The Manager's Commentary - June 2011

Is the US in a Greece-y Situation?

Not surprisingly, we’ve fielded a number of questions in recent weeks pertaining to financial conditions south of the border and the impending expiration of the US debt ceiling. Though we are not economists, it is important that we monitor and understand the macro backdrop when building investment portfolios, particularly as this input may pertain to portfolio risk. In evaluating the debt dilemma in the US, most individuals naturally compare that country to their own household or, more recently, to nations such as Greece. From a fiscal perspective, the primary difference between either a family or Greece and the US is that the first two are currency users, while the second is a currency issuer. In other words, for Greece to pay national expenses and debt obligations, it must accumulate Euros created by the European Central Bank (ECB), while a household will seek to earn at least as many dollars as it spends. Because Greece is taking in far fewer Euros through the normal course of trade and economic activity than it is spending, the country has needed to close the gap through a massive bailout from the ECB.

Conversely, as the autonomous issuer of US dollars, it is functionally impossible for the US government to ever be currency constrained; by extension, because all US debt is denominated in greenbacks, it is also impossible for the country to default on its obligations. Rather than a conventional debt default, the risk in the US is that dollars are created at a faster rate than the economy is growing, resulting in a massive devaluation of the currency and, ultimately, domestic hyperinflation (though the US dollar has been weak, its gradual depreciation is more likely reflective of lower expected economic growth relative to countries like China; as well, the recent inflation uptick is being felt globally and not just in the US). Currently, US lawmakers are playing political football with the “debt ceiling”, an artificial construct which has been raised more than 70 times over the last five decades and on 7 occasions during the most recent Bush presidency alone. Though the media is beside itself over US fiscal solvency and the debt ceiling expiration, the final arbiter of their gravity – the US bond market – seems far less concerned, as US treasury yields retreat to new lows.

Dixon Mitchell Investment Counsel
June 30, 2011