Will the Debt Filled Dam Burst?

Stock investment analysis

The Netherlands is surrounded by water. Most of the country is lower than the sea level. The Dutch have long resorted to building dikes to reclaim more land from the sea and keep the water out. If any of these walls broke, water would cover everything, and much of the country would soon disappear.

Everyone in the country knows how important the dikes that surround them are. They are dependent on them for their protection.

There is a popular children’s story called The Little Dutch Boy that illustrates this fact.

Hans was a little Dutch boy.  One day, on his way to school, he discovered a small hole in one of the dikes. Sea water was slowly sifting through it.

And as he watched the hole, water kept trickling through at a faster pace — the hole was getting bigger under his eyes.

He knew that if he went to get help, the hole would quickly give way and flood the town.

He didn’t know what to do. He looked around, but he was all alone.

So he put his little finger on the hole. And he realized that it covered the hole perfectly. Water wasn’t getting through anymore.

He was late for school, but he didn’t care. He had to save his town.

After some time, people came looking for him. And they were able to fix the dam.

Hans was forever known as the little boy who saved the country.

The story aims to teach two lessons: the importance of acting quickly and how a small problem unattended can soon turn into a catastrophe.

Like water sifting through a hole in a dam, debt levels to GDP around the world have been increasing exponentially. And the world has become progressively dependent on this debt to fuel growth.

Low interest rates have allowed for cheap credit. And as countries keep on raking in debt and flirting with deflation, they are risking stability. You see, high debt leaves them exposed to shocks.

Australia has also seen a huge surge in its debt, even though it has not had a recession for 25 years. In 2008, Australia avoided the global financial crisis and restored confidence by printing money, issuing a deposit guarantee and lowering interest rates. These actions are the main factors for the increase in debt.

Now, with interest rates at historic lows, debt cannot really get much cheaper. Yet inflation is not happening. And apart from increasing debt levels to record highs, in Europe it’s also creating a risk of deflation. That will leave more countries exposed to shocks. Someone is bound to default soon — just as Argentina did in 2001, and Greece in 2015.

It seems like interest rate cuts are not really effective anymore. People do not want any more debt — even at cheap rates.

The current accumulation of debt has reached unprecedented levels — no one has acted quickly enough to stop it. And it has resulted in the longest period of low or negative interest rates in history.

The Central banks will most likely be cutting rates once again after the Brexit debacle. Continuing to make debt cheaper — and increasing the hole.

So where do we go from here? We need to urgently abandon the debt fuelled growth model —or risk the debt filled dam bursting.


Selva Freigedo,
For The Daily Reckoning

PS: Selva recently joined the Port Phillip Publishing team as our macroeconomic analyst. She works closely with The Daily Reckoning editor Vern Gowdie on his advisory service, The Gowdie Letter.

Selva Freigedo

Selva Freigedo

Selva Freigedo

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