when I said "production" that doesn't necessarily have to mean tangible products. It could be services like software tech support or engineering design.

For example lets say some nation wants to build a skyscraper but doesn't have the engineering or architectural know how so it hires a US based engineering firm to design the project. This can be considered an export. However with the advent of globalization not only "products" but also "services" can be produced in foreign nations at a fraction of the cost. Why not hire an Indian firm to design the project? There's no shortage of engineers with PHD's in India.

The US has been able to overcome every single problem and come back even stronger. War with a super power (Britain), civil war, great depression, ect... However I seriously doubt that the US can wiggle it's way out of this problem. I'm not saying we're going to end up as a third world nation but the "old days" where the US was the undisputed power in every shape way or form is over.
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Unread postby cube » Sat 23 Jul 2005, 19:02:33

$this->bbcode_second_pass_quote('Falconoffury', '.')........I thought the whole point of getting into a 30 year mortgage was so that you can one day own your home and live comfortably during the last few decades of your life. This is virtual slavery. You can never get ahead I guess.
...........
My sister works in the lending industry. Let me tell you how much things have changed (for the worse IMHO). You can get a mortgage with zero percent down. Or if you're "conservative" you might put 10% down. But what about PMI (private mortgage insurance)? That can raise your monthly payment by quite a bit. No problem just get 2 loans. One for the 20% downpayment which will eliminate PMI and the second loan for the house. This makes absolutely no sense so my gut instinct tells me Uncle Sam must of changed the rules around to let this happen.

Furthermore MOST people are getting ARM (adjustable rate mortgages) instead of fixed interest b/c it reduces your monthly payment.

But wait, you can also get an interest only loan and not pay off the principle to further reduce your monthly payments.

And yes there's more! Banks are lending to people today with poor credit (yes even with bankruptcies) something unheard of 20 years ago.

So lets add all of this up. You've got people with a history of being
1) financially unreliable
2) interest only loan,
3) zero down payment,
4) ARM-adjustable rate mortgage.

As if that's not a recipe for a financial meltdown. A LOT of people are pulling equity line of credits out of their house because it has "appreciated" in value. So what's going to happen when the bubble pops and Joe Sixpack owes $500,000 on a house that's going to be worth only $300,000? If you're thinking about filing for bankruptcy to wiggle your way out of this mess....think again! Uncle Sam already say this coming a mile away and made some "revisions" to the bankruptcy law. I guess life will be getting pretty "interesting".
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Unread postby lawnchair » Sat 23 Jul 2005, 19:20:13

$this->bbcode_second_pass_quote('cube', ' ')So what's going to happen when the bubble pops and Joe Sixpack owes $500,000 on a house that's going to be worth only $300,000?


My bet... a mysterious increase in arson.
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Unread postby Kez » Mon 25 Jul 2005, 12:48:26

$this->bbcode_second_pass_quote('cube', 'S')o lets add all of this up. You've got people with a history of being
1) financially unreliable
2) interest only loan,
3) zero down payment,
4) ARM-adjustable rate mortgage.


Yeah that's what I'm seeing too. Lots of people throwing caution to the wind and continuing on as usual. I had dinner with my neighbor the other night, and after 2 years he only has $3,000 equity in his $135,000 house. Nobody I know pays extra on their house like I do. Any disruption in his life and his family is back to living in a small apartment and will have lost thousands from ever buying the house. The rising costs of peak oil will cause a lot of these people to default and send big ripples through the economy.
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