Trump Avoid Debt Crisis ? “Extremely Unlikely” Says Rickards

The upcoming March 15 US debt ceiling deadline is something that is being largely ignored by markets and most media for now. Despite it being just 9 trading days away. This will change in the coming days and is one of the many reasons why we are bullish on gold.

Source: CNN

James Rickards writing for the Daily Reckoning today looks at the important ‘next signal to watch’ and explains that Trump and his advisors believe they can avoid a debt crisis through higher than average growth.

The Congressional Budget Office, CBO, estimates that inflation and real GDP will each grow at about 2% per year in the coming ten years. This means that nominal GDP, which is the sum of real GDP plus inflation, will grow at about 4% per year. Since debt is incurred and paid in nominal terms, nominal GDP growth is the critical measure of the sustainability of U.S. debt. 

Rickards warns that while this is “mathematically possible”, it is “extremely unlikely”:

“A debt-to-GDP ratio is the product of two parts — a numerator consisting of nominal debt and a denominator consisting of nominal GDP. In this issue, we have focused on the numerator in the form of massively expanding government debt. Yet, mathematically it is true that if the denominator grows faster than the numerator, the debt ratio will decline.

The Trump team hopes for nominal deficits of about 3% of gross domestic product (GDP) and nominal GDP growth of about 6% consisting of 4% real growth and 2% inflation. If that happens, the debt-to-GDP ratio will decline and a crisis might be averted.

This outcome is extremely unlikely. As shown in the chart below, deficits are already over 3% of GDP and are projected by CBO to go higher. We are past the demographic sweet spot that Obama used to his budget advantage in 2012–2016 (As I noted HERE – Obama Has Tied Trump’s Hands).”

Rickards explains in detail the challenges facing the U.S. in terms of the fiscal budget, growth of real GDP, debt to GDP ratios, inflation and how deficits are set to soar.

He points out how Trump will soon appoint five people “to the Fed board of governors in the next 16 months, including a new chair and two vice chairs” and how gold investors should consider these appointments in terms of readjusting their allocations to physical gold:

“If he appoints doves, that will be the signal that inflation in the form of helicopter money and financial repression is on the way. That will also be the signal to move out of cash and increase our allocation to gold beyond the current 10% level.

If Trump appoints hawks to the board, that will be a signal that his team does not understand the problem and is relying on overoptimistic growth assumptions. In that case, we could expect a recession, possible debt crisis and strong deflation. That is a signal to keep our 10% gold allocation as a safe haven, but also buy Treasury notes in expectation of lower nominal rates.

We are watching for a signal on Trump’s nominations to the Fed board. The first three should be announced soon. Once the names and their views are known, the die will be cast.”

We like the theory and the nuance of what Rickards is suggesting here. At the same time, given the scale of the myriad of risks facing investors and savers today, we believe higher allocations to precious metals are merited. These risks come in the form of very ‘toppy’ looking stock and bond markets and digital deposits being vulnerable to currency debasement, cyber warfare and bail-ins.

We believe that 20% to 30% allocations to physical precious metals – gold as the core position, then silver and smaller allocations to platinum and palladium – are merited.

Cyber war and technology risks underline the importance of not owning all one’s assets digitally – especially the safe haven assets of gold and silver. Avoid precious metal platforms where your liquidity is dependent on just one company and their single website interface, their servers, IT people and IT systems.

Being able to sell coins and bars to numerous dealers ensures competitive pricing and all important liquidity – being able to get cash for your bullion whenever you need to. The ability to visit the vaults and take delivery of your bullion at any time is vital in this regard.