More on the last great bubble...
I wanted to revisit this notion of the long dated U.S. Treasury bubble and look at it from a more simple, macro prospective. I really want to relate to you exactly how we got to this near breaking point.
Remember way back when subprime CDOs were still a ticking time bomb yet to explode in our economy? Everything was status quo with the Dow eclipsing 12k, 13k and eventually 14k. At this time, the leveraged subprime asset back paper was rated AAA by the rating agencies.
That bomb blew, and the ripple effects are still realizing themselves today. Financial markets are currently in the process of digesting the real values of these assets. Although a proper clearing system is lacking in this process, some progress has been made, but investors and Washington alike are still living in fantasy land as to their true values.
We know these details, and we also know that the rating agencies are an open faced corrupt insult to capitalism. But did you notice how quickly these assets went from AAA to junk status? The interesting thing is that U.S. government debt has the exact same AAA rating that those subprime securities once had.
Just like there was no way for the subprime mortgage holders to pay their $1.3 trillion of debt, there is no way the U.S. can pay back the $13 trillion is owes.
The macroeconomics of why and how we got here are blunt when you take a step back and look at them.
Both government spending and tax cuts are used as fiscal tools to stimulate the economy. When they are used in unison, it creates an economic steroid of sorts.
George W. Bush's economic policy was exactly that (I would also like to note that both Senator McCain and President-elect Obama have bigger budgets planned and aggregates tax cuts to suit). He [Bush] cut taxes, increased government spending, and let the deficit spending takeover. Add that to the large amounts of currency and credit that was added to the monetary base in order to combat the "dot.com" burst and 9/11 recession, and consumers were quickly taken over by the same deficit spending our government recklessly represented.
It worked. Initially, this loose monetary and fiscal policy resulted in sustained, and at times, fantastic economic growth, but this policy can't go on forever. Eventually the market needed to rid itself of excesses.
A Minsky Look into Debt Accumulation
I believe Hyman Minsky describes this notion best in The Financial Instability Hypothesis:
Hedge financing units are those which can fulfill all of their contractual payment obligations by their cash flows... Speculative finance units are units that... cannot repay the principle out of income cash flows. Such units need to "roll over" their liabilities: e.g. issue new debt to meet commitments on maturing debt.
For Ponzi units, the cash flows from operations are not sufficient to fulfill either the repayment of principle of the interest due on outstanding debts by their cash flows from operations... A unit that Ponzi finances lowers the margin of safety that it offers the holders of its debts.
The U.S. was able to act as a "hedge financing" unit for several decades. At some point during the late 1990s and early 2000s, the U.S. transitioned to what Minsky would describe as a "speculative financed" state. I believe us to be currently transitioning from a "speculative financed" state to a "ponzi unit." Just to note, Minsky passed away in 1996 without the chance to see the U.S. fulfill his beliefs about the effects of debt accumulation.
As the U.S. transitions from state to state, it becomes exponentially more expensive and economically destructive to meet its debt obligations. The end game is monetization of debt and complete destruction of the domestic currency.
Once the dollar truly implodes under its own destructive monetary policy, there will be a mad rush out of dollars and dollar denominated assets. It will be like yelling fire in a movie theater. For that reason, once this moves it will be fast and violent.
Disclosure: none
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This article has 12 comments:
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Pipo
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266 Comments
My Website
Nov 07 06:40 AMRead his outlook at:
jimrogers-investments....
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Rhunzzz
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22 Comments
Nov 07 09:32 AMStill, it's very likely that long-term interest rates will have to go up. There is no other logical outcome to the Treasury about to issue oodles more debt. And that is ultimately what will tackle the inflation that will soon be created, indeed, is being created now.
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mcadoo3312
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61 Comments
Nov 07 09:46 AM-
JasonC
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366 Comments
Nov 07 12:01 PMIs everyone here very stoned?
You do all realize, right, that exactly the brain trust making this same one-note idiotic prediction are the ones who blew all these bubbles, in real estate, in oil, in every commodity there is, in metals. Because if infinite inflation is just around the corner the right thing to do is get short dollar debt by borrowing to the hilt to carry real assets. Oops, everyone on earth just tried that. And it blew apart. Who'd pay them?
