Mish's Global Economic Trend Analysis

Social Security Payouts Per Worker; Accrued Interest on Accrued Promises; Imagination
Silly Worry of the Day: US Will Default; Politics of the Debate
Municipal Bonds: Where to in 2013? Is There a Muni Bubble? Will it Pop?

Social Security Payouts Per Worker; Accrued Interest on Accrued Promises; Imagination

Posted: 10 Jan 2013 10:00 PM PST

Inquiring minds are digging still further into social security trends and costs.

Here is a chart from Tim Wallace in response to my post Social Security Trends: Beneficiaries, Total Costs, Number of Workers, Ratio of Workers to Beneficiaries.

Social Security Burden on Non-Farm Workers

The line in red shows the expected trend if payouts had increased at the rate of inflation. Instead, escalating costs and the shrinking number of workers per beneficiary, has placed tremendous stress on workers ability to support beneficiaries.

Here are a few of charts from the top link to highlight the reason for this trend.

Average Monthly Social Security Benefit

Social Security Beneficiaries vs. Total Non-Farm Employment

Ratio of Workers to Social Security Beneficiaries

Social Security Benefits Analysis

The ratio of workers to beneficiaries peaked in 1999 at 2.927 to 1.
The ratio of workers to beneficiaries was 2.361 to 1 at the end of 2012.
The ratio of workers to beneficiaries is falling fast and will continue to fall fast for a decade as the baby boomer population ages.
The average payout and the number of payouts are both rising fast
Total Social Security payouts (a multiplication of two rising numbers) are on an unsustainable exponential growth path.

Social Security Deficit?

In my first post I cited a CNS News article that made this claim Social Security Ran $47.8B Deficit in FY 2012.

Reader David White objected, noting an increase in assets. Here is the chart from the Social Security Administration.

White protests "The "$47.8 billion deficit" mentioned in the post does not include interest income. This omission blatantly misrepresents the Social Security Trust Fund data."

Blatant Misrepresentation

If anything, the above chart highlights the sheer absurdity of the alleged "Trust Fund".

The blatant misrepresentation is the notion there is a trust "fund" at all.

In reality there is no fund, and if there is any trust in the system, there shouldn't be.

Accrued Interest on Accrued Promises

The assets are nothing but IOUs, and interest income is actually interest on money long since spent.

The entire "Trust Fund" is nothing but a promise to pay. There are no real assets (other than the ability to raise taxes to meet current expenses). Everything else is just a promise, and even more absurdly, accrued interest on accrued promises.

The chart provided by Wallace should give everyone second thoughts about the ability to raise taxes to meet expenses.

Imagination

The key point is Social Security is now cash flow negative (just as the chart provided by White shows), not that imaginary assets have increased in value, based on imaginary interest, and imaginary ability of taxpayers to forever keep meeting escalating payouts.

I offer this musical tribute to those who actually believe there is a trust fund, as well as to those who believe imaginary interest on imaginary assets represents the true state of affairs.

Link if video does not play: The Temptations - Just My Imagination

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

"Wine Country" Economic Conference Hosted By Mish
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Silly Worry of the Day: US Will Default; Politics of the Debate

Posted: 10 Jan 2013 12:56 PM PST

Of all the over-dramatized nonexistent threats, the silly worry of the day is the US is at risk of default if Congress does not raise the debt ceiling.

Earlier today, I saw a couple of articles outlining how and why a US default could happen. Well, it won't, and there is no need for all the surrounding drama either.

Ending the Debate Drama

The best rebuttal to the default idea comes from Bloomberg columnist Caroline Baum in her article Obama's Default Drama Is No Way to Run a Country.

The United States of America isn't going to default on its debt, even if Congress doesn't increase the statutory borrowing authority in the next couple of months. Everyone in Washington knows, or should know, this. Any assertions to the contrary are tantamount to playing politics with the debt ceiling.

A shutdown is certainly possible. A debt default? Not gonna happen.

Why? Because the income taxes withheld from most of our paychecks each month exceed the interest the Treasury owes on its debt outstanding. In November, for example, the Treasury's interest expense totaled $25 billion. That compares with tax receipts of $161.7 billion. The ratio of receipts to interest expense varies from month to month, but what comes in more than covers what goes out in debt service.

