You've heard the term Ponzi Scheme. Well now I want to introduce you to the term Ponzi Economy.
Here’s the problem that the U.S. Fed’s “exit” poses in simple English: Our fiscal 2009 deficit totaled nearly 12% of GDP and required over $1.5 trillion of new debt to finance it. The Chinese bought a little ($100 billion) of that, other sovereign wealth funds bought some more, but as shown in Chart 2, foreign investors as a group bought only 20% of the total – perhaps $300 billion or so. The balance over the past 12 months was substantially purchased by the Federal Reserve. Of course they purchased more 30-year Agency mortgages than Treasuries, but PIMCO and others sold them those mortgages and bought – you guessed it – Treasuries with the proceeds. The conclusion of this fairytale is that the government got to run up a 1.5 trillion dollar deficit, didn’t have to sell much of it to private investors, and lived happily ever – ever – well, not ever after, but certainly in 2009. Now, however, the Fed tells us that they’re “fed up,” or that they think the economy is strong enough for them to gracefully “exit,” or that they’re confident that private investors are capable of absorbing the balance. Not likely.
Even CNBC has figured this one out, which should scare us all.
Simply put, the rest of the world is running out of ability to finance our endless budget deficits, and the Fed is stepping in at an increasing rate with freshly printed money.
If the Fed stops then the private market cannot absorb all this new debt and rates will skyrocket. If the Fed continues then we have a currency crisis.
Pick your poison.