November 2024 Election Update
Greetings,
I hope this note finds you well and fully recovered from the summer and all the recent hurricanes which have caused so much tumult and damage. We are grateful for a return to some normalcy and routine in our lives. All three of our boys are back to playing flag football (and for the first time are on the same team!), golfing whenever the opportunity permits, fall festivals, and the opportunity to visit and catch up with friends after summer vacations.
However, the pending federal election cycle is a far cry from normal. I do not recall such a contested, vitriolic, and divisive period in American politics. I pray and hope that someday I get to vote for someone I genuinely like. With such a contentious race, little attention is being paid to economic and political conditions post-election cycle. However, I think it is vitally important that we look past November and consider the political landscape post-election, because I believe one of the largest economic issues facing our country is directly connected to Washington – the federal debt and deficit, and the rising cost thereof.
I am completely frustrated by the leadership in either political party - by the lack of discussion, consideration, or any action in regard to the debt and deficit. The government has been ‘kicking the can’ down the road for quite a protracted period – more than 20 years. Now, the implications of our current fiscal trajectory are unstainable with major impacts to our economic and financial health. I want to share with you a more in-depth review of what I see as the biggest economic issue and hurdle facing our nation.
It appears that the broader economy is decelerating as the tighter monetary policy of the past two years finally gains traction. The deceleration has taken longer than I anticipated or expected, perhaps due to the unusual nature of COVID-19 lockdowns and reopening, along with the massive amount of monetary stimulus during the pandemic. The strength of the economy in general has certainly exceeded my expectations. What I find so disconcerting is that our political leadership continues to expand the federal budget deficit in what have previously been very good economic conditions with low unemployment, leaving little room to accommodate an economy that will not always be this resilient. To put this in historical perspective, according to the research of First Trust Advisors, there is no other year in U.S. history where in the absence of a major full-mobilization war (like World Wars) or a major recession and its immediate aftermath, when the budget deficit was so large (Monday Morning Outlook, September 2024). In other words, in my opinion, there is simply no excuse for running a deficit this large given the lack of a major war and the absence of a recession.
This year, the budget deficit for the federal government should be about $1.9 trillion, which is 6.7% of the gross domestic product (GDP). According to First Trust Advisors, five years ago, the deficit was 4.6% of GDP – so we have experienced approximately 50% growth in debt to GDP in five years. Some would argue that this is simply because the federal government has collected less revenue over the last five years, so the ratios are higher. This is simply not true. In the past five years, revenue as a share of GDP has risen to 17.2% from 16.3%. Their research shows that revenues were $3.5 trillion in 2019 and this year, they total $4.9 trillion, or $1.4 trillion higher (Monday Morning Outlook, September 2024). We have a spending problem, not a revenue problem.
Turning to the existing federal debt, the total indebtedness of the nation is approximately $35 trillion and currently rising by roughly $2 trillion every year as indicated by First Trust Advisors (Monday Morning Outlook, October 2024). While that is a daunting figure, I am most concerned with the net interest cost of that debt relative to GDP. Think about it like a national mortgage payment relative to national income. This growth in the net interest on the federal debt has been astounding. Their research shows that back in 2019, net interest was 1.8% of GDP. This year, it should be around 3.1% of GDP, which would be the highest share since 1995 (Monday Morning Outlook, September 2024). This recent surge in the interest on the national debt can have large effects on government policy. Our Stifel CIO office outlines how this year, the Congressional Budget Office (CBO) estimates that our net interest cost will be approximately 16% of tax revenue, 12% of our spending, and 35% of our discretionary spending (Sightlines, October 18, 2024).
For a historical perspective, First Trust Advisors indicated how net interest costs relative to GDP between 1982 and 1998 hovered between 2.5% and 3.2%. At this level, politicians also felt the pain. Both the Republican and Democratic parties enacted policies that led to budget surpluses, and interest costs relative to GDP plummeted. Between 2002 and 2022 the interest burden averaged roughly 1.5% of GDP and stayed between 1.2% and 1.9% of GDP (Monday Morning Outlook, October 2024).
