Events and Issues We’re Monitoring

Posted on April 26, 2012 by Doug Gjerde

A tenant of active risk management is winning by not losing. It is the big drops in portfolios that hurt long-term success.  Minimizing the effects of big corrections is a main goal.

We’re always examining the markets and economy and trying to determine what may be the catalyst for the next market drop. Below are some articles that describe a few of the issues we’re monitoring.

Much at stake in epic China power struggle

“What may be the most important event of the year for investors will not come from the Federal Reserve or the European Central Bank. It won’t even be the U.S. presidential election.”

…. “So, Bo’s career is over, Heywood is dead, and the British government is demanding explanations. But what else does this mean?  A lot, it turns out.”

Howard Gold, Marketwatch, April 20, 2012

The Economy and markets: Bad Goldilocks

“READERS will be familiar of the idea of the “Goldilocks economy”, an idea that dates back to the 1990s. Just like baby bear’s porridge, such an economy will be not too hot (resulting in inflation) or too cold (resulting in recession) but “just right”.

Ever since 2008, the problem has been that the economy (and thus the financial markets) has not been strong enough to stand on its own two feet but has been buttressed by remarkable levels of monetary and fiscal support. On the one hand, it seems mad to withdraw such support while the economy continues to be so weak; on the other hand, one wonders whether the economy will ever look strong enough to do without it. “

Buttonwood’s Notebook, The Economist, April 11, 2012

The War at the End of the Dollar

“The loss of value in the U.S. dollar caused by excessive expansion of the money supply, together with rising demand for raw materials from emerging economies, has led to permanently higher global commodity prices. Higher crude oil prices, in particular, have put pressure on the U.S. economy, which is putatively in a gradual recovery from the recession that began in 2007.”

Ron Hera, Financial Sense, April 12, 2012

5 Reasons the US job market might be weakening

“Economists mostly shrugged off news that U.S. hiring slowed in March as a one-month aberration warped by warm weather.

But what if they’re wrong? What if the sharp drop in job creation signaled something more ominous?”

Paul Wiseman, The Boston Globe, April 9, 2012

The next scary hockey stick chart

“Student loans could be the next asset class to school the United States about poor debt management. Graduates are now forking over more of their disposable income in repayments than 10 years ago, defaults are rising and with Uncle Sam now directly holding $450 billion of student debt, taxpayers are on the hook again. That could put U.S. higher education in the embarrassing position of hindering, rather than helping to fuel, economic growth.”

Political Calculations, March 28, 2012

The third industrial revolution

“Like all revolutions, this one will be disruptive. Digital technology has already rocked the media and retailing industries, just as cotton mills crushed hand looms and the Model T put farriers out of work. Many people will look at the factories of the future and shudder. They will not be full of grimy machines manned by men in oily overalls. Many will be squeaky clean—and almost deserted. Some carmakers already produce twice as many vehicles per employee as they did only a decade or so ago. Most jobs will not be on the factory floor but in the offices nearby, which will be full of designers, engineers, IT specialists, logistics experts, marketing staff and other professionals. The manufacturing jobs of the future will require more skills. Many dull, repetitive tasks will become obsolete: you no longer need riveters when a product has no rivets.”

The Economist, April 21, 2012

Posted in Active Risk Management, China, Dollar, Europe, Real Estate, Unemployment

Chinese Hard Landing and Social Unrest: How Could That Be?

Posted on December 7, 2011 by Doug Gjerde

China has been the economic growth engine of the world. Their economic strength held the world’s economy above water during the financial crisis. But now there is buzz about a hard landing in China and what that may mean for the world economy and markets. China has performed so well and continues to grow; why all the worry?

“A hard landing for China will have a major negative impact on global commodities and risk currencies, says Marc Faber, the editor of The Gloom, Boom & Doom report, who adds that he is more worried about a Chinese economic downturn than a recession in Europe.” 1

We all have heard about the problems in Europe. There are warning signs in China that the boom may be coming to an end and there are rumblings of a downturn to come.

 The Stock Market as Leading Economic Indicator

 “The stock market is signaling trouble. It’s a mistake to assume the stock market is always correct, but generally speaking when it signals a downturn it does so pretty clearly.

And what it’s saying about China is alarming.

