May 25, 2024

The Terminal Debt Trap

US Could Be Facing Debt “Time Bomb” This Year

WASHINGTON – With President-elect Barack Obama and congressional Democrats considering a massive spending package aimed at pulling the nation out of recession, the national debt is projected to jump by as much as $2 trillion this year, an unprecedented increase that could test the world’s appetite for financing U.S. government spending.

Despite those actions, the economic outlook has continued to darken. Now, Obama and congressional Democrats are debating as much as $850 billion in new federal spending and tax cuts to create or preserve jobs and slow the grim, upward march of unemployment, which stood in November at 6.7 percent.

Congress is not planning to raise taxes or cut spending to cover the cost of those programs, because economists say doing so would further slow economic activity. That means the government has to borrow the money.

Economists from across the political spectrum have endorsed the idea of going deeper into debt to combat what many call the most dangerous economic conditions since the Great Depression.

“When you accumulate this amount of debt that we’re moving into, it’s not a given that our foreign friends are going to continue on the path they’ve been on,” said G. William Hoagland, a longtime Republican budget analyst who now serves as vice president for public policy at the health insurer Cigna. “There’s going to come a time when we can’t even pay the interest on the money we’ve borrowed. That’s default.”

The unanimous conclusion of the politicians and economists seems to be that we can borrow our way to prosperity via fiscal stimulus conducted with borrowed funds or printed money.

It is, of course, delusional to think that we can spend and borrow our way out of a financial crisis caused by over spending and over borrowing.   The reason we are in a financial crisis is due to excess leverage and credit at every level of our economy.  The attempt to subvert free market solutions by socializing every loss will only expand and prolong our economic mess.

Foolish politicians promising easy and painless solutions are pandering at best.   Quantitative easing, fiscal stimulus, bailouts and guarantees are no solution.   We have a crisis because we spent our future.  The solution of hard work and a lower standard of living will eventually be forced upon us.   Massive new spending and borrowing at this point only brings us closer to a terminal debt trap where we have neither the capacity to repay nor the ability to borrow.

Madoff’s $50 Billion Only Exists On Customer Account Statements

Based on Bernard Madoff’s own estimation, he lost approximately $50 billion of investor funds.  Every since this disclosure, the biggest questions are where did the money go and how much of the $50 billion remains.

Bloomberg is reporting that Madoff To Reveal Assets by year end.

Investors looking to recoup some of the $50 billion they lost in Bernard Madoff’s alleged Ponzi scheme may get a better idea what the New York financial adviser has left when he is forced to reveal his assets to regulators.

Madoff, 70, must provide a detailed list of all investments, loans, lines of credit, business interests, brokerage accounts and other holdings to the Securities and Exchange Commission by New Year’s Eve, a federal judge ruled. Madoff’s foreign business units were given until Jan. 26 to provide a similar accounting.

A catalog of Madoff’s assets may reveal targets for angry investors including hedge funds and charities seeking the return of their funds.

This is a curious report.  Why would a federal judge ask Madoff to provide an accounting?  The SEC states that his records are in disarray and in any event, totally unreliable.   Is it to be expected that a man who lived by deception and lies for two decades is going to present an accurate report?  Where is the SEC, are they still not interested in this man’s operations?    It would obviously make more sense for an outside regulatory agency to produce a report on Madoff’s assets.

Nonetheless, regardless of who produces the report, I would not expect the Madoff funds to show very much in the way of assets due to the magic of compounded interest.   Consider the following scenario.   If Madoff had $2 billion in assets under management assets 20 years ago, the amount of this initial investment, compounded at 12% for 20 years would now be approximately $9.6 billion.   If Madoff took in another half billion per year over the next 20 years, to date that amount compounded at 12% would now be worth around $40.4 billion.   With other factors disregarded and a total principal investment of $11 billion, the investors’ account statements would now show $50 billion of assets.

We know that Madoff was not generating magical returns of 12% per year over 20 years, so the phantom gains of $39 billion in this example probably never existed.   In addition, withdrawals, huge fee payments to feeder hedge funds and losses on investments probably consumed much of the original principal invested.    A classic Ponzi scheme collapses when the amounts needed to be paid out cannot be covered by new investment monies, which seems to be the case here.

Madoff probably did not start his fund with the objective of becoming a Ponzi scheme.  He was probably drawn into it slowly as his warped ego would not let him admit to the world that he was not an investment genius.   Failure to cover previous losses or outperform the market going forward never allowed him to stop the deception once it started.  Indifference by regulators allowed the deception to continue.

Madoff’s $50 billion never really existed except on customer account statements.   Defrauded investors will now find this out come December 31st.