This most recent period between 2002 and 2022 was truly a “Goldilocks” economic environment with unprecedented growth and persistently low inflation and interest rates. Their research discusses how this environment allowed our political leaders to cut taxes repeatedly – in 2001, 2003, and again in 2017. In 2004 the U.S. added a prescription drug benefit to Medicare. In 2010, with Obamacare, the U.S. enacted the first major expansion of entitlements since the 1960s – not by coincidence, another period when the interest burden on the debt was low (Monday Morning Outlook, October 2024).
However, Goldilocks economics has come to an end for a myriad of economic reasons – partially attributable to current political environment of not being fiscally responsible. First Trust Advisors indicate how in the 12 months ending in March 2021, net interest totaled $315 billion and in the past 12 months, it’s totaled $872 billion. That gives us an increase of 177% in less than four years.
Their research also outlines how a big part of the problem is that the Federal Reserve (Fed) was holding interest rates artificially low. The Treasury Department could have issued long-dated debt to lock in lower interest rates for longer. But like homebuyers between 2004-2007, they borrowed at short-term rates, which were even lower and that meant more room in the budget to spend, spend, spend (Monday Morning Outlook, October 2024).
High inflation finally forced the Fed to raise interest rates back to normal levels. Unfortunately, this inflation only represents part of the problem. I believe that the bigger, long-term problem is that by holding rates artificially low, the Fed fooled politicians into believing the cost of deficits was minimal. Hopefully, America will look back on this period and realize that Fed policy and all that spending was a mistake.
Consumers, businesses, and our government need to face the realities of a higher-for-longer interest rate environment after a buildup of debt during the Goldilocks era. The bottom line is that the U.S. faces large structural budget challenges in the years ahead, particularly on the spending side. With low interest rates in the past 20 years, we had the chance to avert our eyes from the problem, but we are running out of time. No matter who is elected in November, getting our fiscal house in order will eventually become a major policy theme of the next Administration as well as those beyond.
As always, thank you for your trust and confidence. If you have any questions, or we can be of assistance in any matter, please do not hesitate to reach out.
Best personal regards.
Erik M. Melville, CFP®
Senior Vice President/Investments
I hope this note finds you well and fully recovered from the summer and all the recent hurricanes which have caused so much tumult and damage. We are grateful for a return to some normalcy and routine in our lives. All three of our boys are back to playing flag football (and for the first time are on the same team!), golfing whenever the opportunity permits, fall festivals, and the opportunity to visit and catch up with friends after summer vacations.
However, the pending federal election cycle is a far cry from normal. I do not recall such a contested, vitriolic, and divisive period in American politics. I pray and hope that someday I get to vote for someone I genuinely like. With such a contentious race, little attention is being paid to economic and political conditions post-election cycle. However, I think it is vitally important that we look past November and consider the political landscape post-election, because I believe one of the largest economic issues facing our country is directly connected to Washington – the federal debt and deficit, and the rising cost thereof.
I am completely frustrated by the leadership in either political party - by the lack of discussion, consideration, or any action in regard to the debt and deficit. The government has been ‘kicking the can’ down the road for quite a protracted period – more than 20 years. Now, the implications of our current fiscal trajectory are unstainable with major impacts to our economic and financial health. I want to share with you a more in-depth review of what I see as the biggest economic issue and hurdle facing our nation.
It appears that the broader economy is decelerating as the tighter monetary policy of the past two years finally gains traction. The deceleration has taken longer than I anticipated or expected, perhaps due to the unusual nature of COVID-19 lockdowns and reopening, along with the massive amount of monetary stimulus during the pandemic. The strength of the economy in general has certainly exceeded my expectations. What I find so disconcerting is that our political leadership continues to expand the federal budget deficit in what have previously been very good economic conditions with low unemployment, leaving little room to accommodate an economy that will not always be this resilient. To put this in historical perspective, according to the research of First Trust Advisors, there is no other year in U.S. history where in the absence of a major full-mobilization war (like World Wars) or a major recession and its immediate aftermath, when the budget deficit was so large (Monday Morning Outlook, September 2024). In other words, in my opinion, there is simply no excuse for running a deficit this large given the lack of a major war and the absence of a recession.
