Tuesday, 27 June 2017

Why Aren't All Governments Issuing 100 Year Bonds?

Argentina has just issued a 100 Year Bond. They offered $2.75 billion in bonds with a fixed coupon of 7.9%. Despite the duration of the bond going beyond the lifetime of any average human being, speculators clamoured to buy it. They received $9.75 billion in orders, meaning that it was covered at a rate of nearly four times. So, the question is, why aren't all governments taking advantage of lifetime low rates ofinterest, around the globe, to borrow over these long periods?

Just to be clear what the fixed coupon on such a bond means; its this. If you buy a $1,000 bond, at par, in other words, you actually pay $1,000 for it, then every year, for the lifetime of the bond, you will get paid a fixed amount of money, say $100, which is the coupon. That is the equivalent of 10% interest. In fact, because the demand for such bonds, may be more or less than is supplied, the actual price that the bond is bought and sold for may be more or less than its face value. If the demand for the bond exceeds the amount of bonds issued, the price of the bond will rise, and vice versa. If the price of bonds rises, then the fixed coupon payment on them represents a lower rate of interest, or yield.

Suppose, the price of the bond rises to $1,250. In that case, the $100 coupon represents a yield of only 8%. Bonds that have been already bought get traded in the global bond markets, in the same way that shares are traded. The prices of all these bonds move up and down for a variety of reasons, and the movement of the bond prices then affects the yield on those bonds, which also plays into speculators considerations of how much they are prepared to pay for shares, or property, in order to obtain dividends or rent. There are then two things the speculators are interested in when it comes to such bonds, and the same applies to shares and property. One is the yield such assets provide, i.e. how much does it pay the owner in coupon, or in dividends or in rent. The other is the capital gain or loss. In other words, if I buy a bond for $1,000, it may rise in price to $1,250, in which case, although the rate of interest it pays me falls from 10% to 8%, it provides me with a $250, or 25% capital gain. The two things are inversely correlated.

The 7.9% fixed coupon that Argentina is providing on this bond might seem quite high, but this is Argentina we are talking about. Not the world's safest place to lend your money. The yield on an Argentinian 10 Year Bond, for example, is around 4.75%, compared to 1%, for a UK Ten Year Gilt. The current Yield on the UK 30 Year Gilt, is only 1.68%. One could easily imagine that the UK could sell a 100 Year Bond, therefore, with yields of only around 3 to 3.5%.

Imagine that you are a 20 something house buyer, and the bank offers you the possibility of a 100 year fixed rate mortgage at an interest rate of 3%. Or, imagine you are a business that needs money-capital to buy buildings, machines and so on, and the bank offers you a loan on the same basis. If you had any sense, you would snap their hand off. The reason being that over time the effect of inflation is to reduce the actual value of the interest payment. Suppose, you had borrowed £3,000 in 1960, at a fixed 3% rate of interest. It would have bought you a very nice above average house. Wages at that time were on average less than £1,000 a year. The interest on the £3,000 loan would have been £90, or the equivalent of about 5 weeks wages. However, consider what the position is nearly 60 years later. The £3,000 would today be a £280,000 house, and the £90 of interest per year, would amount to only about one day's wages, for someone on average earnings.  And, in the intervening period, your would have been laughing all the way to the bank when mortgage rates rose to over 15% in the early 1990's, and you could just have put what spare cash you had from the original loan into the bank, that would have paid you multiples in interest of what the loan was costing you.  If you had known you would have borrowed not £3,000, but £30,000, if they would lend it to you!

For the last 35 years, global interest rates have been in a secular downward trend. The underlying basis for that is that the supply of money-capital exceeds the demand for money-capital. The initial cause of that was that in the early 1980's, when this trend started, there was global stagnation. Businesses did not want to accumulate addition capital, and for what they did want to accumulate, their profits were more than adequate. By the late 1980's, and into the 1990's, although businesses did begin to accumulate capital, rapid changes in technology meant that the prices of a lot of the machines and other fixed capital they were buying was becoming ever cheaper, both in real terms and absolutely. That meant that all of the fixed capital stock suffered a significant moral depreciation, which causes the annual rate of profit to rise.

