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Friday, May 22, 2009

British Debt, the U.S. Treasury Bonds, and You

First, let me take a moment to congratulate myself on being an oracle. Here's what I wrote in the early part of January.

Unfortunately, so far all indications are that he (President Obama) will likely do the exact wrong thing. He wants a major stimulus right away. They are talking about $500-$700 billion and he still will likely have half of the current stimulus to spend (not to mention that Obama maybe forced to bailout the autos if President Bush doesn't and he now wants to bailout cities and states) In order to do this right, he wants borrow a little at a time on a regular schedule. That way the stimulus from your purchases will be mild at any given time. It also gives the President the ability to monitor what effect his massive borrowing will have on the Treasury bond market. Instead, he is likely to request a bunch and have the Treasury get it for him almost as soon.

The possibilities for disaster if this is done wrong are enormous. There are all sorts of technical scenarios that could be frightening. For instance, there is something known as moving averages. If any investment, of which the Treasury bond is one, takes off in any direction and continues up staying above a certain level it will continue to go up until it breaks through the plane of the so called moving average. In other words, if Barack Obama does it wrong it will ride up for a while and soon the Treasury bond will be holding records only the other way.

Now, at the time, I was warning all about the pernicious effects to the Ten Year U.S. Treasury of Obama's borrow and spend policies and what those pernicious effects would have on the entire economy. At the time, the 10 year U.S. Treasury was at just over 2%. It's currently at about 3.45%. That's a near 70% increase in five months.

Yesterday, we may have had the beginning of the next disastrous step in the 10 year progression. In the morning the bond rating on the British debt was downgraded. Almost immediately following, rumors began to spread that U.S. debt may also be in jeopardy of being downgraded. The reality is that it may be days, months, years, decades or never that the debt would actually be downgraded. That's almost beside the point. Now that the rumor is out there there is an obscene amount of upward pressure on the bonds.

How much pressure is there? Before the announcement the 10 year was trading at 3.15%. Now it is trading at 3.45%. A move that large in that short a time is nearly unprecedented. Ultimately, what this means is higher, much higher, borrowing costs for everyone, the U.S. government included. This means that mortgages will be more expensive, along with car loans, student loans, and business loans. It also means that the trillions that the U.S. still needs to borrow will cost our own treasury much more. The borrowing cost of one trillion dollars just increased by $30 billion in the last day.

The other option is for the Fed to engage in "quantitative easing". In other words, the Fed will begin a program of buying trillions worth of U.S. treasuries themselves in order to manipulate their rates down. That isn't without pitfalls as that would eventually spell inflation.

So, why is this happening? Why are there rumors that our debt might be downgraded? That answer is simple. In four months in office, President Obama has engaged in an unprecedented spending spree the likes of which we haven't seen and he isn't about to stop. Everything I feared in January is essentially unfolding right now.

Higher interest rates means that any recovery would not only be stunted but eventually return us right back into a recession. Quantitative easing means that any recovery would eventually be followed by out of control inflation. Rumors that our debt might be downgraded is really nothing more than our markets telling the president that they simply won't allow him to continue on his domestic agenda.

So far, the president and all his economic advisors have totally ignored the effect the sum total of his policies have had on the U.S. Treasury. He dismisses it at his own, and our own, peril. Out of control interest rate increases on the Treasuries mean out of control interest rate increases everywhere. Here's how I described the potential destruction then.

If he dumps too much it could shock the system in all sorts of ways. If someone is NOT aware of the fury they are about to unleash all sorts of bad things are possible. Frankly, everything is already volatile and now Barack Obama has an opportunity to explode as volatile a potential combination as I have seen in a while.

The sort of fluctuating interest rate market he could create would make it nearly impossible to do any business especially with the situation as it is. Imagine if banks are locking loans and the rates are a full percentage point higher the next month. In fact, that's how a lot of pseudo banks went out of business back in the end of 2003. Rates went up like crazy and by the time they were able to sell they weren't making enough to get by.

Finally, it will almost certainly make interest rates bad enough that the real estate market won't have a chance to get better. Imagine if several hundred billion Dollars worth of new bonds are issued within three months. That could cost at least a full percentage point to the mortgage rates. If it's handled poorly we could easily see rates at 8%.

