Debt Got Us Into Mess, Will Keep Us There

BOSTON (TheStreet) -- Consumer credit caused the recession. And government debt threatens the rebound.

Excessive borrowing by corporations and consumers made a bad situation worse. Massive government spending, projected to double in 2014 from last year, will fuel inflation, pushing up interest rates, and lead to higher taxes.

As the stock-market rally approaches its ninth month, investors must take into account the burdensome effect of debt, the factor most likely to sink the economy. That's why Google(GOOG Quote) and Microsoft(MSFT Quote) may be better choices than General Electric(GE Quote) and IBM(IBM Quote). And gold and tax-exempt securities may prove to be the ultimate havens.

The U.S. has been in this situation before. As the following graph shows, debt dwarfed gross domestic product in fiscal 1945. The peak wouldn't be reached again until 1984, when America first began its sharp climb to the current heady debt level that tops $12 trillion and is projected to soar to more than $18 trillion in five years.

Those gigantic numbers are scary for several reasons. The first is the threat of rampant inflation.

To pay for the assorted bailouts and stimulus packages, the government needed to issue debt, but the Federal Reserve felt pressured to keep interest rates low and leave money in the system to ensure there are affordable loans for businesses and consumers. To accomplish that, the Fed purchased securities from banks in the open market. As a result, the government forced down interest rates in the short term and increases inflation in the long term as newly created money sloshes around in the system.