The United States Debt Cycle - How a Government Under Pressure becomes Suicidal

The global credit crisis is not over. In fact, the effects of government response are slowly coming to light. 2010 started with the European Sovereign Debt crisis which created a smokescreen for the US Dollar. Despite short term positivity that stemmed from stimulus spending, the long term outlook for this country will match Europe's current mess, if not worse. This issue is so unique because even the brightest Economist are still puzzled about how to solve it. There is no right fix for what we created, and the most complex models provide little help. The world is at a gridlock, and leaders are afraid to admit this. Behind the glamorous smiles of politicians lurks the fear of failure. The fear of a glut of problems that will escape as the economy becomes exhausted. Think about it; why did EU officials wait so long to respond? Why did they result to the obvious financial rescue packaged for troubled member countries? No one knows what to do. The question of how to fix debt burden countries will define these next few years. Rich countries under fiscal pressure will result to a band aid fix which will prove to be suicidal by 2012.

The band aid process started during the 2008 recession. The US government implemented a trillion dollar rescue package which included a stimulus package and Wall Street bail outs. The band aid was meant to please the public and mask the true problem of a growing credit crisis. Instead, we focused our attention toward domestic entitlement issues which seemed like the right thing to do during campaign season. When a major crisis hits, all promises should be set aside to tackle the serious problems that require gradual planning.

We are not used to this psychology. Risky companies who borrow during these times will eventually fall into a deep hole of debt and request more. But will the government always be there to forgive? Some say it's up to the economy. This is correct, but if you use this logic then it must be up to the government who has control over the economy. The biggest debtor in the game is the US government. When they fail, we all fail. Just like the credit marketplace -- filled with many players speculating and borrowing with Collatoralized Loan Obligations (CLO). Sound familiar? We are in the midst of another scheme that is so grand, it raises an intense concern of disaster.

Citigroup has entered the market with new CLOs. They are providing risky loans in anticipation of a recovery that will provide a satisfying return on investment. But, you can not ensure a recovery with a government making the same mistakes.

Credit that resulted from both government and corporate borrowing through bonds and loans respectively are due for repayment by 2012. At this point, if the economy does not pick up, companies will require more capital and if they do not receive it, there will be a rise of default and bankruptcies. The government will need to implement another trillion dollar rescue package and thus forcing the economy into a double dip recession. This W shape cycle will continue so long as leaders remain puzzled.

The investors who realize this will profit. It's all about timing; you must enter at the right moment during the peak of the W shape cycle. When that V is apparent during 2010-11 and many are quick to call it a recovery, prepare for that dip. The best strategy is for government to step back from forgiveness, but become more stern about credit.