In fact, the Fed left spendable money - M1 - unchanged for 3 straight years, and all the debts are therefore real, and all the real-asset bets against them went smash. And will go right on going smash, until you-lot get this inflationary brainstorm out of your system. Everyone holding debt is getting paid, and everyone betting against it is being forced to give away every asset they own.
Will any of the johnny one-notes ever admit that it is precisely their hyperinflation prediction that just crashed and burned?
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Greg Pinelli
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557 Comments
Nov 07 12:27 PMInflate. It is the least painful way and it keeps older debt manageable because the people it's owed to are strong armed for 4-5% a year..and besides..just what are they going to do about it?
People who advocate returning to a 19th century ideal of a debt free government (before 1865 anyway) had better stop wasting there time voting for voices in the wilderness like Ron Paul and start a new country..we are and forever will be in debt..Amen.
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Armagedon
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12 Comments
Nov 07 04:48 PMOn Nov 07 09:32 AM Rhunzzz wrote:
> Ok. Could you explain why there is no way the US government can repay
> its debt? When the economy recovers, the US government can cut spending
> or raise taxes (even if the political will may not result in that
> happening) or in extremis, they can always print more money. Yes,
> that would be inflationary, but that is another issue. By the terms
> of its nominal obligations, the US can always pay off its debt.
>
>
> Still, it's very likely that long-term interest rates will have to
> go up. There is no other logical outcome to the Treasury about to
> issue oodles more debt. And that is ultimately what will tackle the
> inflation that will soon be created, indeed, is being created now.
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Armagedon
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12 Comments
Nov 07 04:52 PMI think you will notice the market has already started pricing this in. My inverse treasury swaps are at the money despite the central banks lowering interest rates. That can only happen if the market is discounting a new risk factor.
On Nov 07 12:01 PM JasonC wrote:
>
> Is everyone here very stoned?
>
> You do all realize, right, that exactly the brain trust making this
> same one-note idiotic prediction are the ones who blew all these
> bubbles, in real estate, in oil, in every commodity there is, in
> metals. Because if infinite inflation is just around the corner
> the right thing to do is get short dollar debt by borrowing to the
> hilt to carry real assets. Oops, everyone on earth just tried that.
> And it blew apart. Who'd pay them?
>
> In fact, the Fed left spendable money - M1 - unchanged for 3 straight
> years, and all the debts are therefore real, and all the real-asset
> bets against them went smash. And will go right on going smash,
> until you-lot get this inflationary brainstorm out of your system.
> Everyone holding debt is getting paid, and everyone betting against
> it is being forced to give away every asset they own.
>
> Will any of the johnny one-notes ever admit that it is precisely
> their hyperinflation prediction that just crashed and burned?
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oldgoldbug
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87 Comments
Nov 07 05:05 PMIs it possible some of the hedge funds that are down 38% so far this year still are leveraged and may be putting their lender banks at risk should asset prices fall further and faster before the funds can get out? Will those holding debt get paid?
I do remember long Treasuries at 16% in the 80's. We were lucky to dodge the bullet then but here we are bobbing and weaving like someone out of the Matrix again.
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Kunst
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750 Comments
Nov 07 05:26 PMThe other way: electronically print dollars to replace and/or retire debt.
Given that we haven't done the first even once in the last 60 years, which one do you think is likely?
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Zinky
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1 Comment
Nov 08 02:57 AM-
PrudentMan, CFA
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153 Comments
Nov 08 10:32 AMI would like pundits to remember whose deficit it is. It is Congress' deficit. The president doesn't have a vote. Maybe more people will give proportional critical examination to the Congress rather than fixation with the president. Soon many would know it is time for Term Limits for Congress, the Line Item Veto for the President and a Balanced Budget Amendment for the tax payers.
The media, being lazy like most of us, find it is easy to criticize the Administration and give Congress, where the power actually is, a free pass.
I find it interesting how quickly Congress bailed out reckless investment bankers but can't fund Social Security!
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sbenard
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237 Comments
My Website
Nov 21 08:17 AM