Back in 2008-9, when it seemed that the world was about to implode, I wrote this article about how odd it was that JP Morgan Chase stepped in and bought an entire bond issue from the State of Illinois, at a time when no one else was interested in our debt.
The US government has been buying its own debt for some time now. The WSJ today had an article entitled “Treasurys Face Tougher Path” that sums up our dilemma:
“If we remove the Fed’s purchasing and remove the trillions in Treasurys they hold, what would be the true market value of Treasurys?… I think we would certainly have failed auctions at the current interest rates if the Fed was not the majority purchaser”
A different article in today’s WSJ called “EU Banks Stashing Cash for Safety” reported that European banks were “parking” their money with central banks rather than lend out to customers, purchase securities (like bonds, above), or loan it to one another.
The 8 giant European banks that have disclosed their annual results in recent weeks reported holding a total of about $816 billion in cash and deposits at central banks as of Dec 31… that is up 50% from a year earlier… The stockpiling… represented a collective response to the growing pressures on the European Financial system. By storing funds at central banks in Europe, the US, and elsewhere, banks assure that their money is safe.
As the article above states, we don’t know what the price of debt would be if the US government wasn’t purchasing a substantial portion of the total issuance. It likely would be higher. And in Europe, with losses looming on Greek debt, banks are now questioning their position in the debt markets and apparently “parking” their money more and more rather than purchasing government debt issues.
In the US we take for granted that we can keep issuing debt to fund our ballooning deficit and that we can find willing buyers at miniscule interest rates. We are also putting our hand on the scale by buying back a lot of the securities that we are auctioning off (try explaining that one to someone who isn’t sophisticated in finance). Like everything else, this works until it doesn’t, and with banks and the US government not buying bonds in the same quantities, who IS going to want to load up on Treasurys at these rates?
In parallel, the stock market is returning more than ever when dividends are taken into account. There never has been a time in recent history where stocks (assuming dividends and share buy-backs) are returning such a high premium over debt. Thus why would individuals want to purchase Treasurys when (cash) returns in stocks are so much higher?
It will be interesting to see how this all plays out. My guess is that it will end badly.