Pundits bemoan the fact that America's official personal saving rate turned negative nearly two years ago, and has headed south ever since. Americans aren't saving. Worse still, we're allegedly drowning in debt on a personal level; and, on the national level, the government has profligate spending plans to drive the federal saving rate deeper into negative territory than ever before.

Most people are horrified about this. Americans have a near-religious aversion to debt. We agree that debt is bad, and lots of debt is downright immoral. Almost no one would say debt is good--unless he or she wants to be seen as a mentally infirm charlatan with malicious intent. Call me what you will. Debt is good.

Last fall (Financial Planning, November 2006), I showed you how to use the questions from my book, The Only Three Questions that Count, to debunk the fear that big federal budget deficits are bad for the economy and for stocks. In fact, by using the first of my three questions--What do you believe that's actually false?--I showed that big budget deficits are actually great for the stock market. Historically, big deficits are followed by stock-market returns that are dramatically superior to those following surpluses--for as long as 36 months out.

Still, it may be hard to fathom why budget deficits are good, since they add to our overall debt. But if you use the second question--What can you fathom that others find unfathomable?--you'll see that deficits are good because debt is good. Debt is so good, we could use much more of it. Just reading that sentence may enrage you. But anger is usually twisted fear, which can be addressed by my third question: What is your brain doing to blindside you now? The key is to untwist the fear to see reality better so we can make better stock-market bets.

PAYING IT FORWARD

Consider this: Do folks fret when GE or Apple incur debt? Hardly. Most rational people understand that corporations use debt responsibly all the time to grow, invest in research and develop cool new iterations of the iPod. We don't worry about corporations. We worry about addicts who can't control themselves and rack up credit-card debt buying designer handbags and random electronic devices like those cool new iPods.

To some, even worse and slightly stupider than a credit-addicted iPod collector is the government. But if that's so, why do federal budget deficits lead to such rosy stock returns? Deficits add to government debt, which everyone agrees is bad. Yet we've gone through periods in the 1940s, 1950s and 1990s when the country racked up as much or more debt as a percentage of GDP as we are running up now. These decades were perfectly grand for our economy and market--so we know debt doesn't have to be problematic. What can we fathom about debt that others can't?

Here's what: When money is borrowed--whether by a heroin addict, credit-card junkie, Steve Jobs or the Governor of California--it's as if that money were newly created. American money, created through a loan, changes hands six times on average in its first year of existence. The rate at which money changes hands is known as the velocity of money.

So, consider the worst case: a heroin addict. When an addict borrows money, he might stupidly buy drugs with some of it. But with the remainder, he might buy groceries and a new cell phone. The grocery store uses the heroin addict's money to pay for produce, electricity and employee salaries. The recipients take their money and spend it again--normally, not stupidly. The phone store manager does the same thing with the cell-phone money. The addict's dealer may spend part of his money to replenish his drug inventory, but he also pays rent for his fleabag apartment and maybe some salaries for druggy underlings. And everyone who receives the money, whether a slumlord, utility company or organic farmer, benefits from the borrowed and spent money. They spend the money again, and as it gets spent, it all averages out to be normal, and it all drives our economy. We're better off for the last five spends even if the first one is stupid.

It's the same when the government--local, state or federal-borrows money. The government borrows money to build a bridge that three people and a moose will use at rush hour. Yes, it's dumb. Yes, GE or Apple or even the heroin addict wouldn't make such a stupid first spend. But the money borrowed for the bridge passes to contractors and cement companies. Maybe some of it goes to the local government in the form of permits and other bureaucratic nonsense. But the local government takes the money and spends it again--on employees, street lamps and so on. Even when politicians borrow money and just hand it over to heroin addicts--it's better that the money was borrowed and re-spent five times than never borrowed at all.

So, by fathoming the velocity of money, and how borrowed money gets spent and drives our economy, you can see that debt is not immoral. In fact, debt is a necessary part of capitalism--and capitalism is the ultimate good, the most holy "ism."

HOW MUCH DEBT?

Here's an even more unfathomable question: What amount of debt is right for our society? Most folks won't ask this because they assume all debt is bad. But if zero debt isn't a goal, there must be some correct level. How do you calculate that level? Just like a corporation would. In economic theory, profit maximization occurs when marginal costs equal marginal revenue (sales). Nothing new or racy here--you can get that from any introductory microeconomics textbook. In other words, when the borrowing cost (the interest rate) almost equals the return on assets, we'd have borrowed just enough to plow money back into profitable assets to increase societal wealth at an optimal level. We'd have borrowed all we could profit from, and no more.

It's all about return on assets. If return on assets is low relative to borrowing costs, less debt is in order. But if return on assets is much higher than our borrowing cost, we're under-indebted, not over-indebted--and, in a sense, depriving society of greater wealth. Now, that's immoral!

OUR OPTIMAL DEBT

Is the U.S. over- or under-indebted? Since we have total assets of about $120 trillion (according to the Federal Reserve Flow of Funds Account) and a GDP of $13 trillion, our return on assets is 11% after taxes--that's very high. A current fair estimate of borrowing cost is about 6%, or 4% after taxes--much less than our return on assets. We're not over-indebted. Instead, we're falling far short of profit maximization--immorally so!

This is true in theory, but the ultimate proof is the stock market. As we mentioned earlier, the data from my November article showed that budget deficits lead to good stock returns and surpluses lead to bad ones--12, 24 and even 36 months out. This is not a bizarre statistical anomaly. Rather, it's the free market pricing in the deficit--which adds to our debt when we are under-indebted and moves us closer to optimality. Conversely, a budget surplus when we are under-indebted moves us in the wrong direction, and the market doesn't like that.

