Monthly Archives: March 2009

What If You Threw A Borrowing Party And Nobody Lent?

Governments, ready to spend boatloads cruiseliner-loads of money they don’t have, are trying to borrow it — to the extent possible — from the markets. I mentioned yesterday that the US was starting to print our own money to lend to ourselves. Britain is facing a similar problem — they were auctioning off some bonds, and nobody wanted to buy:

There is a limit to what bond investors will put up with. As governments inflate their fiscal deficits to deal with the crisis, they are issuing an awful lot of government bonds. And some of it is going to prove a tough sell.

Today, the UK suffered a failed auction for the first time since 2002. The Debt Management Office received bids for just £1.63 billion of a £1.75 billion offering. As the government has to sell nearly £150 billion of gilts in the coming (2009-10) financial year, this is hardly an encouraging sign.

To the casual observer, it might seem unsurprising that investors turned their nose up. They were being asked to lend money at 4.5% for 40 years to a country that, even in the midst of a recession, has an inflation rate above the government target, has a deficit expected by the IMF to be 11% of GDP next year, and a currency that has fallen by a quarter against the dollar since last summer.

During the Wall Street “flight to quality” seen late last year, yields on short-term Treasuries dropped significantly as 0.1% returns on short-term bonds were better than the worry of losing 30% of your wealth as the stock market tanked nearly uniformly. But the key there is short-term.

Right now, nobody really believes that governments are going to exercise monetary prudence in the face of cratering economies. That’s true in America, and it’s true in Britain. Why would someone lend money for a 4.5% 40-year return if they honestly think inflation over that time period will ensure they lose quite a bit of money?

Governments are going to borrow lots of money, and the market is not enthralled by the lending terms they’re being offered. There are two ways to get around this. You can offer better terms (i.e. higher yield bonds), but that has the downside of letting the world know that you plan to inflate your own currency. Alternatively, you can simply print the money you need to borrow and loan it to yourself at whatever terms you want. It seems that central banks in the US and Britain are already taking that path, and the market sees the writing on the wall.

A Proposed Constitutional Amendment

Believe me, I’m not advocating the following proposed constitutional amendment.  To be sure, I oppose pretty much everything it represents.  However, if we are to follow the rule of law in this country, we should at least go through the effort of ensuring that contemporary political activities and the law are in sync.

“Any political party which clearly dominates the legislative branch of Congress is authorized to tax any political target to the degree it desires and in a retroactive manner.”

Let’s see how this could be applied:

  • It could be used to tax contracted bonus payments to employees of corporations which aren’t politically correct at the moment.
  • It could be used to tax, retroactively even, all income of politicians from the opposing political party.
  • It could next be used to tax, retroactively even, all income of family members of politicians from an opposing political party.
  • It could be used to tax all campaign contributions provided to any member of an opposing political party.
  • It could be used to levy a specific targeted tax aimed at people who are registered members of opposing political parties.

Remember, these taxes can be as high as 100 percent (on second thought, why stop at 100 percent?).  They can be levied on earnings or other resources from anytime in history.

With this amendment in place, the Democrats can tax AIG executives (and executives from any other corporation) as much as they desire.  Why stop there, though?  They can also maintain political power by taxing non-Democrats in Congress at a rate of 150 percent, going back 25 years.  For those congressmen with spouses or children enjoying income, tax them retroactively, too.

Need to pay off the national debt? Levy an emergency 90 percent payroll tax on registered Republicans, Libertarians and Greens.

Need to ensure that you stay in political power?  Tax the donations made to competitive political campaigns.

Of course, the Republicans could take over Congress again.  This proposed amendment would be to their advantage, too.  It’s not to difficult to see folks like Tom DeLay or Karl Rove using such law to their advantage.  I’m sure the first applications would be aimed at trade unions, to be followed by the political targeting of Democrats everywhere.  If people stop registering as Democrats, simply target them based on other demographics, such as gender, race, age and income level.