Chinese stock prices have slumped by 22% since July, says FactSet. They are, on average, down to nine times forecast earnings, valuations last seen during the depths of the financial crisis in 2008-2009. Prices of property developers have collapsed, in many cases below book value.” 2

There are all these worries yet the economy is still expanding. “You might think such a weak stock market is inconsistent with China’s strong rate of economic growth. After all, real GDP growth in China continues to hit rates near 10% year after year — and decade after decade! But China’s biggest underlying problem is a structural one: It has a very under-developed consumer sector and is overly dependent on export-led growth at a time when its two major customers, the U.S. and Europe, are both experiencing a dramatic slowdown in growth.” 3

Even with government numbers showing economic growth is still strong, there are growing worries.

“Most analysts agree China’s economy, now the second largest, is today less healthy and more imbalanced than before the crisis, and even more reliant on investment, particularly in property and infrastructure. “It’s as if the economy ballooned in weight by eating too much in the way of resources and becoming obese,” says Derek Scissors of the Heritage Foundation, a Washington-based think-tank.” 2

China’s Own Real Estate Bubble

For several years strategists have been warning of a housing bubble in China. Some of the government policies that supported growth have had consequences of inflating bubbles in some sectors.

“China is undoubtedly a severely imbalanced economy, suffering from credit-fuelled investment and housing excesses that could easily spin out of control and crash, just like all the other ‘highly regarded’ economic bubbles before it,” Societe Generale strategist and well-known bear Albert Edwards.  3

Housing has become less and less affordable for the growing working class. “Ten years ago, homes in Shanghai sold for about six times an average family’s income. Today that’s 13 times. Shenzhen has gone from five times to 14 times. These are off-the-charts absurd ratios. This is a bona fide mania.” 2

And the banking system that fueled this real estate bubble is very different from the one we’re familiar with in the west. “An alarming report from Schroders said Chinese banking operates in a “twilight zone” of phony accounting and shadow money and it’s all coming apart. “Almost half of all credit creation in China is off balance sheet,” wrote the team at Schroders.

They think this situation could unravel “over the next three to six months,” producing a huge crisis with international implications. Most Chinese banks, they predict, will end up as “zombie banks.” 2

But Manufacturing Can Hold Up, Can’t It?

There are other warning signs in the manufacturing sector which has been the pinnacle of economic growth for years, producing cheap products exported around the world. “ The eastern Chinese city of Wenzhou produces more cigarette lighters and spectacles than anywhere on earth, and has long been seen as an economic trend-setter for the entire country. So reports that dozens of factory owners in the city have absconded in recent weeks, leaving workers unpaid and mountains of debt, are seen by some as an ominous sign for the national economy.” 5

“Guo Tianyong, an economics professor at Beijing’s Central University of Finance and Economics , called Wenzhou “a signal that high-interest private lending might trigger a debt crisis.” 3

One successful executive loaned friends money to expand their manufacturing businesses. “His company was doing well; orders grew 50 percent this year. He made so much money that he loaned some to friends, a common practice in Chinese business circles. He loaned 6 million renminbi (about $940,000) to one, 2 million (about $315,000) to another.

Wu made both loans in April, for six months, to people from Wenzhou who were involved in the mining business in another province. This month, as the loans have come due, both friends have disappeared.” 4 That is one example. Dozens of bosses have disappeared in the province.

Some say these developments may be more critical than the housing bubble. “But events in that city do represent a crucial turning point for the nation. “What’s happening in Wenzhou is a reflection of the current Chinese model coming to an end,” says Huang Yiping of Barclays Capital about the country’s export-led, investment-driven growth paradigm. “China’s economic success over the last 30 years has been built on cheap capital, cheap labour, cheap energy and cheap land but this has now produced huge imbalances and inefficiencies that are causing more and more problems.” 4

“The most serious crisis is the crisis of trust,” Huang said. “No one will want to loan money from now on.” 4

Why Is the Chinese Government so Worried?

The government is quite concerned with the economy, but for other reasons than we might first think.

“The bigger concern for the government is unrest. When factories close and bosses flee town, workers cannot collect their salaries. It is a scene that officials do not want repeated across the country.” 3 An economic downturn in China will affect the rest of the world. Pile on social unrest and the scene is set for another economic upheaval that could rock not just China, but the world and markets.

