Some of you may be familiar with David Stockman’s name. He was Ronald Reagan’s director of the Office of Management and Budget, possibly the most controversial individual to hold that job. He is called by some the “Father of Reaganomics”. Today Mr. Stockman has a post at Brownstone Institute, arguing that the Federal Reserve will need to take much more strenuous steps than those it already has if inflation is to be reined in. In making his argument he cites real return on U. S. Treasuries, Federal borrowing requirements, the Consumer Price Index, the Producer Price Index, and the Commodity Price Index (lots of interesting graphs), but the point that really caught my attention was this one:
Among the many sectors that would be battered is nonfinancial business. Total debt in that sector now stands at $18.54 trillion. That’s up 83% from the already burdensome level of $10.14 trillion outstanding on the eve of the financial crisis in Q4 2007 and is 6X higher than the $3.1 trillion level which prevailed when Alan Greenspan took the helm at the Fed in mid-1987.
More importantly, the debt burden relative to gross value-added of the nonfarm business sector has climbed relentlessly higher for the past five decades. That is to say, American business has levered-up big time.
Nonfarm Business Debt As % Of Gross Business Value Added:
- 1970:64%;
- 1987: 82%;
- 2000: 83%;
- 2007: 92%;
- 2019: 99%;
- 2021: 102%.
In a word, the business sector (corporate and noncorporate combined) is leveraged like never before. Accordingly, when interest rates on term debt double and triple during the Fed’s impending struggle with inflation the impact on profits, cash flows and investment will be powerfully negative.
The possibility that Mr. Stock is attempting to avoid the finger of blame has not eluded me but that’s neither here nor there. I see no prospect for businesses escaping that incredibly mound of debt. What foreseeable revenues could possibly do so?
I have additional questions. What has become of all of that borrowed money? Has it been used for acquisitions? It certainly hasn’t been paid out in dividends.
And why has the return on investment been so poor? Low-hanging fruit already picked? No good prospects for expansion or improvement?
Doesn’t this suggest that there will be a lot of Chapter 11s or even Chapter 13s as the Fed raises interest rates. That isn’t a happy prospect.
Or the Fed will tolerate a much higher level of inflation then its official target (2% average) or what they say to the public.
Don’t forget government debt. But on the other hand; household debt has decreased significantly, from 100 to 75% of GDP.
“Doesn’t this suggest that there will be a lot of Chapter 11s or even Chapter 13s as the Fed raises interest rates.”
I doubt it. I think your concern is misplaced. Rather, look at government entities. The Feds (and really, government’s) mismanagement of interest rates, or more properly the cost of capital, has produced this. And let’s get real. The promise of free beer for everyone is at the root of all this. Blame a slack-jawed and greedy electorate.
“What has become of all of that borrowed money? Has it been used for acquisitions? It certainly hasn’t been paid out in dividends.”
If for acquisitions, why do you care? If not for dividends, why do you care? If for stock buybacks (return of capital), why do you care? If you are a shareholder of any such company make your voice heard through your willingness to buy, sell, or hold your securities.
“And why has the return on investment been so poor? Low-hanging fruit already picked? No good prospects for expansion or improvement?”
Seriously? No good prospects. Government has throttled industry so much with their inane regulations and theories that business has withdrawn like turtles in a shell. Why beat your head against the wall with the Bidens, Schumer’s, Pelosis’ Schiffs………….of the world?
How will they service those debts? Presumably, they can’t just pay them off.
I care because those companies employ real people, many of whom will lose those jobs in a serious downturn.
https://www.investors.com/etfs-and-funds/sectors/sp500-companies-stockpile-1-trillion-cash-investors-want-it/
A trillion in cash. Buffet and Jamie Dimon are of a like mind.
Fears of inflation at record levels, and the smart guys are hoarding what.
Cash?
Could it be that the inflation is really transitory and will be followed by a steep recession that is deflationary?
Or are the smart guys not so smart.