We shouldn't reduce debt. In fact, we need more debt--even from stupid borrowers. The right level of debt would be when we've borrowed enough to drive interest rates up, the return down, or a combination of both. Then, we'll be optimal. But we're far from that. The U.S. has $55 trillion in debt of all types--mortgages, car loans, local and federal, according to the Federal Reserve Flow of Funds Accounts. I would argue that tripling all these types of debt would probably get us close to profit maximization and increase wealth for society. Imagine what we could invest in!

Even those who can accept debt as good might be worried because some of our debt is held by foreigners--the Chinese, for example. Many Americans worry that our indebtedness lessens our ability to set an independent foreign policy and influence other nations. But, since we are under-indebted, being in debt to anyone--the Chinese or the French--is good, not bad.

Xenophobes fret that if foreigners suddenly stopped buying our debt, the bottom would fall out of our economy. This is a baseless, media-fueled fear. Remember when we all fretted about the Japanese snapping up U.S. assets in the 1980s? What happened? Nothing terrible. Just the reverse! The U.S. had above-average growth and market returns, while the Japanese economy stagnated. Moreover, why would the Chinese and other foreigners suddenly stop buying our debt? Foreigners voluntarily invest here because they believe they can get a better and safer return in the U.S. than in other countries. It's an investment decision, pure and simple. Think about your own portfolio: You put the money where you have the greatest likelihood of achieving your goals.

SWIMMING IN CASH

You may still raise the spectre of tapped-out U.S. consumers. We still have that negative saving rate, credit-card debt to our eyeballs and rising adjustable-rate mortgages. When the house of credit cards finally falls, Joe Sixpack will be out of money, even borrowed money, and our economy will falter.

Note that when we worry about the tapped-out consumer, we never worry about ourselves. We trust ourselves to handle our finances responsibly, but assume that everyone else is an idiot. Does a large minority of Americans deserve to be sent to debtors' prison? The chart "Cash Balance," above, shows the household balance sheet for all Americans. This works just like a normal balance sheet with assets on the left and liabilities on the right.

Note the $6.67 trillion (with a "t") in cash and equivalents. This includes all checking, savings, bank and money market fund accounts. Seems like a lot, doesn't it? In fact, it's up over 30% since 2002. Americans are swimming in cash.

Okay, you argue, perhaps consumers have more cash on hand, but maybe the real estate market has everyone overextended? Folks have been borrowing against their homes and buying in nefarious binges. Except that when you divide the $9.6 trillion in home mortgages on the liabilities side by the $22.6 trillion in real estate on the asset side, you get a 42% loan-to-value ratio. You could walk into any bank and get a first mortgage on a primary residence at 80% loan-to-value. Americans are only half as leveraged on real estate as they could be. It's not true that there's no more cash to take out of real estate.

What about overall indebtedness? On any financial news show, someone is snickering that we're all profligate slobs. A small group is in trouble with credit cards, but do we all deserve censure? If you divide the total consumer liabilities of $13 trillion by the net worth of $55 trillion, you get 24% debt-to-equity. To put that in context, most publicly traded S&P 500 companies have much higher debt-to-equity ratios. Overall, corporations, governments and individuals aren't hurt by debt. When used responsibly, leverage increases our return on assets.

UNSAVING RATE

What about that negative saving rate? The graph "Saving Rate, Schmaving Rate," at right, shows our negative and deteriorating saving rate in orange overlaid with U.S. household net worth in blue. Why is our net worth still growing if no one's saving? Some argue that our net worth is driven largely by booming real estate. Okay, but the yellow line, which represents net worth with real estate stripped out, shows the same basic trajectory. Even without real estate, net worth is up an amazing 38% since the end of the last recession--all while we haven't been saving. What gives?

Fathom this: The official saving rate data series is broken. If you buy a stock, hold it for a few years and sell it again, increasing your net worth, you haven't officially saved, according to the official saving rate data. Even weirder, Bill Gates got to be the world's richest man by never saving. He built something that was once worthless into a very valuable asset, but technically, he didn't save. Supposedly, even I got on the Forbes 400 by never saving. The data series simply doesn't account for capital gains--one of the major ways that Americans "save."

Do you have a pension fund or does your employer contribute to a retirement account for you? Officially, that's not saving, either. So what's included? To start, distributions from the aforementioned retirement plan are charged against the saving rate. They're not counted as savings going in, but they reduce savings coming out. And then you pay taxes on the payout.

Even worse is something called "owner's imputed rent." This is what government accountants think homeowners should pay themselves to rent the homes they own and occupy. When you own your home outright, your official savings is reduced by this fictitious amount--a sort of depreciation equivalent. And it's not trivial--the imputed rent charge reduces savings by $1 trillion each year. If we did away with this one line item, personal saving would increase dramatically--from negative territory to over 7% of GDP. Suddenly, we're super savers! Nothing's different but the accounting. The saving rate simply doesn't reflect reality. Americans are the world's best and most consistent savers, but you'd never know from our "official" saving rate.

What does knowing all this mean? Anytime forecasters predict doom and gloom due to our growing debt or negative saving rate, you'll know that the market outcome won't be what they fear. Sure, something could knock stocks, but it won't be our debt or lack of saving. Our growing debt is healthy. What's scary is any attempt to artificially reduce our debt by politicians--truly more idiotic than any heroin addict--because that would impede our economy. The market will know it and react badly.

The punditocracy will keep bemoaning our "woeful" saving rate. As the global economy accelerates in 2007, our broken saving rate will provide no guidance. Asking good questions and thinking logically to unmask our financial myths often leads to a simple fact: False fear is always bullish.

Kenneth L. Fisher is founder and CEO of Fisher Investments, a $30 billion global money management firm. He writes the "Portfolio Strategy" column for Forbes.

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