For example, in the mid 1980's, I went to computerise the payroll and accounts system of a local engineering company, and to provide them with a computer system to monitor their workflow. The firm already had CnC lathes and milling machines, which were semi-controlled by computer programmes stored on punch cards. One of the things they asked me to look at was putting those programmes on a PC, with an interface to the machine. PC's, even by that time had become so cheap that this became possible.  These same increases in productivity that had been driven by an incentive to introduce labour-saving technologies in the late 1970's, and early 1980's, had also acted to raise the rate of surplus value, and subsequently the rate of profit. Across the globe, businesses were making larger masses of profit, whilst the cost of their fixed capital was falling, and wages were also falling in real terms, and sometimes absolutely.

Even as capital accumulation proceeded, therefore, the mass of realised profits increased even faster, so that the supply of loanable money-capital kept rising faster than the demand for it, pushing global interest rates to ever lower levels. And, the other side of these lower interest rates, as set out above is that the prices of financial assets rise. It was this continual fall in global interest rates, that sent the prices of shares, bonds and property ever higher during the 1980's, and 1990's. But, this has perverse effects.

In the 19th century, in the era of the monopoly of private capital, private capitalists and their families, held their wealth in the form of actual capital, just as previously the landlords held their wealth in the form of land. They owned businesses, and all of the buildings, machines, materials etc. that made up those businesses. They owned the actual capital that produced the profits, and they took their income in the form of those profits. But, by the latter half of the 19th century that had changed. The most important part of the economy was made up of firms that were themselves legal entities, corporations, that owned the capital. The private capitalists were reduced to the role of being merely money lenders to such companies, and instead of receiving their income as profits, they received their income as interest on the money they had loaned to these companies. They received dividends on shares, and coupon on corporate bonds and debentures. Its what leads Engels to talk about them being reduced to a bunch of “coupon clippers”.

The continual fall in global interest rates has perverse effects, because it means that as the prices of the financial assets, fictitious-capital, in the shape of shares, bonds and property, continually rises by huge amounts, so the yields on these assets go lower and lower. The revenue of all these coupon clippers depends upon the yield, and so we see the phenomenon that Andy Haldane at the Bank of England described, whereby in the 1970's the proportion of profits going to dividends was only around 10%, whereas today it is around 70%. In other words, because these large shareholders have control over company boards, and appoint the top executives, to look after their interests, rather than the interests of the company, more and more of company profits goes to pay dividends, as dividend yields fall, and less and less, as a proportion goes to real investment in the business.

So, long as the mass of profit is rising by large amounts, as it was in the 1990's, that does not matter so much, because even a smaller proportion of this profit, going to accumulation, can still amount to a larger absolute amount of capital accumulation, and growth. It becomes a problem when that mass of profit starts to grow less rapidly, and when the amount paid in dividends still increases proportionally. And, at the same time, the mass of profit itself depends, both on the rate of surplus value, driven by rising productivity, and on the amount of capital/labour-power employed. If accumulation slows, so that the amount of labour-power being employed slows, and/or if the rate of surplus value falls, because productivity growth slows, then the mass of profit will grow more slowly, which creates a vicious circle, because then less capital is available for accumulation, and so on.

The reason we have seen such dramatic, and so many financial crashes in the last thirty years, is because financial asset prices have been continually driven higher, whilst that same fact has drawn more and more loanable money-capital into speculation in such assets, and away from capital accumulation. Financial asset prices have been driven ever higher, but the material basis for maintaining those asset prices, in the longer term, the ability to produce ever larger masses of profit, has been undermined by the same process, because ever larger masses of profit requires, ultimately ever larger accumulation of capital.

And the other perversion that these high asset prices has caused is that the owners of fictitious capital, lost interest in obtaining yield as a source of revenue, and instead became fixated on the capital gains they were making as their shares, bonds and property appeared to magically increase in value, year on year, month on month, day by day. The global top 0.001% own nearly all of their wealth in the form of this fictitious capital. It is the astronomical rise in the prices of these assets that gives the large rise in inequality of wealth that has been seen. Not surprisingly, the owners of this fictitious paper wealth, are keen not to see it disappear in a puff of smoke, as threatened to happen with the stock market crash of 1987, the property market crashes of 1990, and 2007-2010, or the Tech Wreck of 2000, or the financial meltdown of 2008. They want their representatives in the global central banks to keep the prices of all this paper inflated at all costs, including the cost of undermining the real economy.

And, that is why governments are not taking advantage of lifetime low interest rates to issue large amounts of 50 year, or 100 year bonds, so as to be able to invest in all of the infrastructure that their economies require, in roads, railways, broadband, telecommunications, schools, houses, hospitals and so on. Instead, the other side of propping up the paper wealth of the top 0.001%, by using money printing to buy up bonds, and keep their prices inflated, and then bailing out the banks when they go bust, is instead to impose austerity on spending, and to demand that the debt be cut at all costs.