Without an increase in the $16.394 trillion debt limit, the federal government can't pay all of its bills: It borrows 40 cents of every dollar it spends. Still, "debt service would come first," said Lou Crandall, chief economist at Wrightson Icap LLC in Jersey City, New Jersey.

Politics of the Debate

The idea of a default should end right there, but it won't. Here is a likely seven-point scenario.

Obama will chastise Congress with talk of financial Armageddon if Congress does not raise the debt ceiling.
Congress will pretend to hold the president hostage
The secretary of the Treasury will get into the act with its own version of the default debate
Perhaps a few payments on non-critical budget items will be temporarily skipped
Wall Street will feign panic
Constituents will pressure Congress to approve a new debt ceiling
Congress will raise the ceiling with another useless warning about next time

What's Wrong With the Debt Ceiling?

Yesterday Baum wrote Only Thing Wrong With the Debt Ceiling Is the Lag.

Lots of people want to get rid of the debt ceiling, the federal government's statutory borrowing limit. When one considers that it enables the Treasury to borrow money Congress has already spent, it seems like a silly relic. Even worse, the vote to increase the debt limit has become a political football, with each party using it as an opportunity to extract concessions from the other. No wonder some folks say it's time for it to go.

Not so fast. The problem with the debt ceiling isn't the concept: the president and 535 members of Congress need a symbol to remind them just how much they spend each and every day. Rather, the problem is the lag relative to decisions on spending.

Then I thought of my friend Bob Laurent, economist extraordinaire, who died in 2005. Bob spent most of his career at the Chicago Fed. When the Fed was having trouble hitting its money supply targets in 1979, Bob came up with a simple solution (it was considered controversial at the time). Instead of the existing system of lagged reserve accounting -- banks' required reserves were determined by the level of deposits two weeks earlier -- Bob proposed a lead, or "reverse lag," method wherein the Fed would set the level of required reserves today and the banks would have to adjust deposits accordingly.

Therein lies the answer to the debt-ceiling dilemma: adopt Bob's lead, or "reverse lag," system. For those who say they want to cut spending, here's their chance. Right now, the sky's the limit. Congress needs to set the borrowing limit first and work within those confines. At minimum it will separate the real, limited-government advocates from the false prophets.

No platinum coins needed, no test of the president's powers under the 14th Amendment. Just reverse the lag. Bob thought of that a long time ago.

Not Quite

The problem with the reverse lag theory is the deficit is a function of two items: revenue and spending. Even if Congress gets a grip on spending (rather doubtful to say the least) revenues are all but guaranteed to fall short of CBO expectations.

Deficits will be above expectations and the debt ceiling will need to rise as a result.

More Coin Silliness

Yesterday someone emailed me proposing to use the platinum coin as a trust fund for Medicare. Good grief.

That proposal is exactly the kind of blatant free-lunch stupidity Pater Tenebrarum at the Acting Man mentioned to me in an email.

I added Pater's email as an addendum to my article Reader Questions on the 1 Trillion Coin Proposal: Where's the Money Come From? Will It Cause Inflation?

Addendum

Here are a few thoughts from Pater Tenebrarum at Acting Man

"I would point out though that whether it is inflationary depends on the precise mechanics of the operation. Congress could limit spending according to whatever it decides, so it need not be inflationary. But that depends on an unknowable future. As a rule, once government bureaucrats discover "innovative" financing methods, they try to make use of them to the hilt. The whole debate is actually a great illustration of the utter absurdity of our monetary system."

When I suggested minting a quadrillion dollar coin would not be inflationary, it was under my stated provision that Congress would still limit spending to amounts authorized. Of course, monetizing a trillion dollars every year is in itself an inflationary practice in isolation (with or without mind games involving platinum coins). The coin is irrelevant in that regard.

Pater catches the key point of both my articles in his concluding sentence "The whole debate is actually a great illustration of the utter absurdity of our monetary system." And that is precisely why I proposed Alfred E. Neuman on the coin.

Former Head of US Mint Chimes In

Philip Diehl, Former Head of the US Mint made a comment on Pragmatic Capitalism, reposted as an article that Addresses Confusion Over the Platinum Coin Idea. Here is the key section.