If politics are to be tyrannical in nature, why not at least have a constitutional amendment to authorize the actions of the folks standing at the top of the trash heap?

Supreme Court Seems Ready To Limit McCain-Feingold

There seemed to be some good news out of yesterday’s oral argument at the Supreme Court in an important campaign finance law case:

The Supreme Court yesterday appeared ready once again to trim the reach of the McCain-Feingold campaign finance reform act, this time at the behest of a conservative group that produced a withering 90-minute political film called “Hillary: The Movie.”

And that was even before the government’s lawyer rattled the justices by asserting that Congress possessed the power — hypothetically — to ban some political books before an election

After a rollicking one-hour argument, it seemed that the question was whether a majority of the court wanted to use an ax or a scalpel to whittle the law, Congress’s embattled attempt to limit the electoral influence of corporations, unions and special interest groups. It is known formally as the Bipartisan Campaign Reform Act of 2002.

While it’s not always easy to predict where the Court will come out based on oral argument, it seems fairly evidence that a majority was skeptical of the government’s application of the law in this case.

That’s a good sign.

Common Goals

I’m watching Barack Obama’s press conference, and he urged people to remember “their commitments to each other” and our “common goals” as a nation. Collectivist economic actions, by not focusing on individuals and their best interest, actually increase economic inefficiency and destroy wealth.

Instead of urging the people to change how they act and to support ever increasing government authority, Mr. Obama should focus on reestablishing the rule of law and stable money supply upon which our wealth creation engine depends. Every subsidy, every ad hoc regulation and program, and every run to the printing press do more to harm the economy than all the greed on Wall Street.

Many Americans are giving up luxuries to survive this economic crisis. The governing class, led by Mr. Obama, need to give up some luxuries too. They can no longer give themselves the luxury of using the Federal Budget as a social engineering tool. They can no longer give themselves the luxury of spending beyond tax revenue. They can no longer play Enron-like accounting games with the budget spending. Most importantly, they can no longer use laws and regulations as a tool for personal and political gain.

The population, which is the foundation of the economy, is weary of politicians acting as if they still have the luxury of legislating and spending for personal and political benefit in this time of crisis. For every restaurant dinner, necklace, vacation, suit, computer, TV, pair of shoes, or couch given up by an American consumer who has to stick by a budget, a politician should give up an earmark, a line item, or a pet program that does nothing to forward one of the US Government’s constitutional duties. Sadly, we will sacrifice luxuries while they take even more.

Is Dollar Hegemony About To End?

Just over two years ago, I offered a worst-case prediction of where this economic crisis could lead.

Wait, though, it gets worse. America isn’t an empire in the conventional sense of the word, but we are an economic empire. The dollar is the currency of the world, from middle eastern oil to the reserve currencies of countless nations. During the Great Depression, or during the stagflation of the 1970’s, other nations were stuck with the dollar, because nothing else was suitable. But if the dollar starts dropping in a major inflation, they now have options. And if they drop the dollar, it’s all over. All of a sudden, America won’t draw on the world for our own stability. Considering the actions of our politicians, that’s a bad, bad thing.

We may be witnessing the end of America as the world’s superpower. It may be the end of our status as the economic empire of the world. Some across the globe, of course, will cheer. After all, they feel like America is the premier force of evil in the world. For all the bad that we’ve done, though, we’ve been a pretty stable force, and worked to prevent the spread of fascism and communism, across the globe. America’s economic system has been the safe-haven for the world. When a position of power is vacated, what typically fills it is rarely positive. The end of the American empire will likely result in more instability worldwide.

There are two reasons that I’m very, very concerned about this.

First, American dollar hegemony has actually been, for all the stupidity we’ve encountered upon over the last few decades, a pretty stabilizing force. To bastardize an old quote, America’s economic system is the worst, except for all the others. There’s no reasonable guarantee that anything that follows dollar hegemony will actually increase stability. Rather I think it will be worse.