1 China Hard Landing Possible; Impact ‘Devastating’: Faber, CNBC.com, Dec 2, 2011

2 Watch out for China’s ‘freak’ Economy, Brett Arends, MarketWatch, Oct 25, 2011

3 Warning Signs from the Chinese Stock Market, Peter Navarro, Harvard Business Review, Dec 1, 2011

4 Some see China’s Future in Debt-ridden City of Wenzhou, Keith B Richburg, Washington Post, Nov 27, 2011

5 A Workshop on The Wane, Jamil Anderline, Financial Times, Dec 3, 2011

Posted in China, Market Correction, Real Estate

Cycles, Sectors and Caps

Posted on September 21, 2011 by Doug Gjerde

Ignoring risk when investing is like playing football without a helmet. You can see and hear better but you also may get knocked out of the game and end up in a lot of pain. Managing investments is more than just picking stocks that are likely to outperform their competitors. You also have to protect the portfolio from catastrophe as should be obvious to anyone who has been in the market the past ten years.

If you want to meet your goals, such as providing for retirement, then risk has to properly be managed throughout your lifetime. One technique for outperforming the market – sector rotation – can be a rewarding but risky proposition. But sector rotation can be altered to manage that excess risk.

The stock market moves in irregular cycles. We can’t time these perfectly but we can use them to manage risk. Within the phases there are variations. During most corrections some slices of the market do much better than others and may actually go up during a market drop. This year is a prime example of this phenomenon.

As of the middle of September the US market is down 4.1% but there are some sectors down much more than that and a few that are positive for the year.

 

Source: FinViz.com

So far Utilities are up 6.5% and Financials are down 19%. If you could know ahead which sectors to have money in and which to avoid you could improve returns dramatically. You could make bets on this based on the phase of the cycles. But  every cycle isn’t the same. Sometimes sectors don’t perform as expected. By taking big bets on sectors you can increase the risk of your portfolio quite a bit. But there is a better way.

Instead of avoiding some sectors and putting it all into a few sectors you can still overweight and underweight sectors (without being all-in or all-out) based on cycles. This can improve returns without taking big risks.

This year is a great example of the defensive sectors (those that tend to fall less than the market during corrections) outperforming cyclical sectors. Investors who kept a more defensive posture, as the secular bear cycle would suggest, and overweighted Consumer Staples, Healthcare and Utilities while underweighting Financials and Consumer Cyclicals – came out ahead of the market while taking less risk than buying the market overall. Not all years are so cut and dried.

Beyond sectors this also applies to capitalization (large versus small and midsized companies). Year-to-date small company stocks (as represented by the Russell 2000* small cap index) are down much more (-9.1%) than the larger companies (represented by the S&P 500 index* (-3.9%). Small companies did more than twice as bad as large companies.  Again, by underweighting small companies (riskier in a bear market) versus large companies (financially sound and sitting on hoards of cash) during this secular bear cycle a better return could have been made.

Source: FinViz.com

This is just one risk management technique that can be used to make healthy returns without taking excessive risk. While trying to pick those homerun stocks is fun it can create problems if risk isn’t properly managed. Don’t play football without a helmet.

* Indexes mentioned are unmanaged and can’t be invested into directly. Past performance does not guarantee future performance. Source of data Yahoo Finance.

 

Posted in Active Risk Management, Uncategorized

Another Straw On The Camel’s Back

Posted on July 26, 2011 by Doug Gjerde

Borders went  out of business. This will not just hurt their customers, shareholders and employees.

Borders ‘ liquidation will increase available U.S. retail space by 6.3 million square feet when the commercial real estate industry is already struggling with near-record vacancy rates and stagnant rents. Many of the bookseller’s 399 stores are in regional malls, where vacancies are at 9.3%, highest since data collection began in 2000, and rents are down.

http://www.bloomberg.com/news/2011-07-21/borders-closures-hurt-retail-real-estate-market-as-vacancies-near-record.html

Posted in Real Estate, Unemployment, Volatility

Critical topics affecting the markets

Posted on July 26, 2011 by Doug Gjerde

US Debt Issues:

Wall Street Expects Big Selloff If Debt Deal Isn’t Reached

“Nearly two-thirds of the 78 economists and Wall Street strategists and money managers who responded to the survey see a selloff of 3 percent or more if the debt ceiling is not raised. But a majority sees a debt deal as either neutral for stocks or spurring a rally of around 1 percent.”

