Crude oil prices are on a rampage — busting through the $40 barrier early last week … closing at a new record high of $41.38 per barrel in New York on Friday … and surging still further this morning to $41.93 for U.S. light crude, the highest price since the New York mercantile exchange began trading the contract in 1983.
Meanwhile, Treasury bond prices are in a free fall, driving long-term interest rates to the highest level since the summer of 2002. Many corporate bonds, municipal bonds, and foreign bonds are taking an even bigger shellacking, pushing up their interest rates even more quickly.
Why? Because we are now witnessing fatal collisions of supply and demand in the two most critical elements of modern society — energy and debt.
ENERGY
Demand is rising virtually non-stop — from America’s love affair with gas-guzzling SUVs, from the Chinese zeal to grow a modern economy, and from the competitive growth frenzy that has spread to nearly every nation on the planet.
Meanwhile, supplies are so tight that any major disruption — in Iraq, Saudi Arabia, or in one of a dozen major producing nations — could create an out-of-control buying stampede by investors and speculators.
But those who think surging oil just adds a few bucks to their gas bill — or shaves just a half percentage point off of GDP — had better wake up and smell the coffee.
This morning, in response to the oil price surge, foreign stock markets are diving into a free fall — Hong Kong is down the equivalent of 274 points on the Dow Jones Industrials … Japan’s Nikkei, down the equivalent of 318 … Singapore, 311 … South Korea, 514 … Indonesia, 750 … and India, responding both to the oil crisis and its elections, has just plummeted today by the equivalent of 1,114 points on the Dow.
The surging cost of crude oil imports drove the U.S. trade deficit to $46 billion in April, even before the latest price surge. The oil markets are destabilizing world currency markets, world commodity markets, and, perhaps most important of all, the worldwide market for ….
DEBT
Right now, the demand for debt — by the U.S. government, by consumers, and by businesses — is out of control. The supply, meanwhile, is diminishing rapidly as investors recoil in horror from the prospect of getting paid back in cheaper dollars because of inflation.
This affects you directly in the pocketbook — in more ways than one. It drives up the rate you pay on mortgages, auto loans, credit cards, and all other debts. It threatens the value of virtually every asset in your portfolio. And it has the potential to puncture the entire housing bubble in America.
Indeed, surging interest rates are the single most powerful economic force in the world economy today — for the simple reason that everyone, without exception, is heavily reliant on debt, either directly or indirectly.
The world’s debt markets are far larger than the totality of all stock markets, and yet, ironically, most people don’t know what they are or how they operate.
How much is really involved? What are the implications for you and your financial future? How will this be impacted by surging oil prices? For an answer, let me take you back a few years.
NEGLECTED RESEARCH
To my knowledge, back in the 1940s and ’50s, no one in the United States was keeping tabs on the total amount of debt piling up in America. But my father, J. Irving Weiss, was.
With great care and discipline, he faithfully maintained two giant spreadsheets.
On one side of the spreadsheet, he kept track of WHERE new money was coming from each quarter to finance all the new debts in the country — from banks, S&Ls, savings banks, insurance companies, and investors.
On the other side, he tabulated WHO was getting the new financing — households, businesses, local governments, the federal government, and others.
Then, to double check his figures, he added up all the totals on each side of the equation — like a giant balance sheet. If his totals for lending and borrowing matched, he figured his estimates were generally on target.
His second giant spreadsheet was set up the same way. But instead of the net new debts ADDED each quarter, he used this sheet to keep a running total of the ACCUMULATION of debts in the country.
Dad called his research the “flow of money and credit,” and later, he started a bi-weekly newsletter with a similar name — “Money & Credit Reports.” He even visited his friend, William Machesney Martin, then chairman of the Federal Reserve, to suggest that the Fed set up a division devoted to this kind of research. But Martin said they were too busy with other projects.
One day, many years later, I happened to notice that Dad had neglected to update his spreadsheets for several months, and I asked him why.
“Because I don’t have to any more,” he replied with a mix of pride and relief. “The Fed’s finally doing it now — more efficiently than I could have ever done it on my own. It doesn’t matter who gets credit for the idea. The main thing is it’s absolutely vital for SOMEONE in this country to monitor these debts closely. Otherwise, they could one day grow into a monster.”
The Federal Reserve called it the “the Flow of Funds,” and they’ve kept it up to date ever since.
