September 17, 2012 marked the 225th anniversary of the signing of the US Constitution, and it reminded me of the above quote by Alexis de Tocqueville around 1840, "The average age of the world's greatest civilizations has been 200 years." Now we all know that America is above average, so it is of no surprise that our democracy has lasted 225 years, but how much longer do we have? I recently wrote a piece about our nation's $16 trillion budget deficit. While $16 trillion is clearly a huge number, I failed to include the additional $40 trillion in unfunded Social Security and Medicare obligations. Clearly we have long passed the point of no return, as Tocqueville so eloquently stated 170 years ago,"The American Republic will endure until the day Congress discovers that it can bribe the public with the public's money."
Recently Mitt Romney made some comments that were "not elegantly stated" about 47% of Americans not paying Federal Income Taxes, and 49% of Americans receiving some form of government benefit. While he may not be correct in lumping all of those receiving government support as self-perceived "victims", he is pretty close when it comes to the math.
The Census Bureau stated that 49% of Americans in the second quarter of 2011 lived in a household where at least one member received a government benefit, up from 30% in the 1980's. The data broke down like this:
26.4% receiving Medicaid
16.2% receiving Social Security
15.8% receiving food stamps
14.9% receiving Medicare
4.5% receiving rent assistance
1.7% receiving unemployment benefits
Where Mr. Romney was mostly wrong is that most of these Americans do not perceive themselves as victims, since many paid payroll taxes for decades to qualify for these benefits. But the amount of taxes paid does not come close to covering the benefits promised.
Mr. Romney was more accurate in his statement regarding the nearly half of all Americans that pay no federal income tax. About half of these people pay no federal income tax because they are low-income earners. According to the nonpartisan Tax Policy Center the other half benefit from targeted tax breaks (from both Republicans & Democrats), such as:
- Elderly tax benefits
- Credits for children
- Tax-exempt interest
- Itemized deductions
- Education credits
- Other credits
While political parties and concerned citizens can argue about the value and validity of entitlements, and the structure and fairness of taxes, we can't argue with the math. There is simply not enough revenue under any tax reform to support the tens of trillions in entitlement promises. Simply stated, all politicians (including Romney) realize that their odds of being elected are extremely slim if they tell Americans the truth, that if elected they will take away your current or future benefits/entitlements. The result has become a tax and entitlement web so complex that it is nearly impossible to navigate. Tocqueville's more elegant observation, "Society will develop a new kind of servitude which covers the surface of society with a network of complicated rules, through which the most original minds and the most energetic characters cannot penetrate. It does not tyrannise but it compresses, enervates, extinguishes, and stupefies a people, till each nation is reduced to nothing better than a flock of timid and industrious animals, of which the government is the shepherd."
My lovely wife often admonishes me not to write about politics, but I simply can't help myself, what happens in geopolitics has a profound impact on nearly all investments. It may even be the biggest factor. From an investment perspective, it almost doesn't matter who is elected in November. The entitlement problem is much larger than either man or their parties, and to be truthful I don't believe either party has the stomach to handle the massive reforms that are necessary. Again, you can't get elected by promising to take away benefits.
The election will impact investments, but not that much. A huge portion of any investments return is based on investors beliefs of its future worth. For stocks, we look at what we believe the future value of earnings growth will be. For bonds, we look at what we believe our interest and principal reinvestment might be. For commodities, we look at future demand. All of these investments depend on future economic growth, and the value of our currency in the future. Some politicians may implement policies that foster more robust economic growth, and some politicians may work for a sounder dollar so our investments are worth more in the future. Our current political environment (both parties) does neither.
Since they refuse to govern (make tough choices), our unelected Central Bankers are running the show. Central Bankers don't have nearly enough tools to do an adequate job in spurring economic growth, but they have become very creative in using what they have. One thing that Central Bankers understand (unlike politicians) is math. Since they can't cut spending, and the politicians won't, and since they can't raise revenues, and again the politicians are loath, they are forced to use their one tool...currency devaluation. We are deeply in debt with little hope of paying off these debts. With a total vacuum of leadership in Washington the Fed has taken it upon itself to try and work through the problem. Step one is ZIRP (Zero Interest Rate Policy), which simply transfers money from savers to debtors. Step two is QEternity, which seeks to inflate assets and devalue our currency. If you have $16 trillion in debt and $40 trillion in entitlement promises, you only have a couple of choices. Increase your revenue (Taxes). Drastically cut your spending (yucky Austerity). Default on your debt (unheard of, we're not Mexico, Argentina, Russia, or Greece, are we?). And lastly, devalue your currency via inflation.
Our path is much clearer than it may seem. Devaluing our currency spreads the pain broadly to our creditors, savers, and citizens. At present it is our only option.
I'm Bullish.
I'm bullish on assets that will benefit in an inflationary world with competitive currency devaluations. I'm bullish on gold, oil, and agricultural commodities. I'm bullish on higher yielding securities (they have shorter durations), like REITs, MLP's, and High-Yield bonds. I'm bullish on equities that can pass rising costs on to consumers. I'm bullish on taking out a long-term mortgage.
I'm Bearish.
I'm bearish on assets that can't adjust to increases in inflation. I'm bearish on long-term fixed income (especially sovereign debt like treasuries). I'm bearish on slow growing equities. I'm bearish on companies that need access to the debt markets.
I'm bearish on Democracy.
I'll leave you with one last quote from Tocqueville,
"It is indeed difficult to imagine how men who have entirely renounced the habit of managing their own affairs could be successful in choosing those who ought to lead them. It is impossible to believe that a liberal, energetic, and wise government can ever emerge from the ballots of a nation of servants."