http://www.cnbc.com/id/43840113

Grand Bargain Returns to U.S. Debt Talks as Negotiators Open Paths to Deal

“Polls and financial markets underscored the enthusiasm for a broad deal less than two weeks before an Aug. 2 deadline for exhausting the nation’s $14.3 trillion borrowing authority. Stock and bond markets surged after the senators’ bipartisan plan was announced two days ago and gave up some gains amid fresh doubts.”

http://www.bloomberg.com/news/2011-07-21/grand-bargain-returns-to-u-s-debt-talks-as-negotiators-open-paths-to-deal.html

‘Gang of Six’ Plan Can”t Pass by Aug 2: Sen Conrad

“Senate Budget Chairman Kent Conrad said Thursday that it’s impossible to enact the “Gang of Six” plan for spending cuts, a tax code overhaul and changes in benefit programs by the Aug. 2 default deadline, so a short-term extension of the debt limit is the most likely solution.”

http://www.cnbc.com/id/43839148

European Debt Crisis:

Euro-Area Leaders May Accept Greek Default

“With Greece being charged about 35 percent to borrow for two years, heads of government meeting in Brussels may cut the interest rates on loans to it, Portugal and Ireland to about 3.5 percent and double the repayment period to at least 15 years. Europe’s main rescue fund may get the power to buy bonds from investors, help countries recapitalize banks and offer precautionary lines of credit to repel speculative attacks.”

http://www.bloomberg.com/news/2011-07-21/euro-area-leaders-may-accept-greek-default.html

Spain Gives final Approval to raise retirement age

“The bill was drawn up as part of a series of reforms to reassure markets that Spain can handle its debt burden”

http://www.cnbc.com/id/43840496

 

Euro Rises to Two Week High on Bets Greek Default May Contain Debt Crisis

“The euro advanced to the highest in two weeks against the dollar on bets the European Financial Stability Facility may guarantee Greek bonds to make it easier for the European Central Bank to accept default.”

“The dollar dropped versus the yen as Standard & Poor’s reiterated there’s a 50 percent chance of a U.S. rating cut within three months.”

http://www.bloomberg.com/news/2011-07-21/euro-falls-against-dollar-erases-gain-versus-yen-default-a-possibility-.html

Posted in Debt, Dollar, Europe, Volatility

Why are investors so afraid of a country smaller than Rhode Island?

Posted on June 14, 2011 by Doug Gjerde

Yes, Greece is a small country with a small economy. But, as we just experienced, the world is a smaller place and countries and markets are now very interdependent.

European and US banks have lent Greece a lot of money as they have to other countries. Insurance companies and banks around the world have issued credit default swaps on Greek debt. They are all vulnerable to a Greek default. If Greece can’t pay back their debt, investors around the world will take big losses. And as we’ve all seen, those losses can beget other losses.

Perhaps dominoes is an extreme analogy but our weakened global economy is very vulnerable to problems in Greece as well as Portugal, Italy, Ireland, and Spain, all of whom have similar debt problems.

So Greece defaults, so what?

If Greece can’t or doesn’t pay back their loans it could trigger a banking crisis even worse than that of 2008. Failure of European banks, defaults of other countries and pressure on even more US banks could result and trigger big waves.

Andrew Lilco lays out a possible scenario in detail1. It starts with every bank in Greece going instantly insolvent. Then through a series of cause and effect eventually leads to the Irish walking away from the debt of their banking system and down through countries to possibly even Britain. If his scenario comes true the world economy and markets could be in a world of hurt.