Unless the president recognizes that it is his policies creating this, the nightmare I described will be a reality. Treasuries at 5-6-7% in this environment will have an onerous effect much larger than allowing the autos and banks to fail. I called this his first test then and so far he is failing miserably.


Anonymous said...

Do most people either not understand that this is an inevitable result of spending trillions of dollars of money that does not exist, or do they simply believe that the President is a good enough speaker to prevent it?

mike volpe said...

I think the average person probably hasn't even heard of the U.S. Treasury bond. Certainly, even if you have heard of it, it's very unlikely you understand the dynamics involved in its movements, and absolutely not the dynamics involved in what its movement does to everything else.

Simon said...

I say cut taxes for the rich to around 15% but actually not cut taxes on the middle class or working class at all. [because we do need some revenue] Then the rich will invest their money in America and stimulate our economy.

Further cut all taxes that the wealthy have to pay a greater proportion of, such as capital gains tax from their investments and dividends, further stimulating investment in America and creating jobs.

I would say 0% tax [after all taxation is theft] but that might not go down to well with the loony left

Cut all healthcare spending and give health only to those who can afford it, after all healthcare is a privilege only for those who can afford it.

Totally deregulate health insurance because I believe the pharmaceutical companies and health insurance through acting in their shareholders interest will actually provide good healthcare very cheaply.

Stop all pay controls of banks receiving TARP because the people running these institutions need incentives to do their jobs.

Initiate a spending freeze on everything but money to weapons and oil companies.

God bless America!

mike volpe said...

That's a caricature of conservatives.

First, I am for across the board tax cuts not tax cuts for one group over another. Furthermore, I would be for either a flat tax or a fair tax.

As for health care, I have long pointed out that the problem is several fold. First, doctors negotiate insurance with insurance oompanies. It should be the patient that does this. This happens because far too many people get employer sponsored insurance. You fix this issue and you are a long way toward resolving that problem.

So, health savings accounts are something I am for. I could even be for that pseudo tax on employer sponsored health insurance.

Finally, there is all sorts of corruption in health care.

You also imply that cutting spending would cut the vital. That's nonsense there's trillions in waste and unnecessary spending in that budget.

Simon said...

Oh I understand Conservative political positions quite well.

Its based on greed of the top tier of society who sell the ideology to the lower tier who have neither the brains not sense to see it isn't working for them over the long term.

It’s no coincidence that ringing endorsements of greed began to be heard at the same time that the actual incomes of America’s rich began to soar.

In part, the new pro-greed ideology was a way of rationalizing what was already happening. But it was also, to an important extent, a cause of the phenomenon. In the past thirty years, right-wing foundations have devoted enormous resources to promoting this agenda, building a far-reaching network of think tanks, media outlets and conservative scholars to legitimize higher levels of inequality.

Why is trickle down economics flawed?
Well for the answer, I offer this link.

But for some of the more independent minded visitors your site, please think about carefully about the implications of what is being argued here.

mike volpe said...

Actually, it soounds, Simom, as though you don't simply disagree with someone. Instead, you also assign nefarious motives to their position.

I know lot's of people like you. I've been called both a racist and a homophobe during debates. That's just a sign of how much of an ideologue you are.

It really doesn't matter what I say your only response is a hate filled rant in which you assign the worst intentions for each of my position.

The only thing your proving though, is your own blind partisanship.

Simon said...

Where is your response to the fallacy of trickle-down economics as so well argued in the NYT article?

This is what I am interested in hearing from you.

I will change my position if you provide better evidence than ..."Well what worked for me in the eighties under Reagan must work now."

The article cites cross country comparisons across different time spans. It is much more complete research than what I have read on your site.


p.s. Dont be so sensitive, we are all ideologues to an extent, we all dig our heels in over issues, and we all distrust a lot of the motives of what we define as our our political opponents - even you my dear Mike.

mike volpe said...
This comment has been removed by the author.
mike volpe said...

I've written about trickle down economics before.

I am not going to bother responding to you here suddenly bashing trickle down economics. I frankly don't have the first clue what the effectiveness, or lack thereof, of trickle down economics has to do with the panic in the bond markets as a result of Obama's policies.