Second, I don’t want to pay for our government. While we’ve been pretty well looting the other nations of the world, printing money and sending it to them in exchange for durable goods, only to have them lend it back to our own government to pay for programs we’re unwilling to tax ourselves for. Essentially we’ve been taxing other nations to pay for our own government, with the unspoken understanding that we’d probably slowly print our way out of debt rather than actually pay our debt. I can understand why they don’t want to continue that, especially since we’re dramatically increasing the size of the government that we’ll be expecting them to pay for.

But that doesn’t mean it won’t happen.

Russia, as reported by QandO, made noises last week about putting an end to the dollar as the reserve currency of the world:

The Kremlin published its priorities Monday for an upcoming meeting of the G20, calling for the creation of a supranational reserve currency to be issued by international institutions as part of a reform of the global financial system.

The International Monetary Fund should investigate the possible creation of a new reserve currency, widening the list of reserve currencies or using its already existing Special Drawing Rights, or SDRs, as a “superreserve currency accepted by the whole of the international community,” the Kremlin said in a statement issued on its web site.

The SDR is an international reserve asset, created by the IMF in 1969 to supplement the existing official reserves of member countries.

Now, QandO again (along with Doug @ BTB) reports that one of our far bigger creditors, China, is making the same suggestion:

China’s central bank on Monday proposed replacing the US dollar as the international reserve currency with a new global system controlled by the International Monetary Fund.

In an essay posted on the People’s Bank of China’s website, Zhou Xiaochuan, the central bank’s governor, said the goal would be to create a reserve currency “that is disconnected from individual nations and is able to remain stable in the long run, thus removing the inherent deficiencies caused by using credit-based national currencies”.

Analysts said the proposal was an indication of Beijing’s fears that actions being taken to save the domestic US economy would have a negative impact on China.

“This is a clear sign that China, as the largest holder of US dollar financial assets, is concerned about the potential inflationary risk of the US Federal Reserve printing money,” said Qu Hongbin, chief China economist for HSBC

I’d like to believe that this is merely a warning to the Obama administration that destroying our currency won’t be accepted by the international community. It would be a very clear warning that if we proceed down this path, those who are currently tied into our dollar will try to quickly cut our losses and leave us out to dry.

But I really don’t think the Obama administration, the Bernanke Fed, and the Geithner Treasury will heed those warnings. You want a reason to fear Great Depression II? This is it.

In fact, it may already be starting. China is worried about the $1 Trillion they’ve already lent us, but the real key to ending dollar hegemony is to stop lending us more. If other countries stop buying US Treasury Bonds, we must find a way to fund our own deficits internally… And there’s some evidence that’s already happening:

Thanks to Brad Setser for the graph

Thanks to Brad Setser for the graph

Yep, foreigners are getting close to their limit. Will it hold? I don’t know, but in the meantime, the Fed is starting the printing press to make up the shortfall (h/t Calculated Risk):

The first outright Treasury coupon purchase will be conducted on Wednesday, March 25, 2009, and will settle Thursday, March 26, 2009. Results will be posted on the New York Fed’s website following the operation.

Starting on Wednesday, April 1, 2009, and continuing every two weeks, the New York Fed will issue a tentative operation schedule for its purchases of longer-dated Treasury securities, including the maturity sector or sectors to be targeted.

The signs are pointing to a major change in world structure.

  • The world is slowing down their purchases of American debt, fearing it won’t be repaid.
  • The world is threatening to liquidate the US Dollar as the de facto reserve currency, because they fear an impending devaluation.
  • The Obama administration, the Fed, and the Treasury appear to be willing to spend historic sums in the face of these developments in the hopes the world is bluffing.

I don’t want to be a doomsayer, but the outlook sure as hell ain’t rosy. America has been gorging at the buffet for the last 40 years, ever since the collapse of Bretton Woods system. The bill is about to come due, and we’re sure to be surprised when we realize it’s pay-per-item, and not all-you-can-eat.

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