Kicking the can down the road

The markets reacted positively when Euro zone officials agreed to launch a second Greek bailout. But there are a lot of issues to work through. “Bailout plans need to be approved by all 17 national governments in the euro zone, and hostility to further funding for Greece is mounting in some of the rich north European countries which would contribute most to a new rescue.” 3

Many doubt this is the right thing to do and just puts off the inevitable. “”They will prevent a forced default, but this still leaves the threat of it eventually happening. It will probably haunt us again next year.” 3

“With Greece’s unemployment rate at 15%, biding time until an eventual default could throw the country into depression, incite more unrest and drag all of Europe into deep recession.” 2

Many that usually are against defaults are saying it would be better now than later. A Barron’s article says that “further societal and economic ruin” 2 could result. Barron’s staunchly advocates full repayment to bondholders. “But the choice for Greece’s bondholders, as we see it, is to accept 50 cents on the dollar now – or 30 cents or worse down the road.” 2

Conclusion

So, we seem to be between a rock and a hard place. Many hope that by pushing the problem out a few years a miracle will come about and the problem will dissipate. Putting together a real plan will be difficult in the current political climate. Perhaps taking the hit now, in a more controlled way will hurt but get us on the right track sooner. Either way we are watching and ready to reduce risk further if things get much uglier.

1 What Happens When Greece Defaults: Andrew Lilco, The Telegraph, May 20, 2011, http://blogs.telegraph.co.uk/finance/andrewlilico/100010332/what-happens-when-greece-defaults/

2 How to Fix Greece, Vito J. Racanelli, Barron’s, May 30, 2011

3 Political ‘Accident’ Could Derail New Greek Bailout, Reuters, June 3, 2011

© Hanson Financial Services 2011
1595 Allouez Ave, Green Bay, WI 54311
Posted in Debt, Europe, Market Correction, Uncategorized

Cries of Wolf or Real Worries?

Posted on May 4, 2011 by Doug Gjerde

Just as the villagers did when the boy repeatedly cried wolf, investors tend to tire of items that make headlines for a long time. That is understandable. But there is an on-going news item with potential risks that has not lessened and may have become more dangerous.

A strategist we read weekly, John Mauldin, thinks this is so big that it tops all, “a European banking crisis is the #1 monster in my worry closet.” 1

Some board members of the European Central Bank (ECB) feel the problems in Greece and other countries could trigger a banking crisis.  “On Saturday Jurgen Stark, an executive board member of the ECB, warned that a restructuring of debt in any of the troubled eurozone countries could trigger a banking crisis even worse than that of 2008. “ 2 2008 was bad enough for us. We hope he is wrong but he has all the details.

The debt of Greece was recently downgraded, again, by rating agencies. As a government they must reduce their debt burden. The EU is imposing austerity measures as strings attached  to a bailout and there are riots in the streets. Some politicians are threatening that they may reverse spending cuts. Factions are growing louder in Finland and the Netherlands who are tired of backing the debts of those who didn’t manage their finances well.

“The most disturbing news, however, was a revolt within Angela Merkel’s increasingly fragile coalition. It looks as though the German chancellor is on the verge of losing her majority over the domestic legislation of the European Stability Mechanism (ESM), the long-term financial umbrella for the Eurozone.”2 The tensions are unsettling.

Though attention is focused on anticipating inflation, a real banking crisis could trigger deflation similar to what occurred in the depression. That could trigger the need for a radical change in allocation. We must keep heeding the cries of wolf, as tiring as they are, as they may indeed signal the approach of a whole pack.

  1. The Mess In Europe, John Mauldin, Financial Sense, April 26, 2011, http://www.financialsense.com/contributors/john-mauldin/the-mess-in-europe?sms_ss=email&at_xt=4db733541c43acbb%2C0
  2. EU Poised for Greece crisis talks, Paul Anastasi, The Telegraph, Apr 23, 2011, http://www.telegraph.co.uk/finance/financialcrisis/8470171/EU-poised-for-Greece-crisis-talks.html

© Hanson Financial Services

1595 Allouez Ave, Green Bay, WI 54311

Posted in Debt, Deflation, Europe Tagged

Jumping on the Bandwagon

Posted on April 4, 2011 by Doug Gjerde

The following story warns about what too many investors are in store for.  Armed with this knowledge you may be able to steer some loved-ones away from future problems.

At a recent national conference Ian Naismith, president of the National Association of Active Investment Mangers (NAAIM) was addressing a roomful of financial advisers.  “He began by asking for a show of hands from the audience of 400+ financial advisors of those that use technical analysis and/or active management in their practices. Naismith said that “at least 75% raised their hands.” 1

Then he asked how many had been doing it for more than 3 years (prior to the financial crisis) “and half the hands lowered.” …“Naismith said that by the time he got to 10-year mark, only a handful of hands were left!” 1

What this means for investors is that you will be running into more and more advisers who claim to be active managers, but have little experience at it.  There is no substitute for experience when managing money.

