Saturday Quiz – November 12, 2011

This Post Has 6 Comments

1. I wanted an explanation for something, so maybe I can drop it here if it doesn’t distract?

   I just wanted a simple explanation for the process of issuing bonds (in the Eurozone).

   BBC tonight report that

   “According to Bloomberg data, the yield on French ten-year bonds is still just under 3.5%. Now to put that into context, the equivalent UK bond yield is around 2.2% and Germany’s is 1.8%. In fact, the gap between what Germany and France have to pay to borrow is now at its widest for something like 20 years.”

   What does this mean? How does it work? What are the implications, wider issues?

   As simple and exhaustive as anyone cares to make it would be excellent (and a public service imo!)

   But if it’s just a distraction, or no-one cares, pardon my asking. 😉

2. What does this mean? How does it work?
   It means that previous issued french government bonds, now being traded in the secondary bond market, are less attractive than previously issued German bonds trading in the same market. The relationship between interest rates and prices of bonds is inverse. If sellers are having difficulty selling the price lowers which means the yield, a calculation of the overall return on the bond including interest payments, length to maturity and final redemption value compared with the current price, is higher.

   What are the implications, wider issues?
   Conventional wisdom says because the yield reflects the price that Govts willl have to offer on future bond issues, when it gets to a certain level, it is deemed unsustainable. From that point on all hell seems to break loose and the yield moves even higher and we’re in bailout territory.

   This does not happen in the UK, US or Japan because each has its own central bank which can buy up any unwanted bonds on future issues. Central banks have unlimited capacity to increase their balance sheet in their currency. The markets know this and they know that these countries will never default i.e. not repay the bond price.

   Each euro country’s bonds do not have this guarantee. The ECB will not guarantee future bond issues. It does appear to make some effort in stabilizing yields in the secondary market by buying and selling those bonds. I admit I’m not sure why it does this. There does not appear to be a set policy. In other words it makes it up as it goes along.

   This is where politics comes into it. The ECB would appear to be under the control of Germany and the Cabal that Bill talked about in his previous blog. Germany wants its euro relatives to be like Germany, to stick to the rules because it fears that excess spending by these countries above taxes they collect will destabilise the currency. They have a point.

   Instead however of allowing the ECB to use the guarantee, mentioned earlier, and then sitting down with their euro relatives to agree a common fiscal policy (which is ultimately esssential) they are happy to force these countries to impose massive spending cuts and tax rises on their own people before they allow said guarantee. In my view this is not very clever as you never know what people are going to do when they get really angry.

   Disclaimer
   This is a personal view. Bill has written many times, in great detail, about the nature of government bonds and how they work. You can find all these blogs in the categories on the right hand side of this page. Go seek them out.

3. Ok, In regards to question 1 “At present Greece (and all the EMU member nations) face insolvency risk. If Greece left the Eurozone and re-established its own currency, converted all euro liabilities to their own currency, they would eliminate that risk on all future liabilities.”

   My lecturer at Adelaide Universtiy, who studied at LSE, and also highly reccomends the ‘Bilbo blog’, said that greece was in a tough predicament mainly due to it’s hands being cut off by giving up its right to create it’s own monetary policy. Furthermore he stated that if Greece had the opportunity to ‘ “print” more money’ then it could ‘in theory’ pay off its debts, albeit a propellant of inflation and perhaps hyperinflation.

   This is why i answered true. Now befuddled i would like to be straightened up on the issue.

4. Would appreciate it if Bill could offer some insight into the significance of the following article re US debt downgrade proposal?

   Chinese ratings agency threatens US with new debt downgrade

   ‘The head of China’s biggest ratings agency, Dagong Global Credit Rating, is warning that it may downgrade the US’s sovereign debt rating again because of Washington’s failure to tackle the federal budget deficit.

   The remarks by Dagong’s chairman, Guan Jianzhong, to be broadcast in an interview with al-Jazeera on Saturday morning, come at the end of another week of deep turmoil for the world economy.

   Dagong, which has maintained a pessimistic outlook on US fiscal policy, has been leading the charge to downgrade US debt over the last 12 months, lowering the US rating from AA to A+ a year ago.’

   http://www.guardian.co.uk/business/2011/nov/12/chins-threatens-us-with-new-debt-downgrade?CMP=twt_fd

5. Dear Bill

   according to MMT banks deposit don’t drive loans ’cause banks can borrow directly from the central bank

   but in Italy at the moment banks are attracting deposits paying up to 4-4,5% interest when they could borrow from the ecb at roughly 1,25%

   how do you explain such behavior?

6. I struggle to understand the questions let alone hazard a guess at the most probable answer – but I will persevere.