Time Machine - 1111 and the US National Debt

INVESTOR PSYCHOLOGY

Recency Bias is the tendency for people to remember recent events more than past events, and to believe that the most recent situation has always been so.  Put another way, people tend to frame their memories based on recent events, and to remember what they want - and likewise, to forget what they want.

I mention all this because it seems like lifetimes ago that the US national debt was not only in control, but people were actually talking about paying it off.  That moment was 11 years, 1 month, and 1 day ago today.

Bill Clinton had just finished his term in the White House, stained by political scandal (ie. the Monika Lewinsky affair).  Many viewed Clinton as a very unpresidential, even embarassing president.  Yet, no one could deny the positive economics of his term.  At the end of the Clinton presidency, the National Debt stood at 5.73 trillion dollars - a relatively small sum for the massive US economy.  After three straight years of budget surpluses, economists were estimating how long it would take to pay off the National Debt completely.

Presidential hopeful Al Gore, for example, outlined an economic plan that would eliminate the National Debt by the year 2012.  When candidate George W. Bush was asked if he had a similar plan, he said that although he agreed with paying off the debt in principal, he would not commit to a specific date.

Soon thereafter, Bush was elected as President.  He immediately began a series of tax cuts for high-income families, which he (and his economic advisors) believed would stimulate the economy so much that the end result would be an overall increase in tax revenues (known as "trickle-down economics."); unfortunately, it didn't work .  Tax revenues declined drastically with each cut.

Bush ran a budget deficit (increasing the national debt) in 7 of his 8 years in office.  In 2003,  he set a record for the largest annual debt increase in US history.  Due to a combination of tax cuts and expensive foreign interventions, by the end of the Bush term the US National Debt had nearly doubled - from $5.73 to $10.69 trillion.

People now talk about the National Debt as if it was meant to be, always was, and always will be.  Many cannot remember the time - not so long ago - when there was talk of the United States of America having no debt at all.

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"I've abandoned free market principles to save the free market system."

George W. Bush, 2008

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United States Loses AAA Credit Rating

Standard and Poors, a once-excellent bond rating agency that now largely ignores economics and instead reflects market sentiment, downgraded the US to a AA+ rating this week. After holding back a big yawn, I took another sip of coffee and went to get a danish.

The Economist magazine said it best (with complete lack of emotion) a few weeks ago: "America's net indebtedness is a perfectly affordable 65% of GDP...the current problems, rather, are political." Yet, this reality has not stopped pundits and game-playing politicians from making it seem like America will go bankrupt tomorrow.

After the US Treasury pointed out that S&P had miscalculated by a couple of trillion dollars while making its decision, S&P responded that they have decided to maintain the downgrade anyway.

Ratings changes are great for business. S&P’s well-timed downgrade will give stockbrokers around the world a fantastic excuse to call their already-flustered clients on Monday to solicit new trades.

Panic and churn!

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Churn (verb):

1) Agitate milk or cream in order to produce butter.
2) Excess trading of a client’s account in order to increase broker’s commissions.

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"If anything, it may change my opinion on S&P."

Warren Buffett, when asked if S&P's debt downgrade will change his opinion about U.S. treasuries.

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