“Higher interest rates create a vicious cycle: escalating costs, increased borrowing, and ultimately burdensome debt.”
– Paul Tudor Jones, October 10, 2023
Feeling the Pinch
The challenges facing an over-leveraged economy amid rising interest rates are extensive and, unfortunately, entirely predictable.
Simply put, as interest rates climb, the cost of borrowing money increases.
A clear illustration of these effects can be seen in car financing. The average monthly payment for a new car has surged to over $750, with interest rates currently hovering around 9.5%. Alarmingly, about 17% of new vehicle loans surpass $1,000 per month.
Homeownership, too, has become significantly more costly. The average 30-year fixed mortgage rate is approximately 7.65%, a steep increase from the less than 2.65% rates seen just a few years prior.
Zillow’s fall housing market outlook reports that “monthly payments for a typical home have escalated by 122 percent over the last three years.”
Additionally, homeowner’s insurance costs have soared. From May 2022 to May 2023, national average insurance rates increased by 21 percent, following a 12 percent rise in the previous year.
As a result, housing affordability is at its lowest point ever. Estimates suggest that incomes would need to rise by 55 percent for housing to be considered affordable.
Moreover, it’s not just individuals facing challenges in financing cars or homes; businesses are equally affected. Rising interest rates are imposing significant burdens on corporate operations, where servicing debt is eating into profits.
To navigate this landscape, companies may need to either cut costs or raise prices for their products and services. While some may successfully adapt, others might find themselves heading toward bankruptcy.
Net Interest Record
The first half of 2023 saw 16 bankruptcies among companies with assets exceeding $1 billion, marking a 45 percent increase compared to the historical average of 11 bankruptcies during the same timeframe from 2005 to 2022, according to Cornerstone Research.
The rising interest rates influencing home, car, and business loans are tightening the grip on the economy. Tuition payments that go unpaid significantly impact the banking sector.
This situation is also straining Washington’s fiscal health. Federal debt has spiraled out of control for decades, and increased interest rates are escalating the annual costs associated with servicing over $33 trillion in federal debt.
In fiscal year 2023, net interest payments by the Treasury reached a staggering $660 billion, surpassing the previous record of $476 billion set in FY2022.
One alarming factor for this net interest crisis is the vast amount of Treasury debt that will need to be refinanced at higher rates in the upcoming year. Approximately $7.6 trillion of publicly held U.S. government debt is set to mature within the next year, needing to be financed under today’s much higher interest rates.
Fundamental Insanity
The fiscal challenges facing the U.S. Treasury can only be described as absurd. There is simply too much debt, and there’s no feasible way to pay it off honestly.
Brian Riedl, a senior fellow at the Manhattan Institute, conducted an analysis revealing a dire outlook.
“Even without any additional spending, Washington is set to borrow $119 trillion over the next 30 years, pushing debt levels toward 200 percent of GDP. Even with the lower interest rates projected by the Congressional Budget Office (CBO), such enormous debt would cause interest payments to become the largest federal expenditure, consuming over one-third of all federal taxes. Any additional borrowing would only exacerbate the situation.”
Yet more borrowing remains the norm in Washington. For FY2023, the federal deficit reached $1.7 trillion, with expectations that interest rates will exceed those projected by the CBO.
The 2-year Treasury note now yields about 5 percent, in stark contrast to just 0.12 percent in February 2021. Thus, the financial insanity Riedl highlighted is likely to become even more pronounced.
As the interest on government debt adjusts upward, taxpayers will increasingly divert a greater portion of their tax dollars to cover net interest payments.
This situation was anticipated by attentive observers, but officials in government found it considerably easier to avoid addressing the growing problem.
Why tackle an issue that may seem distant, potentially deferring it until after their time in office?
How the Dianne Feinstein Effect Wrecked the Future
Take Dianne Feinstein, for example; she served as a U.S. senator for over 30 years. Now, after years of poor decisions, she has passed away.
Feinstein will never be accountable for the full consequences of her actions. Many others, who also show little regard for the future, are well aware that the problems they’ve created will burden future generations.
Names like Joe Biden, George W. Bush, Nancy Pelosi, Chuck Schumer, Donald Rumsfeld (deceased), Mitch McConnell, Harry Reid (deceased), Mitt Romney, Dick Cheney, Donald Trump, Bernie Sanders, Lindsey Graham, Elizabeth Warren, Paul Wolfowitz, Barack Obama, Barney Frank, Chris Dodd, Barbara Boxer, Robert Byrd (deceased), and countless others contribute to this legacy.
“In the long run, we are all dead,” quipped the renowned 20th-century economist, John Maynard Keynes.
This sentiment encapsulated Keynes’ justification for allowing governments to borrow against the future to fuel current growth. It offered a faux academic rationale that permitted Congress to offer rewards without consequences, promises without realities, and growth without sacrifice.
Leveraging a nation’s prosperity through borrowed money at low-interest rates is fraught with risks. While it may provide a facade of wealth in the short term, that facade can crumble, bringing decline and decay. Increasing interest rates only accelerate the fallout of such fiscal irresponsibility.
In contrast to Keynes’ theories, accumulating vast amounts of government debt has failed to deliver sustained improvements in living standards. Instead, it has resulted in stagnant GDP growth paired with rapidly escalating debt and a widening wealth divide.
As Yogi Berra once noted, “The future ain’t what it used to be.”
Ultimately, contrary to Keynes’ assertions, many of us remain alive to grapple with the fallout of a faltering state.
[Editor’s note: In today’s challenging economic climate, innovative investment strategies are essential. Find out how to safeguard your wealth and enhance financial privacy with the Financial First Aid Kit.
Sincerely,
MN Gordon
for Economic Prism
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