Thursday, September 24, 2009

Housing Is A Smokescreen To Keep US Funding Costs Low

A comment I posted on Cafe Hayek blog where Russ Roberts ask if the US government has any budget restraint:
US borrowing is near its debt ceiling limit and needs Congressional authorization to increase the limit. One of the reasons FDIC is looking to borrow (or prepayment) from banks instead of Treasury. See Bloomberg,

Given the anti US debt voter sentiment, it will be interesting to see how politicians and media respond to the need to increase the ceiling. My guess is it will be a non-event and the ceiling will rise, but surprises do happen.

The post office is underfunding its pension, a future liability, but the US is on a cash basis system so that the pension costs is not part of the US borrowing costs until retirees actually need to be paid.

Not only is the US taking on an enormous amount of debt, but it is at great financial risk because most of the debt is short term and cannot be inflated away. About 32 percent of US debt has a maturity under a year and 50 percent matures in one to ten years. Another 8 percent will reset because it is inflation protected (TIPS). This 90 percent of US debt will have its interest rate reset upon refunding (or resetting) to a higher interest rate if inflation occurs. A total of 90 percent of the US debt has an interest rate resetting risk.

Plus short term debt (bills) under year and less do not pay interest. Instead, they are sold at a discount and redeemed at a higher price. The (interest) expense is deferred until maturity, and those that mature next year become part of next year's budget due to US accounting. When short term debt levels increase, next year's expense increases.

Housing is a smokescreen used by Geithner and Bernanke to keep funding costs low. There is about $7.5 trillion of US debt in public hands. (About another $5 trillion in held by US agencies). Every one percent interest rate increase in rates of the debt in public hands subject to near term rate resetting is about $67.5 billion, and about a 25 to 30 percent increase in US interest expense. Additionally, the one percent increase is about 2-3 percent of the US government budget, which further increases the deficit, by a significant amount, and the debt.

The public is right to be apprehensive about the amount of US debt because the current cost of interest payments is artificially and unsustainably low. Bernanke and Geithner are using teaser rates to keep the current budget expense low and to avoid tax increase or program budget cuts until the President's second term or later.

If there were any truth in government borrowing, the government would use a realistic average expected interest rate to show what the true cost of the current debt is to the American public.

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