Bandit Bonds

 

According to CNBC, Wall St analysts think the price of oil will trend downward for the rest of this year. They are predicting $30/bbl oil. Oil industry experts think the price will hold around $50/bbl or go higher.

What was supposedly a non-bubble in real estate has suddenly been termed a bubble. I have saying for a couple of years that a bubble was going on, and got poo-pooed for that. I was right, but no one is knocking on the door to congratulate me for my foresight. Woe unto those who buy a house now, but some people will anyway.

The Fed raised rates yesterday, and probably will raise them some more. That means it will gradually get more and more expensive to borrow money. Sooner or later there will be a credit crunch induced by the Fed. After that comes the recession.

Isn't economics joyful? But, what has this to do with the Long Bond? Everything!

It wasn't so long ago that the Clinton Administration dumped the 30 year bond, and converted everything to shorter term financing. That was one result of the tremendous Federal budget surplus, the same surplus that disappeared in the Bush recession. Now we are back to bigger deficits than ever - the largest in U.S. history. The deficit is largely due to Bush's tax cuts for the wealthy. It's one way Plutocrats expropriate the government.

Now, why would anyone want to extend the term of a loan or a mortgage? Most people would not do that if they had a reasonable prospect of paying off the debt in a few years. It's only when it takes too many current resources that people think about long term debt. By extending the debt over a longer time, principal payments are reduced while interest payments are increased. The net effect can be a lower monthly payment, but the creditors get a secured income for a much longer period. It's important to note both sides of that equation.

On the government side, re-issuing the Long Bond must mean the Bandit's financial wizards are convinced they can't pay off the debt. It doesn't matter that the Bandit tells you almost every day that the deficit will be cut in half in 4 years. The "inner reality" must be they know they can not and will not do it. Thus, the Long Bond is a signal to the cognoscenti: the debt is going to go on for a very long time. Those who don't pay attention to financial markets or economic matters will continue to be deluded by political words, the ones about cutting the deficit in half.

Refinancing the debt over a longer term means the annual Federal deficit will remain at high levels. However, it will require less present income to make payments on the debt because of the reduced principal payments. This will relieve some of the tax shortfall created by tax reductions. When increasing the term of a loan, the debtor hopes to "lock in" present interest rates, because he probably expects rates to rise in the future. In the case of the Federal government, that expectation of increasing rates is probably a near certainty. The huge, on-going Federal deficit will absorb equally huge amounts of savings from the private sector, thus driving up rates further due to increased competition for funds. In other words, Federal borrowing will put the squeeze on available funds, and take money out of the economy. (This eventually creates a recession.)

It's important to realize the Federal debt will keep on increasing. Issuing Long Bonds just once doesn't solve the problem. Treasury will have to sell Long Bonds continuously to finance the debt as it is incurred, which means the overall interest rate will rise indefinitely. It might be cheap to "lock in" present rates on the existing debt, but Federal credit needs will force rates higher, so interest on debt will accrue ever faster. The accrued interest and re-financing cycles will gradually force up debt repayments, and squeeze the Federal budget. That's the way it was when the last Bush was rooted in the White House. Clinton's "virtuous circle" turns back into Bush's "vicious circle."

It's time to look at the other side of the equation: the creditors. Where does the government get the money to find the debt? By selling those bonds, long and short. Who buys the bonds? Mostly financial firms, investment banks and governments. Where do the creditors get the money for this purpose? Almost all of it comes from wealthy people. Some of it comes from the profits made by selling cheap, imported goods to the lower classes; e.g., at Wal*Mart.I wrote a letter to my then-Congressman Vic Fazio (D-CA) a long time ago - around 1992 - showing how the rich benefit form the system of huge Federal deficits, the Reagan-Bush system. The outline is this:

1. Taxes are cut for the rich, which means they have money to spend. Of course, they have almost everything they need and want, so they don't spend it. This could create a monetary problem.
    
2. Treasury sells bonds, which the same wealthy buy from the proceeds of reduced taxes. In other words, they trade in tax payments for a bond.
    
3. The first difference between a bond and taxes is that the bond holder gets regular interest payments, secured by the "full faith and credit" of the government.
4. The second difference between bonds and taxes is that the debtor - the government - owes the creditor the bond's principal amount as well as interest payments. The government does not owe the taxpayer any refund or interest.
5. The third and most revealing difference is that bond interest and principal are paid from the proceeds of (unreduced) taxes imposed on the lower classes.

So, the conversion of taxes into bonds guarantees the bond holders an income. Moreover, the bond is a negotiable security, so the bond holder can get his money back. The net effect of these two things is to make bondholders into a privileged class supported by the government's remaining taxpayers. Further, as Clinton's Treasurer Robert Rubin often pointed out, the government becomes beholden to the bondholders. It is the combination of those two things which amounts to Plutocratic expropriation of the government.

The bondholder model of financing the government goes back to the Italian City States during the Middle Ages. It is a method based on the notion that citizens do not owe taxes, but only make loans to their government. Such thinking insured the eventual bankruptcy of all those City States, as well as devaluation of the money, inflation and other financial and economic problems. Louis XIV's economic genius, Cardinal Richelieu, solved that problem by dumping the Medieval system in favor of taxation (although he did not also dump the aristocrats). The very clever Sun King made sure that any income left to the Nobility was absorbed in Parisian Court games, thus recovering any subsidies the State continued to pay them.

Unfortunately, Bandits never have a Cardinal Richelieu handy, because they prefer braggadocio theft in broad daylight to the cat burglar who gets and keeps the family jewels where they belong.