I.O.U.nited States

I hate to bring this up so soon after the Fourth of July, but there's an inconvenient truth lurking over the Stars and Stripes: We're drowning in debt. Buckets and buckets of debt. More debt than the world has ever seen. More debt than anyone knows what to do with, and, worst of all, more debt than anyone knows how to pay off.

Whether you like it or not, you have $31,300 of debt
Think about that for a second. Let it sink in. $31,300. It's the per-capita national debt in this country. In 1990, national debt was less than $3 trillion. At the turn of the millennium, the number was less than $6 trillion. Today it's over $9.5 trillion, and will be a few bucks higher when you're done reading this article. How so much debt was accumulated isn't much of a surprise. Budget deficits, trade deficits, stimulus packages, bailout packages … nothing new here.

But that isn't the worst of it. The 800-pound gorilla in this equation is that so much of our public debt relies on foreign investors. At the end of March, $2.4 trillion worth of U.S. debt was held by foreign investors -- twice as much as the amount held as recently as 2002.

And, boy, do they love our debt. We buy everything from oil to hairbrushes with dollars, so our overseas buddies have to do something with all their greenbacks. A lot of those dollars end up recycling back into U.S. investments -- Treasury bills, stocks, private equity investments -- so in the end, everyone's happy. We print, they buy. No one complains.

But for how long?
Can that setup continue forever? One side of the debate says it can, since there's no replacement for the almighty dollar. Countries will purchase as much debt as we throw at them, so the amount that accumulates is irrelevant. Print, spend, print, spend … repeat until wealthy.

But here's reality: Freddie Mac (NYSE: FRE  ) and Fannie Mae (NYSE: FNM  ) -- which foreign investors gobbled up -- are staring at their darkest days ever. Inflation is ticking along at 4.2% per year, while the yield on a ten-year treasury note will fetch you just over 4%. How much longer will investors accept these returns without feeling like chumps? Your guess is as good as mine, although it's reasonable to assume sooner or later one part of the equation will have to give. Just as homeowners learned over the past year, people will lend you money provided they're lending against stable assets, and they have confidence you can pay them back. Once either part fails, the party ends quickly.

What happens to our economy if foreign investors give up on us? Since bond prices and interest rates move inversely, waning demand for U.S. securities means higher interest rates. That might be good for parts of the economy, but ask the folks over at Washington Mutual (NYSE: WM  ) or Wachovia (NYSE: WB  ) how they feel about it. Or the millions of Americans facing foreclosure. They sure wouldn't appreciate it.

"No, no, no," the peanut gallery hisses, "Foreigners will always recycle dollars back into our economy." Abu Dhabi injected life into Citigroup (NYSE: C  ) last year, and just recently purchased a stake in General Electric (NYSE: GE  ) . Anheuser-Busch, perhaps the most American of American companies, is about to be owned by a Belgian corporation. There was no shortage of attention when China's CNOOC (NYSE: CEO  ) made a run for American Unocal three years ago. All things considered, it sure doesn't look like foreigners are losing interest in U.S. investments.

But …
True, but massive foreign investment means transferring massive amounts of domestic ownership outside our borders. Like mortgaging off bits and pieces of our future, there comes a point where future generations won't tolerate paying excessive amounts of tax revenue to service foreign debt. Sending mountains of profits to other countries could become counterproductive for the U.S.

We've been here before
Homeowners found an easy path to wealth over the past decade: Leverage up, find someone to sell the debt to, then spend money like it's your last day alive. Sound familiar? It's practically how the U.S. economy as a whole operates. We now know how the housing party ended: Either the carpet gets pulled out from under your feet, or you're left owing an insane amount of your future to whoever owns your mortgage. Either outcome is a recipe for disaster. The big question is, will Empire Americana suffer a similar fate?

OK, OK, enough pessimism. Is there a way out of this mess? More importantly, can you invest around these circumstances? Yes, and yes. More on that next week.

For related Foolishness:

CNOOC Ltd. is a Motley Fool Global Gains pick. Anheuser-Busch Companies is a former Motley Fool Inside Value recommendation. Try any of our Foolish newsletters today, free for 30 days.

 Fool contributor Morgan Housel doesn't own shares in any of the companies mentioned in this article. The Motley Fool is one nation, under its disclosure policy.  


Read/Post Comments (7) | Recommend This Article (66)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On July 24, 2008, at 4:38 PM, scotttkeller wrote:

    This is one of the best summarized views of our economic risk I have seen. Bravo. Look forward to your 'response' article.

    Your summary of debt here in addition to foreign oil dependence should be the basis of US policy. Root cause policy will solve the outlier issues as well...like the Middle East.

  • Report this Comment On July 25, 2008, at 8:07 AM, scollins1225 wrote:

    Great article...

    As for the ending question "Is there a way out of this mess?" I'm not so sure...

    Our government, through the wisdom of our wise, elected leaders fail to address these very issues because of the tough commitments required for fixing the system.

    WHY??? Because anyone proposing real (re: FOOLISH) solutions are deemed to be unelectable and/or just plain crazy.

  • Report this Comment On July 25, 2008, at 9:32 PM, bqsplit wrote:

    I have been saying these same things for the last 8 years. scollins is ABSOLUTELY correct in his above assessment. My question is how do we best invest our dollars in the future, as our leaders let our great country fall apart, just so they can continue to get re-elected.

  • Report this Comment On July 29, 2008, at 1:49 AM, Sinfest wrote:

    Get the Conservatives and Neo-Cons out of office. There's a nice step back to American prosperity!

  • Report this Comment On July 29, 2008, at 4:39 PM, sanman2 wrote:

    uhmmm, I could be wrong but I thought the democrats were running the congress and senate.

  • Report this Comment On July 29, 2008, at 7:53 PM, SharpSEO wrote:

    Interesting piece. Reminiscent of IOUSA, a scary documentary along similar lines. It's in a few theaters now, and opening in 400 more soon according to this:

    http://www.agorafinancial.com/iousa.html

    Warren Buffet is hosting the national premier Aug 21st. Hopefully that'll boost exposure and wake some people up (lawmakers, perhaps?). Stop living above our/your means!

  • Report this Comment On July 31, 2008, at 1:04 PM, TMFMethuselah wrote:

    I'd like to see some better analysis of this issue in context. For instance, http://zfacts.com/p/318.html shows debt as a percentage of GDP.

    The question is, what is the correct amount of national debt? In the 70s, interest rates were high making it a horrible time to borrow money. In the last decade, rates have been low, making it a better time to borrow money.

    An even better question is, "what are we doing with the borrowed money?"

    Investing in our nation's education system, transportation network, and (perhaps) ensuring global stability with our armed forces seem like good reasons to borrow money. All of these investments could return more than 4% per year.

    Finally, we owe money to a lot of other countries. These countries will have a vested stake in making sure our economy survives, and even thrives. So "foreign debt" has a silver lining as well.

    Our democracy elects leaders who borrow money to invest in other avenues. Over time we'll learn whether this "wisdom of crowds" was the best decision, but in any event I don't see a good reason to argue unconditionally that our growing national debt is a crisis.

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