Short-Term Rallies to Follow Short-Term Memories

“Let’s get real,” says Boston University economist Laurence Kotlikoff. “The US is bankrupt.”

This isn’t breaking news to our readers. And Kotlikoff issued his estimate of the real national debt – $200 trillion – months ago. But after it was spotlighted this week in Canada’s Globe & Mail newspaper, it’s become an Internet sensation.

$200 trillion is a rather higher estimate than even the $67 trillion of our friend David Walker, the former US comptroller general. But when you’re trying to project the future costs of Social Security, Medicare and Medicaid (especially the last two), and you’re talking tens of trillions, the numbers are bound to get fuzzy.

“To close this fiscal gap [without cutting spending] would require an immediate and permanent doubling of our personal income taxes, our corporate taxes and all other federal taxes,” says Kotlikoff.

“America’s fiscal gap is enormous – so massive that closing it appears impossible without immediate and radical reforms to its health care, tax and Social Security systems – as well as military and other discretionary spending cuts.”

When we began making I.O.U.S.A. in 2006, no one cared about the ballooning national debt…nor even the historically high deficits posted by the Bush administration. Now in 2010, there’s fear and anger over debts and deficits like they were created in November 2008. The “outrage” many predict will likely return the US Congress to the party who’d gotten the whole ball rolling in the first place. How soon people forget, eh?

Still, it’s not surprising Kotlikoff’s warning is catching fire now. It underscores what a dicey time this is for the economy and your investments: What would a new Congress actually accomplish after the election on Tuesday? Not much is our guess.

And what will the Federal Reserve do when it decides next Wednesday what the next round of quantitative easing will look like? Whatever euphoria is created by the announcement is bound to be short-lived. We may get, as Marc Faber predicts, a short “crack up” boom, but then we suspect the holidays will be over and Congress will be back to business as usual, no matter the outcome of Tuesday’s election. And the economy will still be suffering the effects of debt deflation.

In the short term, “the whole investment world has gone a little crazy,” says our friend Bill Bonner. “It’s all speculation now… speculation on how much new money the Fed will add to the system.” Everything that happens is evaluated in light of how it will affect the election, and the Fed’s decision-making.

Addison Wiggin
for The Daily Reckoning