OF COURSE We Can Afford It!

Years ago I got some valuable insight into consumer credit behavior while doing marketing programs for the credit card industry. What I learned was that when consumers are faced with a decision as to whether to buy something on credit, they don't look at their level of indebtedness. They usually ask only one question: Can I afford the payments? This is why you see so many offers for no interest or deferred payment financing. If your monthly payment doesn't increase, OF COURSE you can afford to buy it!

Now let's consider the US government's behavior. In 1995 the national debt was about $5 trillion and annual interest payments were about $230 billion. In 2011 the national debt had risen to $15 trillion and interest payments were about ... $230 billion. Because the Federal Reserve was creating astronomical sums of money to keep Treasury interest rates down, we tripled the national debt without paying a penny more in annual interest. OF COURSE we can afford to increase Federal spending! We can afford the payments.

But then an odd thing eventually happens. Your monthly payments DO start to increase. Maybe market rates rise. Maybe you've finally reached the point where lenders consider you a high risk and raise the rate at which they are willing to lend you more. Suddenly you CAN'T afford those monthly payments. What do you do? If you're someone of integrity and personal responsibility, you cut back your household spending and start paying down the loan. If you're not, you keep spending as much as possible and then declare bankruptcy.

What will the US Government do when its monthly payments eventually rise**? If those running our government and those who elect them have integrity, they drastically reduce government spending (I'll pause here for the reader to finish laughing). If they're not, they do what governments usually do. They debase the currency and renege on their debts. When this happens in Argentina (every 20 years or so), the worldwide consequences are manageable. When this happens to a nation that produces 25% of world GDP, the consequences are catastrophic. But remember. It's all George Bush's fault. We bear no responsibility. FORWARD!

** Today the Federal Reserve buys more than two-thirds of all US treasury debt issued. What does that mean? Its means that there are few buyers for those bonds at the offered interest rate.