When will the debt bubble burst?

What’s ahead for 2012?

We gave you a hunch yesterday. The price of gold will probably go nowhere this year.

We have a feeling that 2012 is not going to be a great year for money you get from the ground. Oddly, it will probably be a better year for the money you get from trees.

How is that possible? We all know paper money is going to be worthless. Yes…dear reader…but not necessarily in 2012. It’s just part of the curious way Mr. Market does business…and a feature of his nasty habit of ruining as many investors as possible.

Look, it’s pretty simple. The private sector debt bubble blew up in 2008. The public sector debt bubble will blow up too. Maybe in 2012. Most likely not for a while longer. But when US debt begins to blow up, the feds will come in with everything they’ve got trying to stop it.

And all they’ve got is a printing press. Ben Bernanke:

…the US government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many US dollars as it wishes at essentially no cost. By increasing the number of US dollars in circulation, or even by credibly threatening to do so, the US government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation.

Positive inflation is the feds’ answer to a debt blow-up. They have no other answer… When bond buyers refuse to roll over US debt at reasonable rates, the Fed will use its printing press. The resulting “positive” inflation will blow up the world’s monetary system as well as government debt. Gold will be the about the only money left.

So, we should just buy gold…and avoid US dollar-denominated debt, right?

Hold on. Mr. Market doesn’t make it that easy. Our guess is that he’s going to lure trillions more dollars into the US debt market…and then blow the whole thing sky high.

Just look what happened last year. Bloomberg tells us that stocks worldwide lost 12% of their value. But bonds actually went up…about 6%. And there’s a good chance that the same thing could happen in 2012. Stocks down. Bonds up.

Stocks won’t be cheap until they are about half today’s prices. So they have a long way to go.

When stocks go down, investors will go into the US bond market looking for shelter. This will drive down yields and drive up prices. And bonds — judging from Japan’s example — can keep edging upward for a long time. Especially now that everyone thinks US debt is 100% safe.

And the worse things get, the more people want the safety of US Treasury debt. That was the lesson of 2011.

Like people buying houses in 2005…investors will buy bonds and think they are geniuses — for a while.

The feds are already running into the limits of their ability to borrow. Here’s the Bloomberg story:

Governments of the world’s leading economies have more than $7.6 trillion of debt maturing this year, with most facing a rise in borrowing costs.

Led by Japan’s $3 trillion and the US’s $2.8 trillion, the amount coming due for the Group of Seven nations and Brazil, Russia, India and China is up from $7.4 trillion at this time last year, according to data compiled by Bloomberg. Ten-year bond yields will be higher by year-end for at least seven of the countries, forecasts show.

Investors may demand higher compensation to lend to countries that struggle to finance increasing debt burdens as the global economy slows, surveys show. The International Monetary Fund cut its forecast for growth this year to 4 percent from a prior estimate of 4.5 percent as Europe’s debt crisis spreads, the US struggles to reduce a budget deficit exceeding $1 trillion and China’s property market cools.

The amount needing to be refinanced rises to more than $8 trillion when interest payments are included. Coming after a year in which Standard & Poor’s cut the US’s rating to AA+ from AAA and put 15 European nations on notice for possible downgrades, the competition to find buyers is heating up.

Borrowing costs for G-7 nations will rise as much as 39 percent from 2011, based on forecasts of 10-year government bond yields by economists and strategists surveyed by Bloomberg in separate surveys. China’s 10-year yields may remain little changed, while India’s are projected to fall to 8.02 percent from 8.36 percent. The survey doesn’t include estimates for Russia and Brazil.

The world’s economic knees are beginning to buckle. Higher borrowing costs reduce the fiscal support governments can give to their economies. “Austerity” becomes less of a choice and more of a necessity. Europe is already in recession. America is probably not far behind.

The feds may have to turn to the printing press sooner than we thought.

***Who’s number one?

Depends on what you mean.

Who’s number one in steel production? China.

Who’s number one in mobile phones? Well…China again.

Who’s number one in manufacturing output? That would be China too.

How about car sales? China!

How about exports? China.

Patents granted? China.

Energy consumption? China

Fixed investment? China

The Economist:

The country that invented the compass, gunpowder and printing is also challenging America in the innovation stakes. We estimate that in 2011 more patents were granted to residents in China than in America. The quality of some Chinese patents may be dubious but they will surely improve. The World Economic Forum’s “World Competitiveness Report” ranks China 31st out of 142 countries on the quality of its maths and science education, well ahead of America’s 51st place. China’s external financial clout also beats America’s hands down. It has total net foreign assets of $2 trillion; America has net debts of $2.5 trillion.

Wait a minute, the US must be number one in something.

Yes, dear reader, we can hold our heads up high. We are still number one in zombies. When it comes to consuming, rather than producing…we’re in the lead. Out in front. We buy more and import more than anyone.

And we’re way ahead on the most zombie industry of all — the military. Heck, China won’t catch up with us on military spending until 2025, estimates The Economist.

Then what? What will happen when China spends more on its military than the US? Hmmm….

We’re not going to think about it. Too far in the future. Here at The Daily Reckoning we take it one day at a time. Day after day…we follow the news. Day after day, we try to make sense of it…we squint and try to see what is going on. And day by day, we think we see it more clearly. It is like the early morning. In the half light we can barely make out the shapes. A house in the distance could be a small hillock. A tree could be a cloud on the horizon. And what is that moving…?

Then, the light comes and the figures become more distinct…2012 comes into focus…

…and then it grows dark again.

Regards,

Bill Bonner
 for The Daily Reckoning