John Heasley

John Heasley
TBA General Counsel

How long can the borrowing go on? We are already $trillions in debt

Size and composition of SOMA Domestice Securities Holdings.In 2008, then Sen. Barack Obama gave a speech in which he called George W. Bush “unpatriotic” for presiding over a national debt of $6 trillion. When Obama left the presidency there was no mention of patriotism when the debt was more than $14 trillion.

Republicans often talk of fiscal rectitude but only occasionally display it. (Usually when there is a Democrat in the White House.) Trump and the Republicans that controlled Congress from 2017 through 2018 enacted tax cuts and increased spending, much of it on increases in defense budgets.

When Democrats regained control over the House in 2018, they passed bills reflecting their desire to increase social welfare spending. The cumulative deficit through March of this year is $744 billion, an increase of $50 billion over last year. The national debt is $17.7 trillion, an increase of $1.5 trillion over last year. (Source: Peter G. Peterson Foundation)

Enter the COVID-19 pandemic. The latest Congressional response is a massive $2.2 trillion appropriation to try to create a backstop for the economy. The $349 billion Paycheck Protection Program/Small Business Administration program was depleted in two weeks. Expect the second tranche to go quickly as well.

An additional $25 billion was set aside for large employers with a focus on airlines. Congress also gave Treasury $454 billion to back up the Fed’s efforts to buy corporate and municipal bonds and to provide loans to mid-sized businesses.

This isn’t the first time the Fed has weighed-in in a big way in a crisis. (See chart.) “Helicopter” Ben Bernanke used all of the Fed’s resources during the Great Recession and ballooned the Fed’s balance sheet to over $3.5 trillion, much of that was Quantitative Easing.

The Fed also used the discount window to prop up European banks and central banks. Most of its holdings were never divested. The Fed portfolio is now $6 trillion and is expected to grow to at least $8 trillion. All of these monies are off-budget. They are not counted in U.S. deficit or debt counts.

This crisis will be the first time the Fed will engage in the purchase of corporate debt. A lot of corporate debt is so shaky that their purchase will make MBS purchases in 2009 look like prudent investments.

Two-thirds of American debt was rated BBB or lower prior to the pandemic. There has been a worldwide binge in corporate debt issuances. According to The Economist, the total outstanding amount is $20.9 trillion. The United States accounts for about one-third of the total. From a Texas perspective, energy firms account for 8% of the bond market. Much of that is from debt-addicted fracking companies.

Will all of this spending lead to Weimar Republic hyperinflation, dollar devaluation and a dumping of U.S. Treasury securities? Not for a while. Despite our troubles, our economy and our banking system are in better shape than those in Europe or China.

Prior to the crisis, there were international efforts to establish a basket of currencies to replace the dollar in efforts to do business with countries under U.S. sanctions, like Iran. Those efforts failed. The dollar is still the reserve currency for the world; most international trade is done in dollar-denominated accounts, and U.S. Treasuries are the safest of safe harbors. An analogy would be that, for investors and countries, the United States is the least ugly person in the bar to go home with at closing time.