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By Rex Nutting, MarketWatch
WASHINGTON (MarketWatch) — Investors around the world are concerned about the U.S. government’s deficits. They are worried that they aren’t big enough.
Of course, you never hear it expressed in those terms. But when they let their money do the talking, investors are saying loudly and persistently that they want to buy more U.S. government debt. In fact, they want to buy much more debt than is available.
The supply of government debt may be soaring — the deficit will exceed $1 trillion for the fourth straight year in 2012. But demand for U.S. government debt is rising even faster.
Yields for U.S. debt have fallen to historic lows because demand for government bills and bonds is so strong.
Interest rates on government debt are at historic lows. The government pays about 0.1% to borrow money for six months, and investors are clamoring to get in on that deal. At one auction in January, investors offered to lend the government a total of $159 billion for 28 days at 0% interest. The government accepted $29 billion, leaving the rest to scramble for a safe place to park their money.
And now investors want to take the next step: Negative interest rates. Last week, the group of bond traders that advises the Treasury on debt matters unanimously recommended that the Treasury allow investors to offer to pay the government for lending it money. You’d give the Treasury $10,000 now and get back $9,990 in a few months.
Read the report from the Treasury Borrowing Advisory Committee.
On Capitol Hill, all you hear is about how we have to get the deficits under control immediately, about how we must stop spending so much, about how we must stop borrowing so much. But on Wall Street, the attitude is different, because the global recession has created a huge demand for ultra-safe assets. Risk is out of favor, and safety is king.
And, despite what SP says, nothing is safer than a T-bill.
The government shouldn’t run a big deficit merely because investors demand it, but the strong demand should reassure those who worry that the United States is turning into Greece. There’s a big difference between the U.S. and Greece: We can sell our bonds, and they can’t sell theirs, at least not at a reasonable rate of interest.
Of course, once the global economy is healed thoroughly, demand for safe assets like Treasurys will subside and our interest rates will rise. Washington’s costs for servicing the debt will go up. But we shouldn’t think that this will happen very soon: Investors are willing to lend money to the government for five years at about 0.75%, and for 10 years at less than 2%.
After taking expected inflation into account, investors are willing to lock up their money for 10 years at a negative real interest rate. These investors, at least, don’t expect a boom any time soon. And they certainly aren’t frightened by the prospect of default.
The lesson from the bond market is that deficit reduction isn’t a crisis demanding instant results. We need to bring down the deficits over time, but not necessarily this year or next.
That’s also the message delivered last week by the Congressional Budget Office, which released its annual budget outlook. Make no mistake; the outlook is grim, especially over the next 20 or 50 years. Serious work needs to be done to bring health-care costs, in particular, under control as tens of millions of baby boomers retire. The public debt is on an unsustainable trajectory; no one questions that.
Read the CBO’s budget outlook report.
But there’s also danger in acting too rashly, the CBO said. In fact, the actions the Congress has already taken to reduce the deficit could cripple the economy, and possibly ignite a short recession a year from now.
If Congress goes ahead with the deficit reduction plans already in motion, the CBO projects that economic growth would be mediocre at about 2.2% this year before braking to 1% next year. Growth is expected to be negative in the first quarter of 2013.
After rising by about 1.7 million in 2012, job growth would turn negative in the first half of 2013. About three-quarters of a million people would lose their jobs. The unemployment rate could rise to 9.2% by mid-2013.
Why would the economy suddenly slow next year, throwing hundreds of thousands out of work? Because of excessive deficit reduction that’s already been approved, including letting the Bush- and Obama-era tax cuts expire, allowing the alternative minimum tax to hit millions of middle-class taxpayers, and forcing spending cuts in the defense budget and in Medicare.
The austerity already in the pipeline could hit us pretty hard, especially with extended unemployment benefits about to expire and with state and local governments still cutting their spending and employment drastically.
If we really thought deficit reduction was our first and only priority, we’d let those tax hikes and spending cuts go ahead as now planned, and damn the consequences to the economy, jobs and incomes. That would be the European way.
As measured by the output gap — the difference between actual growth and potential growth — we’re only halfway through the Great Recession.
Fortunately, Republicans and Democrats aren’t quite that foolish. It’s likely that the tax increases won’t take effect, and that most of the planned spending cuts will be overturned. Like it or not, the economy still needs deficit spending to keep the economy moving forward for the next few years, adding jobs and boosting incomes.
Four years after the beginning of the Great Recession, the “economy remains in a severe slump,” the CBO says. Everyone knows that.
But what people may not realize is that we’re only halfway through this slump. “A large portion of the economic and human costs of the recession and slow recovery remains ahead,” the CBO says. Gross domestic product and employment aren’t expected to get back to the economy’s long-run potential until early 2018.
That means five more years of economic suffering.
Much of the pain — in lost output, in unemployment, in foreclosures, and in budget deficits — is yet to come. Subjecting the economy to needless austerity now is only cruel.
Rex Nutting is a columnist and MarketWatch’s international commentary editor, based in Washington.