“My guess is that these very same financial professionals that went on and on about buy-and-hold during the secular bull market are now embracing “absolute return” and “active management” – this despite the fact that very few of them actually have any experience with the task at hand.” 1

We’ve been using active risk management since the late 1990s, through two severe market corrections.  Many of those new to the method will find that it takes a lot more work than they are willing to put in.  It takes discipline and letting go of your ego. It also takes having trades planned out before the market is correcting.  When the market starts tanking it is too late to decide what to do.

“Managing the market is a tough game and don’t let anyone tell you otherwise (recall that the average Hedge Fund lost more than 20% in 2008).  If it were easy, we wouldn’t ever see market crashes and everyone would be rich.  So, while the financial advisor community may now be jumping on the bandwagon of actively managing money and using technical analysis, you might want to see how long your advisor has actually been employing this approach before writing that check.” 1

Would you want to trust your retirement success to a salesperson who just started actively managing portfolios?  That is what many investors are unwittingly doing.  You may be able to save your loved ones some pain and disappointment.  Have them ask their advisor for evidence of their long-term experience.

1. New to Active Investment Management? So Is Your Financial Advisor!, David Moenning, Morningstar.com, March 14, 2011

© Hanson Financial Services

1595 Allouez Ave, Green Bay, WI 54311

Posted in Active Risk Management, Market Correction

Marketwatch and The Superbowl

Posted on January 28, 2011 by Doug Gjerde

Once ‘Safe’ Investment Becomes More Risky?

We’ve been concerned for some time about the plight of cities, counties and states. Could the bonds they issue become a future crisis? Some prominent analysts have claimed muni bonds are the next bubble. Others argue that there will be few bankruptcies or problems. No matter who is right there is more risk for munis currently than during more usual times.

“For investors in muni bonds, it has been a double whammy as fears of municipal deficits have added the specter of default to an already difficult environment of rising interest rates.” 1

“At every level, government is spending more, deficits are soaring and vast amounts of new debt are being issued.  This heavy issuance of debt has led to fears of higher inflation and also to higher interest rates.” 1

1 Muni Bonds taking a double hit, Kurt Brower, Marketwatch.com, Jan 24, 2011

Where Has Volatility Gone?

The market has settled down to low volatility since our last bout of high volatility early last summer. Could this be the quiet before the storm? We hope not but are heeding history’s lessons.

“Rising markets are accompanied by decreasing volatility, which eventually becomes “low” volatility if the bull market lasts long enough. However, those familiar with volatility know that it is mean-reverting. That is, when volatility is “too” low, it will eventually rise to a higher, more-average, level; when it is “too” high, it will decline.” 2

2 Is Low Volatility A Problem?, Larry McMillan, Barron’s, Jan 15, 2011

Will China’s Success Become It’s Undoing?

The Chinese economy has been the shining star that many have hoped would lead the world out of the aftermath of the most recent crisis. So far, so good. But can it continue? Are there problems lurking below the surface? Several hedge fund managers with good track records of predicting crises are betting problems will cause a bubble to burst.

“The Chinese delegation has said all week that there will be double-digit growth for years to come and the Brits have lapped it up. But the data doesn’t add up. We think we’ve experienced credit bubbles over the past few years, but China is the biggest. And yet the global economy is looking to China as not just a crutch but a springboard out of the recession. It’s crazy.” 3

3 Hedge funds bet China is a bubble close to bursting, Louise Armistead, The Telegraph, January 16, 2011

What Does the Superbowl Indicator Say?

Will the Packers winning the Superbowl cause a good year in the market? According to a market indicator with a long track record it will. But it also says the market will go up if that other team wins.

“According to the Super Bowl theory, stocks will rise this year no matter which team wins. This is because both the Green Bay Packers and the Pittsburgh Steelers trace their roots to the original National Football league. And this theory postulates that when a team from the old NFL wins, the stock market tends to go up.” 4

“…this indicator has correctly predicted the direction of the Dow in all but nine of the 44 years that this game has been played.” 4

4 Superbowl Theory Says, Go Long, Irwin Keller, Marketwatch.com, January 25, 2011

NOTE: The information being provided is strictly as a courtesy.  When you access one of these websites, you are leaving our website and assume total responsibility and risk for your use of the websites you are linking to.  We do not guarantee the completeness or accuracy of information provided.  Nor is the company liable for any direct or indirect technical or system issues or any consequences arising out of your access to or your use of third-party technologies, websites, information and programs made available through this website.

