Interesting article from market-ticker reference bonds
Monday, January 26. 2009
Posted by Karl Denninger at 07:12
Bernanke: Game Over?
Bloomberg is allegedly reporting that Bernanke is "contemplating" buying the long end of the Treasury Curve due to "bond market instability."
Here's what he's unhappy about:
There is nothing "unstable" about any of this. Rates are going higher. Why? Gee, let's see, Obama says he's going to blow $1 trillion on a "stimulus" package, the other $350 billion of the TARP was released, the GAO says we're going to run well north of a Trillion in deficits, and people are wondering why the bond market expects the government to pay up in higher interest rates for the right to borrow more than 10% (and that's almost certainly a LOW estimate) of the total outstanding debt in one freaking year after having added 16% in the last one?
You're kidding, right? America is acting like a subprime credit-card customer who has decided to go nuts in the local "bigbox" electronics retailer, and the market is (appropriately) reacting to that by repricing RISK.
Bernanke thinks he will simply cap the market by intervening?
Let us dwell for a few minutes on how our government financials and currency actually work.
Treasury prints up T-Bills which it then sells. The Fed is the purveyor of currency, which it produces by buying T-bills with "newly minted" dollars, expanding the total amount of dollars in the system when it so chooses.
The market determines all interest rates. Yes, even the "Fed Funds" rate; if you think The Fed leads the market, you need to go study some charts. The Fed does not set rates, it is compelled to follow the market, because if it tries to force rates to where they do not want to go it can obtain that result in exactly two ways:
The second is non-intuitive - you need to contemplate how the markets (for anything) work for a few minutes before it makes sense.
- It must provide or draw an infinite amount of money into or out of the system in order to drive and maintain it outside of equilibrium OR
- It must crowd out all private parties from a particular area of investment, thereby allowing The Fed to effectively "take over" from private parties.
Consider a situation where The Fed "wants" the GSE funding cost to be, say, 2%. The market wants it to be 4%, because the market perceives more risk than The Fed would like to have it admit.
The Fed can cause the GSE paper to trade at 2%, but if it does so it will be the only buyer of said paper, because nobody else will buy at a 2% coupon.
The same thing is about to happen here. If Bernanke actually attempts to suppress the Treasury Market's interest rates, that is, "support the long end of the curve's price", then he will wind up having to buy all, or essentially all, of the supply. People who own Treasuries will sell to him, surmising that he is overpaying, and gleefully taking what is an "extra" profit from his hands.
If you're wondering why the commercial and consumer lending market has gone straight to hell, this is the reason. Bernanke has interfered with the private credit market in virtually every area, and in each place where he has "supported" the price of debt instruments (suppressing yields) he has wound up as effectively the only buyer in short order.
This is bad when we're talking about the private credit markets but if it shifts to Treasuries then the game is literally over immediately, because at that point you have just created a circle jerk.
Treasury prints Ts to finance its operations but the guy who buys them is the guy who prints the money in exchange. Therefore every additional Treasury sale is no longer a debt sale, it is an act of printing money by the Central Bank and destroys the standard of living of everyone in The United States.
This, should Ben engage in it, is a willful act of destruction of your private property rights, your wealth, and your income. It is not an accident, it is not "necessary" and it solves exactly nothing.
It is simply an attempt to defraud - yet again - the American People, this time by attempting to "make ok" the financing of deficit spending that the market simply will not support at the price Treasury wishes to pay.
Down this road lies the near-immediate implosion of all commercial credit as there will no longer be a "fair" reference against which it can be based. We've already tampered with the commercial paper and mortgage security markets; this will complete the "transition" from a market economy in bonds to a command economy, complete with a self-appointed King who has simply ignored the provisions of The Federal Reserve Act when it suited him.
Bernanke will literally have reached the end game where he is the lender not only of last resort, but of the first and only resort at the same time, with all of his lending "decisions" being made by fiat instead of by the market's approximation and evaluation of risk.
Once this begins expect mass bankruptcies in the commercial sector as private credit provisioning will immediately disappear. Bernanke's ability to replace that functionality is fanciful and he will soon learn this lesson the only way the market knows how to teach it - the hard way - just as he has had every other "plank" in his Doctoral Thesis destroyed - one at a time.
No, it is not inflationary when your job disappears because the place you work for goes under; while Ben can try to replace the entirety of the private credit market I wish him the best of luck in that endeavor, given that it is some fifty trillion dollars. How much faith will the world have in The Fed when it tries to backstop a $50 trillion marketplace with under $1 trillion in banknotes? It has already doubled its balance sheet - but this would require expanding it by twenty five more times.
He's going to fail at this endeavor in truly-spectacular fashion.