Thoughts About Inflation, Interest Rates, and the National Debt

Voters may remember the Presidential campaign of 2000. The first presidential election of the new millennium pitted two princes vying for the highest office in the land. The Democrat Prince of Tennessee, Vice President Albert Gore, Jr, a member of a distinguished Volunteer State political clan was opposed by the Republican prince of Texas, Governor George W. Bush, scion of an equally distinguished eastern establishment family. During the course of the campaign, these two men debated what would be done once the national debt would be extinguished. At that time it appeared that the debt would be fully retired within another one to two years. Both candidates had rosy predictions of how the economy would soar once that albatross was finally removed from our necks. Regrettably, that millenarian scenario never arrived. Thanks to the Al Qaeda attack on September 11, 2001, all spending plans went awry as the United States entered long wars in Iraq and Afghanistan.

As of today, the National Debt is well over $31 trillion and growing daily. Throughout the first twenty years of this new century, inflation has been virtually non-existent and interest rates have been ultra low with the federal funds rate at almost zero. To be honest, most of the very low interest rates was in response to severe financial problems in the banking industry due to sub-prime mortgage lending, much of it due to government pressure to lend to ultimately unqualified individuals. This pressure started during the Clinton administration under HUD Secretary Andrew Cuomo. In one weekend in September 2008, Lehman Brothers went bankrupt and Merrill Lynch was bailed out by Bank of America. It seemed as though the U.S. was on the verge of another Great Depression but the Federal Reserve, under the leadership of Chairman Ben Bernanke, saved the day. The fed funds rate was set at 0 to 0.25% and stayed at that rate for many years. Mortgages, corporate borrowing and Treasury borrowing all benefitted from the almost free cost of money. Deficit spending was the order of the day, and it just so happened that the People’s Republic of China, (PRC) became our leading creditor. This has grave implications for our future.

In early 2020, the Covid Pandemic struck the world, the U.S. included. Major parts of the American economy were shut down for varying periods of time in an effort to prevent spread of the virus which eventually killed over one million Americans. Massive federal spending to support the economy in the face of widespread economic closure cost trillions. With the inauguration of Joseph R. Biden, Jr in January 2021, the faucets opened up and trillions of dollars in Covid relief money poured out. At this time, the inflationary gates also opened. Exacerbating the situation in January 2022 was the unprovoked attack by social imperialist Russia on Ukraine. America has sent about one hundred billion dollars in aid to help Ukraine with no end in sight. Faced with the highest inflation rate in forty years, the Federal Reserve Board and its Open Market Committee have been raising the federal funds rate, yet it is nowhere high enough to counter inflationary pressures. The national debt is structured so that portions of it are constantly coming due. Ordinarily, it is simply rolled over to later redemption dates. The problem is that all debt coming due is being refunded at significantly higher interest rates. What does this mean? Using the figure of $31 trillion, each one per cent rise in interest rates will cost the American taxpayer $310 billion in additional interest costs. A three percent rise will cost almost $1 trillion each year. This would be added to the national debt and is totally non productive. Furthermore, in recent months, political tensions have risen with the PRC due to its aggressive behavior in Asia. If our largest creditor should decide to stop rolling over American debt and demand payment, immense pressure would be placed on the American government bond market with unpredictable rises in interest rates to be expected due to the Treasury needing to induce additional buyers to purchase its debt.

A word about inflation is in order. If tomorrow, miraculously, inflation would disappear, prices would remain significantly higher than a year ago. Zero inflation does not mean that prices will return to what they were before the current bout of inflation. It simply means that prices will not rise further. Thus, energy, food, housing and other costs that American families face would not go down. Household financial pressures would continue, unless wages would rise to meet the cost of living. The danger here is that higher wages generally lead to inflation as well. Only increases in American productivity can beat this current vicious circle we are trapped in. This means re-industrializing America, ending dependence on foreign nations to supply our basic products, and ending our dependence on foreign supply chains. A very tall order. Will the President and Congress and the American people be able to meet this challenge? The seriousness of the current economic problems facing the United States are very severe and shouldn’t be discounted by headline seeking politicians offering quick cures. This is a serious illness and serious treatment is required. The outcome is far from certain. An early solution is essential as the specter of bankruptcy remains a serious threat.

Garry S. Sklar

At Sea

November 22, 2022