This year, the budget deficit for the federal government should be about $1.9 trillion, which is 6.7% of the gross domestic product (GDP). According to First Trust Advisors, five years ago, the deficit was 4.6% of GDP – so we have experienced approximately 50% growth in debt to GDP in five years. Some would argue that this is simply because the federal government has collected less revenue over the last five years, so the ratios are higher. This is simply not true. In the past five years, revenue as a share of GDP has risen to 17.2% from 16.3%. Their research shows that revenues were $3.5 trillion in 2019 and this year, they total $4.9 trillion, or $1.4 trillion higher (Monday Morning Outlook, September 2024). We have a spending problem, not a revenue problem.
Turning to the existing federal debt, the total indebtedness of the nation is approximately $35 trillion and currently rising by roughly $2 trillion every year as indicated by First Trust Advisors (Monday Morning Outlook, October 2024). While that is a daunting figure, I am most concerned with the net interest cost of that debt relative to GDP. Think about it like a national mortgage payment relative to national income. This growth in the net interest on the federal debt has been astounding. Their research shows that back in 2019, net interest was 1.8% of GDP. This year, it should be around 3.1% of GDP, which would be the highest share since 1995 (Monday Morning Outlook, September 2024). This recent surge in the interest on the national debt can have large effects on government policy. Our Stifel CIO office outlines how this year, the Congressional Budget Office (CBO) estimates that our net interest cost will be approximately 16% of tax revenue, 12% of our spending, and 35% of our discretionary spending (Sightlines, October 18, 2024).
For a historical perspective, First Trust Advisors indicated how net interest costs relative to GDP between 1982 and 1998 hovered between 2.5% and 3.2%. At this level, politicians also felt the pain. Both the Republican and Democratic parties enacted policies that led to budget surpluses, and interest costs relative to GDP plummeted. Between 2002 and 2022 the interest burden averaged roughly 1.5% of GDP and stayed between 1.2% and 1.9% of GDP (Monday Morning Outlook, October 2024).
This most recent period between 2002 and 2022 was truly a “Goldilocks” economic environment with unprecedented growth and persistently low inflation and interest rates. Their research discusses how this environment allowed our political leaders to cut taxes repeatedly – in 2001, 2003, and again in 2017. In 2004 the U.S. added a prescription drug benefit to Medicare. In 2010, with Obamacare, the U.S. enacted the first major expansion of entitlements since the 1960s – not by coincidence, another period when the interest burden on the debt was low (Monday Morning Outlook, October 2024).
However, Goldilocks economics has come to an end for a myriad of economic reasons – partially attributable to current political environment of not being fiscally responsible. First Trust Advisors indicate how in the 12 months ending in March 2021, net interest totaled $315 billion and in the past 12 months, it’s totaled $872 billion. That gives us an increase of 177% in less than four years.
Their research also outlines how a big part of the problem is that the Federal Reserve (Fed) was holding interest rates artificially low. The Treasury Department could have issued long-dated debt to lock in lower interest rates for longer. But like homebuyers between 2004-2007, they borrowed at short-term rates, which were even lower and that meant more room in the budget to spend, spend, spend (Monday Morning Outlook, October 2024).
High inflation finally forced the Fed to raise interest rates back to normal levels. Unfortunately, this inflation only represents part of the problem. I believe that the bigger, long-term problem is that by holding rates artificially low, the Fed fooled politicians into believing the cost of deficits was minimal. Hopefully, America will look back on this period and realize that Fed policy and all that spending was a mistake.
Consumers, businesses, and our government need to face the realities of a higher-for-longer interest rate environment after a buildup of debt during the Goldilocks era. The bottom line is that the U.S. faces large structural budget challenges in the years ahead, particularly on the spending side. With low interest rates in the past 20 years, we had the chance to avert our eyes from the problem, but we are running out of time. No matter who is elected in November, getting our fiscal house in order will eventually become a major policy theme of the next Administration as well as those beyond.
As always, thank you for your trust and confidence. If you have any questions, or we can be of assistance in any matter, please do not hesitate to reach out.
Best personal regards.
Erik M. Melville, CFP®
Senior Vice President/Investments