The Biggest Bubble in History

Regular readers will be aware that I believe that American government debt (and by extension, cash) is in a once-in-a-century bubble.

A recent article from Bloomberg typified this ongoing (and quite hilarious) insanity:

The biggest bond gains in almost a decade have pushed returns on Treasuries above stocks over the past 30 years, the first time that’s happened since before the Civil War.
Fixed-income investments advanced 6.25 percent this year, almost triple the 2.18 percent rise in the Standard & Poor’s 500 Index through last week, according to Bank of America Merrill Lynch indexes. Debt markets are on track to return 7.63 percent this year, the most since 2002, the data show. Long-term government bonds have gained 11.5 percent a year on average over the past three decades, beating the 10.8 percent increase in the S&P 500, said Jim Bianco, president of Bianco Research in Chicago.

The combination of a core U.S. inflation rate that has averaged 1.5 percent this year, the Federal Reserve’s decision to keep its target interest rate for overnight loans between banks near zero through 2013, slower economic growth and the highest savings rate since the global credit crisis have made bonds the best assets to own this year. Not only have bonds knocked stocks from their perch as the dominant long-term investment, their returns proved everyone from Bill Gross to Meredith Whitney and Nassim Nicholas Taleb wrong.


When will the bond bubble end? It will end when the people and governments of the world tire of giving their pound of flesh to creditors. Creditors and debtors have fundamentally hostile interests — debtors want to take money without paying it back, and creditors want to take value without getting their hands dirty. A history of the world (the decline of Rome, the decline of Britain, the decline of America) is in some ways a history of hostility between creditors and debtors.

This hostility has been tempered (and conflict delayed) since the Keynesian revolution, by mass money printing. Everyone (except savers) wins — creditors get their pound of flesh (devalued by money printing), and debtors get the value of their debt cut by persistent inflation.

But there is an unwanted side-effect. Debt mounts & mounts:

And eventually, debt repayment means that “kicking the can” becomes “kicking a giant mountain of debt” — a very painful experience that necessitates either painful austerity, or huge money printing — neither of which encourage savings, or investment.

Europe, on the other hand, has decided to skip the can-kicking (“price stability, ja?“) and jump straight to the cataclysm of crushing austerity for debtor nations. Unsurprisingly, Greeks don’t like being told what they can and cannot spend money on. Surprisingly, the Greek establishment have decided to give the Greek people (debtors) a referendum on that pound of flesh Greece’s creditors (the global banking system) are so hungry for. Default — and systemic collapse — seems inevitable.

(UPDATE: Greece, of course, has undergone a Euro-coup and is now firmly under the control of pro-European technocrats — creditors will get their pound of flesh, and Greece will get austerity)

Some would say Europe has forgotten the lessons of Keynes — print money, kick the can, hope for the best. But really, the Europeans have just hastened the inevitable endgame every debtor nation faces. With a mountain of external debt crushing organic growth the fundamental choice is default, or default-by-debasement. That’s it.

And that is why, however elegantly America massages its problems, American government bonds are in a humungous bubble.

13 thoughts on “The Biggest Bubble in History

  1. Completely agree, although I must say waiting around for the inevitable is consuming more of my life than I’d like. Can’t we just get on with it? Will Greece show us the way, in addition to being the trigger for greater global events?

    My only beef is that I wish we could come up with a more accurate name for what all are calling Keynesian economics. We have never saved during the good times in order to have a funding source during slower times. We have only borrowed ever more, at falling rates, and pretended it was the same as investment from savings. It’s not, as will soon enough be obvious to all.

    • What most of the economics blogosphere refers to as “Keynesian” economics is really “borrow as much as we want whenever we want and use whatever justifications we can find to justify it” economics. Deadbeat economics.

      On the other hand, by “Keynesian” economics in this context I specifically mean governments intervening in markets to prevent prices from falling and raise aggregate demand. That’s the mechanism that has effectively abolished deflation.

  2. Ran across this great summary today:

    ““If consumers don’t earn, they can’t spend, and aggregate demand goes down. Substituting easy credit for better wages is not a recipe for economic growth. A nation can (should) only consume in proportion to what it produces. Borrowing money to import the fruits of other countries’ labour is not economic growth. Neither is selling off capital assets to be able to import consumables”

    It’s a kick to read/listen to the daily blather on the details of little ups and downs in the markets and economy as a whole. Yet very, very few step back and take the longer perspective or check the trends and structural changes that have put us where we are. When the eventual contraction comes how many will be surprised, and how many will really understand?

  3. TJ,

    WW3 already started! Its being faught with electronic 0’s and 1’s. Its you vs. the banksters and their bought for Gov. officials.

    China knows this and is winning. They just bailed out their own banking sector (again) and somehow they are going to save the EU’s behind? Kind of like drying off by stepping out of the shower into the rain.

    But, atleast they make stuff and saved some money along the way. That they pay their citizens slave labor wages and polute their land is not my problem.

  4. Aziz,

    A bit from fefal’s site on a predicted Arg. Pesos devaluation.

    “The last measure by the recently re-elected Crisitna Kirchner can only be described as pathetic and desperate. While the “official” dollar price is 4.26, on the street they are selling it for as much as 4.86 if you can find it.

    Last Friday the vice president announced that to buy US dollars people will have to show their IDs, their wage bill to determine income, and then go through a background check with the Argentine tax collection office, the AFIP. What was embarrassing was to see that today as people panicked to buy US dollars, the media that is in the government’s pocket explained why people should not worry.”

    PS As, from my other readings, its always the black market who seems to figure out what is “really” going on.

  5. Oh, one more thing AZ,

    I really liked your last two posts! I printed out the the inflation/deflation chart from the last post and will keep until the American hyperinflation period.

    After that, it will be worthless. (In a good way!)

    • Thanks,

      I think my optimism about Argentina is somewhat blinkered by the fact I am happy to at least tolerate any leader who will stick it to the bankers. Obviously Argentina has problems (massive inflation) but in this case I’d say it’s going to come out of this decade having gained more (or lost less) than those other nations who aren’t happy to default (thankfully for Greece, it looks like they have the balls to do it).

      The abolition of deflation (I hope) will serve as a key historical fact when historians in the future look at the events of the present and the near-future. The lesson is that immediate-term stability (abolishing something, deflation, that has historically been quite painful) at the cost of long-term fragility is not worth the trade-off…

      • Aziz,

        Wer’e all this thing together! Learning and relearning about our past, present and future is part of the fun of life! But please, no Christmas ghosts!

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