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March 21, 2012 – Comments (5)

Another good post by Cullen Roche. Nothing that hasn't been said before by him (or me: here, here, here, here).

But seeing as how the Chairman of the House Budget Committee (as do *many* policy makers) keeps making these same mistakes over and over, posts like these will be needed.

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What’s Wrong With This Image?
March 20, 2012 By Cullen Roche

http://monetaryrealism.com/whats-wrong-with-this-image/

Pop quiz kids.  The following image is from Paul Ryan who appears to be on a perpetual campaign to scare Americans into believing that we’re Greece.   And he keeps making a really basic error in this campaign.   Now, can anyone spot the odd man out in this picture (h/t Joe Weisenthal):



If you guessed the USA then you’re right.  You don’t win a prize because we don’t offer prizes here at MMR for understanding basic macroeconomics.  The difference of course, is that the USA is the only currency issuer listed on this image.  The others are all European currency users.  Why does it matter?  Well, primarily because a currency issuer can never “run out” of money.  So their debt markets aren’t inhabited by investors who are perpetually fearful about receiving payments.  Being a currency issuer puts the government in the driver’s seat in many ways and reduces various economic risks when it comes to government policy.  All these European countries, however, have a real solvency risk because they can’t print the currency that they need to pay their debts.  They’re now relying largely on politicians in Germany to ensure that the ECB continues to keep the insolvency scenario off the table.   And the austerity is the trade-off.  It’s sort of like having a gun held to your head and agreeing to have your arm cut off (so you can continue to live) as opposed to just being shot in the head.   Either way, you’re likely to do, but Europe hasn’t quite figured this out yet….My guess is they will sooner or later.

But the key point here is that being a currency issuer matters.  A LOT.  And to compare a currency issuer to a currency user is a colossal mistake.  One that the Chairman of the House Budget Committee should NEVER make.  So, you don’t win a prize, but you do get to brag to your friends that you understand macro better than Paul Ryan.  In fact, your prize from this might just be a worse economy in the years ahead assuming this sort of thinking comes to move the policy needle.  And in that case, you might want to just stock up on beer so you can give yourself that “prize” when the economy goes into the tank again and you look back and say “we should have known better!  Wait, some of us DID know better!”  But hey, at least you’ll be drunk through most of it so that’s some consolation, right?

5 Comments – Post Your Own

#1) On March 21, 2012 at 11:41 AM, outoffocus (22.89) wrote:

So their debt markets aren’t inhabited by investors who are perpetually fearful about receiving payments. 

No they are inhabited by taxpayers who are perpetually fearful of their money losing purchasing power...

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#2) On March 21, 2012 at 12:46 PM, binve (< 20) wrote:

Hey outoffocus,

No they are inhabited by taxpayers who are perpetually fearful of their money losing purchasing power...

.... that seems like a somewhat contrived statement. Because if that were the case, then why have bond prices been rising (rates dropping) for the last >35 years?

For the most part, bonds are nothing but corporate welfare which gives the financial industry risk-free interest income. It has relevance in today's monetary economy only to act as a reserve drain in order to allow the Federal Reserve to maintain its policy targets (the Fed funds rate), as I show here

The fact that the bonds are still being bought by other parties (such as private citizens) beyond the financial industry is because there continues to be demand for risk-free instruments. And because inflation is not the primary fear of those holders (otherwise why would they buy bonds? Why would they not buy oil futures instead?).

The debt/gdp argument for soverign currency issuing nations is crap. Japan has record low interest rates because the demand for bonds is so high that it could run >200% debt/gdp or any other meaningless number of this metric precisely because Japan (and the US/UK/Canada/Australia, etc. *not* the Eurozone) is not beholden to the Japanese bond market. It is the other way around.

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#3) On March 21, 2012 at 1:05 PM, outoffocus (22.89) wrote:

Isnt the majority of Treasury bond buying done by institutions and pension funds? Further, all signs point to a bubble in the bond market.

Why would they not buy oil futures instead?

Because oil futures are inherently a high risk trade.  As far as inflation is concern, people are buying gold and silver, not oil futures.  30 years ago bonds were a good trade because interest rates were high and the US balance sheet looked alot better than it does now.  As a result the Treasuries were looked upon as "risk free".  Over those same 30 years the stock market has been highly volatile in comparison. Also stocks underperformed bonds in the 00s. 

The bond buying continues because the percieved "risk free" status of US bonds remains.  Due to volatility elsewhere people are buying anything that is "percieved" safe.   But perception is not always reality.  As far as bond pricing is concerned, with interest rates at record lows, there really isn't much room left for bonds to run.  Which makes the downside risk in bond prices pretty high and rising.  We can say that bond prices will simply "level off" from here but I distinctly remember people saying the same about housing shorty before that bubble popped. 

I've read your many posts about MMT.  And while I respect the theory til this day I still remain unconvinced of its long term plausibility.  I am a fundamentalist at heart and certain aspects of MMT just dont line up with the fundamental concepts of money and debt.    So I guess we'll see who will be proven right in the end. 

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#4) On March 21, 2012 at 1:21 PM, binve (< 20) wrote:

Isnt the majority of Treasury bond buying done by institutions and pension funds?

Yep. Like I said above, Treasury bond issuance is corporate welfare based on the an anachronism from the gold standard days and it only pupose is to provide interest income to banks and institutions and any other buyers. Treasury bonds do not 'fund' the government in any from at all, and like I said here they could simply stop being issued.

As far as bond pricing is concerned, with interest rates at record lows, there really isn't much room left for bonds to run.  Which makes the downside risk in bond prices pretty high and rising. We can say that bond prices will simply "level off" from here but I distinctly remember people saying the same about housing shorty before that bubble popped

Seriously? 10 year JGBs went from 8% to 1% and have stayed parked at 1-2% for the last decade.  Calling bonds issued by soverign currency issuing governments a 'bubble' is really not accurate at all. They pay out interest income in scheduled manner, expire at matrurity, etc. It is an analogy that is often made, and I think it is a false one.

I've read your many posts about MMT.  And while I respect the theory til this day I still remain unconvinced of its long term plausibility.  I am a fundamentalist at heart and certain aspects of MMT just dont line up with the fundamental concepts of money and debt.    So I guess we'll see who will be proven right in the end.

Fair enough.

 

 

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#5) On March 22, 2012 at 11:13 PM, HarryCarysGhost (99.71) wrote:

Wait, some of us DID know better!”  But hey, at least you’ll be drunk through most of it so that’s some consolation, right?

So I got that going for me...

Which is nice.

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