According to the Organization for Economic Co-operation and Development (OECD), its 33 member countries will almost double government borrowing from 2007 to 2011 to the tune of $19 trillion. In the face of this ramp in borrowing (and spending) bond investors are supposed should sit back and calmly continue to absorb all the sovereign requests for their cash – net of whatever central banks are not already buying with freshly printed money (Kyle Bass seems to imply that $4.5 trillion needs to get printed to fill fiscal deficits next year). At least this is the behavior that the OECD’s head of bond markets and public debt management, Hans Blommestein, would prefer.
The Financial Times reports that Blommestein blames bond investors for letting “animal spirits” overcome their common sense when it comes to assessing the risks for sovereign default:
“‘The psychology of the markets is very negative and not necessarily based on facts, but rather on animal instincts and spirits that trigger far greater selling in bond markets than is often justified by the data.’…Mr Blommestein said there was a danger that some governments might go too far with austerity measures as they sought to reassure investors that they were tackling their deficit problems. That, in turn, could jeopardise their economic recovery.”
Blommestein essentially implies that the only problem with sovereign debt is bond investor’s insistence that governments undergo austerity measures to get their debts under control. He rightly cites the negative self-reinforcing feedback loop that such tightening can cause: austerity takes money out of the economy, potentially causing the economy to contract, lowering government revenues, putting upward pressure on the budget deficit, and further increasing pressure for more austerity (of course, some would argue that reducing tax rates in the face of these monstrous deficits will encourage the economy to grow and government revenues to increase). But Blommestein never questions (at least not in this interview) the processes that allowed government debts to get large enough to worry investors in the first place, presumably because he finds nothing wrong with these levels of debt.
I suggest that the blame does not rest with the investors who are now absolutely essential to keeping these debt schemes going. Blame the forces that created the monstrous supply in the first place – forces that have been allowed to build and strengthen for many, many years, frequently unchecked. We should all be in awe, flavored with a dash of relief, that bond investors have all too happily continued to sponsor all this growth in debt so far. However, only credible long-term plans for sustainable governance and public spending with real sources of funding will ultimately satisfy nervous bond investors. Until then, expect the buyers to balk periodically, and sometimes without warning, at shouldering the ever-growing bubble in sovereign debts.
Be careful out there!
Full disclosure: no positions