* What is unusual about the law (Sec. 5112 of title 31, United States Code) is that it gives the Secretary complete discretion regarding all specifications of the coin, including denominations.

* Moreover, the accounting treatment of the coin is identical to the treatment of all other coins. The Mint strikes the coin, ships it to the Fed, books $1 trillion, and transfers $1 trillion to the treasury's general fund where it is available to finance government operations just like with proceeds of bond sales or additional tax revenues. The same applies for a quarter dollar.

* Once the debt limit is raised, the Fed ships the coin back to the Mint, the accounting treatment is reversed, and the coin is melted. The coin would never be "issued" or circulated and bonds would not be needed to back the coin.

* There are no negative macroeconomic effects. This works just like additional tax revenue or borrowing under a higher debt limit. In fact, when the debt limit is raised, Treasury would sell more bonds, the $1 trillion dollars would be taken off the books, and the coin would be melted.

* This does not raise the debt limit so it can't be characterized as circumventing congressional authority over the debt limit. Rather, it delays when the debt limit is reached.

* Yes, this is an unintended consequence of the platinum coin bill, but how many other pieces of legislation have had unintended consequences? Most, I'd guess.

Philip N. Diehl
35th Director
United States Mint

Accounting Gimmick

As I stated, the proposal is nothing more than an accounting gimmick. Even Krugman realized as much, specifically stating at the end of Debt in a Time of Zero "not everything is a free lunch, even now. Sorry."

To that I would reply, nothing is a free lunch ever, unless you count sunshine and rain as free lunches.

Benefit of the Debate

In spite of the silliness of it all, there is still a benefit of sorts to the debate. The benefit is that the American public gets to see what fools they have elected to Congress.

Since some might not find that much a benefit, I have another idea. Stop paying Congress, the President, Vice President, and all their staffs, followed by everyone in a federal office, the second the debt ceiling is reached.

That would probably light a fire under the whole lot of them immediately.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

Municipal Bonds: Where to in 2013? Is There a Muni Bubble? Will it Pop?

Posted: 10 Jan 2013 12:00 AM PST

On Wednesday, I posted a chart of US Treasury Yields asking the question Yield Curve: Where To From Here? Extreme Complacency in Face of Bernanke Shift.

Today's focus is on municipal bonds, but first let's take a look at a chart from the above link.

Treasury Yield Curve

click on chart for sharper image

Certainly Bernanke is not hiking rates any time soon. However, that does not preclude upward pressure on long-term rates.

And if there is sustained upward pressure on interest rates (see the above link for why that may be the case), treasuries, corporates, and municipal bonds will all likely suffer.

With that thought in mind, please consider the following chart from Bloomberg on municipal bond yields.

US Municipal Bond Yields

click on chart for sharper image

Problematic Action

If I was a municipal bond investor, that chart would scare the hell out of me.

Yield on 30-year bonds plunged 90 basis points in the last year to 2.51% in what may have been a blow-off top of the muni market. Yields are sharply higher now, across the board.

Government debt is problematic enough, but at least there is no realistic default risk on treasuries.

So far, municipals have escaped the wave of defaults that Meredith Whitney announced, but even if the 30-year yield just goes back up to where it was, long-term municipals will not be a safe hiding spot.

Moreover, action across the entire muni-curve looks problematic. Yield on 10-year munis is up 33 basis points, yet still only at 1.75%.

Four Questions

Is there any reason the yield on 10-year munis can't climb to 3%?
Is there any reason the yield on 10-year munis shouldn't climb to 3%?
If the yield on 10-year munis does rise to 3%, do you want to be in munis?
Where's the value?

One can hide out in 5-year munis, but the yield is a mere .85% on those. Action is likewise very problematic. In the last month, yield on 5-year munis rose 25 basis points.

Here are a couple additional questions to consider.

Just another Scare?

Of course this month's selloff might be just another inflation scare. It might be another valuation scare. It might be another Fed hike scare. It might be another QE is ending scare.

However, this selloff might be the real deal: Recognition that the Fed is out of bullets, the Fed is getting nervous about its balance sheet, or the simple fact there is no conceivable value in holding 5-year munis for a lousy .61%, 10-year munis for a lousy 1.42%, or 30-year munis for a lousy 2.51% (where yields were a month ago).