© Hanson Financial Services

1595 Allouez Ave, Green Bay, WI 54311

Posted in Debt, Municipal Bonds, Superbowl, Volatility Tagged

Debt and Deficit Misconceptions – 1

Posted on December 10, 2010 by Doug Gjerde

There is a public discussion of government debt lately. That is good; stimulus spending put it into the limelight. There is a lot of political rhetoric about what to do and some of the sound bites just don’t stand up to scrutiny.

If Government would just cut out the ‘pork’ our debt and deficit would be eliminated.

A Gallop poll last year showed that Americans think 50% of the budget is wasted. They believer the federal budget could be cut in half without impacting anything important like Social Security and national defense.

“Presidential control over spending is extremely limited. By law, he must spend every dollar appropriated by Congress. And presidents have no control at all over three-fifths of the budget devoted to interest on the debt and entitlement programs – those like Medicare for which spending is automatic. Even Congress can’t reduce spending for entitlements unless it changes the law governing eligibility and programmatic operations. In other words, Congress can’t just appropriate less money to Medicare. It doesn’t work that way.” 1

What Congress and the president can control:

Last year, only 20% of the budget was classified as domestic discretionary (under Congress’s control and not defense related). All the rest was mandatory: entitlements and interest on the debt. Within that discretionary section 49% was national defense.

Domestic discretionary spending amounted to $661 billion last year. The deficit for last year was $1.3 trillion (Congressional Budget Office). If we had abolished virtually every single domestic program we still wouldn’t have achieved budget balance. Every domestic program plus all of defense would have balanced the budget.

“That means every penny spent on housing, education, agriculture, highway construction and maintenance, border patrols, air traffic control, the FBI, and every other thing we can think of outside of national defense, Social Security and Medicare.” 1 We don’t have much hope of a balanced budget without considering entitlements and defense in the mix.

How about cutting those entitlements and defense?

“The first point that people need to understand is that we live in a democracy. We don’t have a dictator who can just wave his hand and abolish government programs. We have a president who may propose spending cuts, but before they take effect he must get agreement from both the House of Representatives and Senate, both of which may be controlled by a different party. Congress’ efforts to cut spending on its own are futile without prior agreement from the president to support them, as Republicans found out the hard way in 1995.” 1

A lot of hard issues need to be faced and actions taken. “The truth is that there is deep denial on all sides on what it will take to put our fiscal house in order. Some of the denial is political, because it’s safer not to avow things voters don’t want to hear. Some of the denial stems from ignorance, because officials haven’t thought things through. And some is ideological, because certain facts don’t fit with preconceived notions about how the world works.” 2

This will only work with cooperation in Congress and the Executive Branch. “For years, the debate in Washington has focused more on who’s to blame than how to fix it. The Bush tax cuts, the 9/11 terrorist attacks, and the wars in Afghanistan and Iraq all contributed to rising deficits. Then came the recession, which sapped the government of tax revenue. Democrats’ prescription for the recession — $814 billion in new spending — added to the deficit.” 3

It will take a combination of things to get the budget, debt and deficit under control. We can’t just point the finger at another party and blame them. It will take bipartisanship and sacrifice. And it takes addressing more things than just cutting out ‘pork.’ There are not simple or easy answers. But the stakes – the future health of our economy – are high.

1 We Can’t Cut Spending, Bruce Bartlett, Forbes, Sep 18, 2009 http://www.forbes.com/2009/09/17/federal-budget-spending-opinions-columnists-bruce-bartlett.html

2 A Fiscal Mess Our Leaders Won’t Face, Matt Miller, TheWashington Post, Dec 1, 2010 http://www.washingtonpost.com/wp-dyn/content/article/2010/12/01/AR2010120103139.html

3 Alarm over U.S. debt creates ‘window’ for tough choices, Richard Wolf, USA Today, Nov 29, 2010 http://www.usatoday.com/news/washington/2010-11-29-1Adeficit29_CV_N.htm

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1595 Allouez Ave, Green Bay, WI 54311

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