Diminishing Impact of Debt on US Economic Growth

Has the Zero Hour Arrived?

What Economist generally call the "Zero Hour" might have already arrived for the US economy. Debt growth in the US economy is having a diminishing impact on the GDP growth for several years already. Zero Hour arrives when $1 of new debt has no incremental effect on GDP growth of the country.

Statistics for Diminishing Impact of Debt on US Economy

Between the years 2000-2007, nominal GDP growth in the US was $4.2 Trillion. During the same period the total credit market debt grew by $21.3 Trillion. This means that for every $1 increase in GDP,debt of $5 was required.

Thus, $1 debt lead to just 20 cents increase in GDP. In 1966, $1 of debt used to increase GDP by around 90 cents. With so much more debt taken and enormous amount of money printed since 2007 for which I provided the data above, it is very probable that currently $1 increase in debt is contributing almost nothing to GDP increase.

Just to give readers an idea of the pace at which the total credit market debt in the US has increased I have presented a graph below showing the increase in debt and the debt to GDP ratio in the US. In 1980 the debt to GDP ratio for US was around 130%. Currently, it is over 360%. This just gives an idea of how dependent the US economy is on debt.

Total Credit Market Debt Chart

Chart Source: U.S Global Investors (Marc Faber Presentation)


So while the debt growth has an upward trend the chart below which shows the diminishing impact of debt on US economic growth from 1966-2015 shows a sharp downward trend.

Chart Source: Dr. Marc Faber presentation for CFA Society Vancouver (6th March 2009)

According to the chart, Zero Hour, when $1 of new debt has no incremental positive effect on US GDP will be reached in 2015. But, with so much of money already printed and with huge amount of new debt taken and more in the pipeline the Zero Hour might come well before 2015.

Implications of Zero Hour on US Economy:

When additional debt has no positive impact on the GDP then all the incremental debt leads to price increases. In other words, when Zero Hour is reached additional debt will just lead to price increases or inflation.

Will the inflation be far worse then that of the 1970's?

The inflation that is coming in the near future will surely be far worse then that of the 1970's. The US is in huge amount of debt and the only way they can survive is to hyperinflate. When huge amount of money is printed then even huge debts can look small. As it essentially leads to devaluation of each dollar.

So in all the US and also the reat of the world has to be prepared for one of the worst inflations in decades which I feel will come in the next few years.

The Fundamental problem of the US economy:

The problem with the US economy can be explained by one simple data and one chart given below.



The first data shows that consumers as a % of GDP has increased from 66% in 1987 to 73% in 2007. So US primairly is a consumption based economy. In other words if consumption falls then the economy will slump.

The second chart shows the personal savings rate in the US from 1985 till 2007 (Q3). It is very evident that the savings rate has fallen drastically and is close to nothing. Infact there are large number of families in US with negative savings rate.

So its the consumers who are driving the economy and its the consumers who are having a nil to negative savings rate in the US. Clearly its debt which helps drive consumption and this is one of the major problems for the US.

The Best solution for US in this crisis

The best solution for US is to stop consuming and start saving. The personal savings rate should go up. The US should again shift from a consumption based economy to a production based economy. This is the only way to save the great country from getting into deeper trouble.

But if the solution is so simple then why no one implements it?

The reason is that The United States of America does not want to go through a very long and deep recession. The solution given above will lead to a long and very deep recession. But in the long run will lead to a very healthy economy.

But the US is just thinking short term. They just want to delay the inevitable. It is debt which created such a huge problem for then and what they are doing is piling on more debt.

All this is clearly very bad for US and for the world in the long term. But governments are just thinking of the immediate impact and creating blunder after blunder.