Bubble in Munis?

I think any rational person would see there is no real value in 10-year yields at 1.42% . Yet, investors are wedded to them. In fact, to get the yields that low, investors had to be chasing them.

So yes, there is a bubble! Can the bubble get bigger? Certainly! Why can't it? Will it? That I cannot say, but for those in munis, that appears to be the bet.

In a way, this is not much different than people chasing technology stocks in 1999 or houses in 2006. In another way it's different. There is rightful aversion to stocks, and for most investors, bonds are the only other game in town.

Moreover, some people are in bonds just because they will not accept 0% in cash, and they simply have not pondered valuations, inflation, the effects of QE, or any other factors.

Bill Gross Chimes In

Researching this article, I came across Wisdom from the Bond King, an interview on US News and World Report. Emphasis in italics is mine.

Since 1971, Gross, 68, has deftly steered PIMCO, the Newport Beach, Calif., investment firm that he cofounded and where he is currently co-chief investment officer, overseeing some $1.8 trillion in assets. He manages PIMCO Total Return Fund, the world's largest mutual fund and a stalwart of the fixed-income world that has returned more than 7.3 percent annually over the past 15 years, helping to earn Gross the unofficial title of "bond king." Gross recently spoke with U.S. News about what he sees as a "new normal" for the markets and for investors. Edited excerpts:

What have you done that has accounted for the Total Return Fund's impressive and continued success?

To be fair, the near double-digit returns are a function of falling interest rates more than anything else. It's sort of like a teeter-totter; when interest rates go down, prices go up. So the Total Return Fund, [just] as all bond funds, has done well in part because interest rates have gone down, down, down. We've also outperformed the [investment-grade bond] market by close to 2 percentage points a year. Individual strategies in terms of trading hopefully account for the track record. That leads, I guess, to another question: Can those returns be duplicated going forward?

I imagine that's on a lot of investors' minds. What should they expect?

You start with the obvious: The Federal Reserve has lowered short rates to close to zero. The investment-grade bond market, which includes treasuries and corporates and mortgages, all in one big pot, yields 1¾ percent. It's hard to manufacture near double-digit returns from that. It's the metaphorical concept of squeezing juice out of an orange; almost all of the juice has been extracted, so to speak.

So investors looking for a repeat of historical performance are bound to be disappointed, and that's why I wrote several months ago—which caused a ruckus in the market—about the [dying] cult of equity. It was the same thing with the cult of bonds, the "cult" meaning that there was a belief that historical returns could be projected into the future. They can't. They can't for bonds and they can't for stocks either, in my opinion.

What's your economic forecast for the months and year ahead?

An investor probably has to look forward to higher inflation. Slower growth and higher inflation—that's not a positive, by any means. Individuals would want it to be just the reverse. The de-levering and the check-writing on the part of central banks, that's really what produces the situation.

Are you worried about debt in the United States and Europe?

Slow growth and inflation have a tendency to accompany large deficits and increasing debt as a percentage of GDP. Unless we begin to reverse that course, we could resemble Greece within a decade.

Final Thoughts

I do not foresee the inflation Gross does, at least not yet (and my track record on that score has been quite good). However, my definition of inflation involves credit, not prices.

Regardless of definitions, even if this action is nothing more than another inflation scare, I would not want to sit through the scare for the simple reason yields have a long way to rise before there is any conceivable value in them.

Readers will note that I had generally been bullish on treasuries, but I do not like them now either. There simply is no value, even if the US is back in recession, and especially if the end of QE awaits.

Thus, there is a lot of merit in saying to hell with it all and sitting in cash. Of course I would have said the same thing about munis a year ago. And I would have been overly-cautious then. Am I overly-cautious now?

Regardless, we are currently at a point where being wrong can be extremely costly. And with each drop in yield, the more likely sitting on the sidelines earning nothing is likely to be right.

From my perspective, earning 1.42% on 10-year munis is not worth the risk of being on the wrong side of a major move, whether or not bonds are the only game in town.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

"Wine Country" Economic Conference Hosted By Mish
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10.1.13

Mish's Global Economic Trend Analysis

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