But, unfortunately, that diligent monitoring effort has done absolutely nothing to slow down its growth.
Result: Today, the Flow of Funds is easily among the most vital — and the most neglected — research in America today … but the figures they’re tracking represent …
THE GREATEST DEBT
MONSTERS OF ALL TIME
To see them for yourself, go to
http://www.federalreserve.gov/releases/z1/current/annuals/a1995-2003.pdf
Give the document a few minutes to download — it’s quite large. Then take a quick look at the table of contents. If you do, you’ll see the report is organized more or less along the same lines as my father’s old spreadsheets.
Like Dad, they look at the debts from two different perspectives:
* who’s providing the financing, and
* who’s getting the financing.
And like Dad’s two spreadsheets, they have two separate sections in their report:
* one for the “flows” — the new debts added in each period, and
* one for the “levels” — the accumulation of debts in this country.
Next, with your scroll bar, go down to page 52 in their report (page 57 of the .pdf file). At the top of the page, you should see Table L4, “Credit Market Debt, All Sectors, by Instrument.”
This table is the single best representation of the great debt monsters in America today. And, just in case you’re having trouble downloading the entire Flow of Funds report, here are the critical items this table contains …
| Debt monster | Size on 12/31/03 |
| Open market paper | $ 1,293.1 billion |
| U.S. government securities | 10,104.2 |
| Municipal securities | 1,899.4 |
| Corporate and foreign bonds | 6,840.4 |
| Bank loans n.e.c. | 1,292.4 |
| Other loans and advances | 1,514.7 |
| Mortgages | 9,465.4 |
| Consumer credit | 2,039.7 billion |
| Total | $ 34,449.2 billion |
Each of these items represents a giant debt monster in its own right. Consider the largest two:
U.S. GOVERNMENT SECURITIES: $10,104 billion ($10.1 trillion). You’ve probably heard that the federal debt is only $6 trillion. So what accounts for the extra FOUR TRILLION dollars in U.S. government securities outstanding? It’s all of the government-sponsored agencies, which, according to former Federal Reserve Chairman Volker, might one day wind up back in the lap of the federal government.
Big problem: With interest rates rising, the government is going to have to roll over these debts at a higher and higher interest rate, incurring bigger interest costs, and adding still more to the federal debt.
MORTGAGES: $9,465 billion ($9.5 trillion). As you can see, this is almost as big as the total government debt itself, raising two critical questions:
First, who has gotten most of the money from these mortgages? According to another table in the Flow of Funds, it’s not commercial real estate owners. They owe only $1.5 trillion. Nor is it multi-family dwellings, who owe only about a half trillion. And it certainly isn’t farmers, who owe a meager $132 billion on their mortgages.
The big debtors are — you guessed it — the owners of single-family homes, who owe a grand total of $7.3 trillion on their mortgages. That’s more than the total amount of U.S. Treasury securities outstanding. And it’s one heck of a debt burden, especially when you consider surging oil prices and soaring interest rates.
If these families had plenty of equity in their homes to back up this debt, it might be OK. But, alas, nothing could be further from the truth: Despite the steep rise in home values over the year, the average equity in each home today is near the lowest in a century.
Second, who’s holding all these home mortgages? The answer is on page 86 of the Flow of Funds (page 91 in the pdf file), where you’ll find …
Table L. 218 “Home Mortgages.”
In it, you’ll see that the biggest single lenders, by far, are a category called “Federally related mortgage pools,” holding a whopping $3.4 trillion in mortgages. That’s more than all the commercial banks, savings and loans, and credit unions in America put together.
How many of these entities are there? Essentially only two: Fannie Mae and Freddie Mac.
But both are mired in accounting scandals, both are poorly regulated, and both are effectively holding the destiny of America’s entire housing market — and entire economy — in their hands.
If energy prices weren’t going through the roof, these very worrisome fundamental weak spots in our economy might never surface. Or, if energy prices did not drive up inflation and interest rates, it may also not be such a serious concern.
But alas, all three of these phenomena — surging oil, soaring interest rates, and the greatest debt pyramids of all time — are directly linked in a chain of events that are just now beginning to unfold.
Brace yourself.
Get to safety.
Keep your cash short term.
All the chickens I’ve been warning you about are now coming home to roost.
Good luck and God bless!
Martin
Martin D. Weiss, Ph.D.
Editor, Safe Money Report
Chairman, Weiss Ratings, Inc.
