"Not With a Bang, But a Whimper"

In yesterday's blog, a reader made the following key points:

1. Our economy will not collapse as long as everyone keeps buying treasury bonds. However, this liquidity will cause inflation which wrecks havoc with the economy.
2. We have maxed out congressional debt limits and won't have enough money to pay for health care and social security.
3. We are bankrupt, especially if our international financiers cash in their debt bonds.
4. So when our international creditors jump ship, not because they no longer want to support the dollar but more simply just to save their own economy (several countries are getting rid of their dollar reserves in fear that they will be worthless soon), then it will be a rush to cash in, thereby collapsing our economy.

My response:

1. Excess liquidity did cause inflation in housing prices last year. We are now suffering from that excess. We are also beginning to experience the downside of a stock market bubble, with the Dow down 5% last week and still sliding this week
2. The budget deficit and looming crisis in Social Security and health care costs have been well documented, and remain a concern for 2010 and beyond
3. We owe over $8 trillion in debt. It would take over a year and a half of total U.S. production to pay it back. Of course, if all our financiers came calling, it would completely destroy the global economy. Furthermore, we are their best customer. So, the U.S. has them over a barrel just as much as they have us over a barrel. Therefore, they have no incentive to come calling all at once.
4. Yes, they may panic, causing a dollar slide. Yes, they are diversifying out of dollars, but they are doing so slowly.

Therefore, my final statement is still that the dollar will decline gradually, which will still cause a lot of discomfort for the U.S. economy over an extended period of time. There may still be a dollar crash, but more on the order of, say, 5% - not the 30-40% that experts say it needs to fall.

What It Means for You

Those of us fortunate enough to have lived in the U.S. economy since World War II have enjoyed an extraordinarily affluent existence, based on cheap oil and a young, innovative workforce. The party has been extended for the last 10 years from cheap loans. But every party has a morning-after clean-up, and the bills have to eventually be paid. Make sure your own financial house is in order, and the gradual slow-down of the U.S. economy will be fairly benign.

Related Articles

• U.S. Budget and Spending Primer
• The U.S. Federal Budget Deficit
• The U.S. Debt, and Why It Is So Large