A Decade's Worth of Financial Change

While standing in line at the Dollar rental car lounge near LAX this morning, we saw these two headlines run back to back on a TV monitor: “Government Debt Ceiling Debate to Rage for Two More Weeks” and “Gold Hits Record High $1,600.”

We’re in town (yet again) to edit our film Risk! following our “focus group” screening at the Anthem Film Festival  last week in Las Vegas. We’re spit-shining the film for another screening again next week in Vancouver at the AF investment symposium.

Seeing the news took us back. A decade ago, in the early days of The Daily Reckoning, you would never have seen “debt” and “gold” in the headlines, let alone back-to-back.

Back then, we warned of rising debt levels. On this day 10 years ago the national debt was a quaint $5,705,050,480,267.56… but we didn’t like the trend. For two years already, we had also been recommending you buy gold. On this day 10 years ago, gold was trading for $266. This morning, it clocked in at $1,602…

How times change. Still, we can’t help but think we’re just getting started.

“All we need,” wrote our friend James Turk this morning, “is a little bit of a fuse on any one of these monetary events — the U.S. or the EU — to put a tidal wave of buying into the precious metals.”

Let’s check in on one of them.

The debt ceiling deadline looms just two weeks from today. Yet one of the few points of agreement between the White House and Congress all but guarantees a default.

Let’s back up a bit. It may be hard to see close up. But from Germany, it’s easy to see that the debate over the debt ceiling is merely posturing.

“Obama does not want to go down in history as the president who bankrupted America,” writes the business daily Handelsblatt, “so the only alternative is another unsavory deal — the ‘kick the can down the road’ solution, as American politicians like to call it.

“The debt limit will be raised again just before the impending volcanic eruption, exacerbating the problem and postponing an attempt to solve the problem (of the U.S.’ enormous debt) to the next, not-too-distant deadline.

“Investors are also counting on this scenario. That is the only explanation for the relative calm on the market for U.S. government bonds.”

Indeed, a 10-year Treasury yields 2.94% this morning — down from nearly 3.2% at the beginning of this month. If the bond vigilantes were any more calm than they are now, they’d be on Quaaludes.

“It’s pretty clear they are going to raise the debt ceiling,” adds our friend David Walker, the former U.S. comptroller general, “but I don’t think we’re going to get a grand bargain” that slashes a substantial amount of the annual deficit.

But whatever agreement emerges from the backroom dealing, it is now almost sure to include what we’ve labeled a “stealth default” on Social Security.

The White House quietly put out the word two weeks ago that it’s on board. Congressional Republicans think it’s a super idea, too. “There hasn’t been any economist anywhere that says we shouldn’t do that,” says Sen. Tom Coburn (R-Okla.).

Of course, they don’t call it a stealth default. They call it “chained CPI.”

This stealth default has occurred before. When Social Security was in trouble in 1983, one of the Greenspan Commission’s fixes included an adjustment to the consumer price index known as “substitution.”

It works like this: If steak gets too expensive and you start buying hamburger instead… well, your price of beef hasn’t really gone up and your cost of living is unchanged. This is one of the reasons official CPI is running 3.6%, but if it were still calculated the way it was before the Greenspan Commission went to work, it would be 11.1%.

Because Social Security benefits are keyed to CPI, this has resulted in a substantial savings for Uncle Sam. But fast-forward 28 years and Uncle Sam has burned through all the trust fund money just to pay his bills, and “substitution” alone isn’t good enough. Hence, “chained CPI.”

Under “chained CPI,” if your hamburger gets too expensive and you start buying beans instead… well, your price of protein hasn’t really gone up and your cost of living is unchanged.

Addison Wiggin,
for The Daily Reckoning


The Daily Reckoning