Britain needs massive amounts of such spending to modernise its economy. Its estimated that the US needs at least $2 trillion of such infrastructure spending just to make repairs, let alone to modernise it. Similar investment is required across Europe. But, instead of central banks printing money to fund such vital projects, the central banks have instead printed money to simply stuff into the pockets of those that own all of the paper wealth, so as to keep that paper wealth at its current level. Britain could take advantage of being able to borrow at such low rates to finance its spending on infrastructure. So why don't they?

Over the last few years, companies like Apple and Microsoft that have masses of available cash on the balance sheets, have taken advantage of these historically low interest rates to borrow even more. They have used the money sometimes to buy back shares, which again inflates the share price and flatters the company's earnings per share figures. But, often the money has sat on the company balance sheet, the companies have borrowed at next to zero interest rates, just because they could, and because such opportunities may not exist in future. There is no reason why a government, like a company, or a house-buyer, would not rationally take advantage of these interest rates, which are the lowest they have been in 300 years, and may never be seen again, to borrow to meet its needs for capital spending way into the future. As inflation rises, and it will certainly rise significantly over the next 100 years, it will make the interest payments become lower and lower in real terms.

In the end its interest rates that control share prices.
Even when the economy and profits are growing,
rising interest rates cause share prices to fall in real
terms, and the same process causes bond and property
prices to fall, because those prices are based on
capitalised revenues.  Its the interest rate that most
affects the capitalisation process, especially at
absolute low levels of interest.
But, the reason that governments have not being doing that should be clear from the above. The rate of interest is determined by the demand and supply of money-capital. A major source of additional supplies of money-capital comes from realised profits. But, as the accumulation of real capital slows down, and as productivity slows, so that the rate of surplus value does not increase so fast, so the growth in the mass of profits slows down. That is already being seen, and it worries central banks, because asset prices have been massively inflated with nothing, really underpinning them. The only thing underpinning global bond, share and property markets is money printing by central banks. The US Federal Reserve, even today, having stopped QE last year, still buys large amounts of US bonds, because it replaces, with new purchases, all of the bonds it holds that each month reach maturity. The ECB is still actively adding to its stock of sovereign and corporate bonds. All of that buying pushes up the prices of those bonds, and pushes down their yields, which then has a knock on effect on shares, and property values. But, if profits begin to shrink, no amount of money-printing and buying of assets by the central bank will prevent those asset prices crashing, and crashing much harder than they did in 2008.

The central banks are trying to remove the adrenalin drip to these financial assets. But, they did that before. In the early 2000's, profits and growth were rising rapidly. Inflation also began to rise rapidly, and central banks started to raise their official interest rates, and pull back some of the liquidity they had been pumping into the system over the previous twenty years following the crash of 1987. The increases were modest, but it was enough to cause asset prices to start falling, and that was enough for all those banks and others that had made unsafe loans and mortgages, based upon ridiculously inflated property prices to go bust. But, things have not improved in the last ten years, they have got worse.  Global banks balance sheets are even more based upon a total fiction of asset prices.

Asset prices have been not only reflated, but inflated beyond the ridiculous levels they were at in 2007/8. In 2008/9, the Dow fell to 7,500, and now stands at over 21,000.  It is 50% higher than the Dow reached prior to the 2008 crash.  The diversion of money-capital into speculation rather than accumulation of real capital has further undermined the potential for profits growth. The rate of growth of productivity is slowing down. The US Federal Reserve has been raising its official interest rates, and is set to continue. It is now also saying that it will stop replacing the bonds it holds on its balance sheet as they mature. It has had little effect on the real US economy, because, in reality, the interest rate that consumers pay on credit cards etc., or that businesses pay for business loans, where they can get them, has become totally divorced from the official interest rates. But, it hasn't caused US bonds to fall in price either, because for one thing, the ECB is still buying large amounts of bonds, which means that liquidity is put into global capital markets, which finds its way to US bond markets.

I think its unlikely that central banks will withdraw their adrenalin drip without there being a financial crash, but that financial crash is coming anyway, because asset prices are astronomical, whilst profits growth is slowing, and necessarily slowing. The obvious thing for governments to have done over the last twenty years was to borrow money with the issue of very long dated bonds, and to use this money to modernise their infrastructure and their productive potential. They did not do so, because during all that time they were mesmerised by the astronomical rise in asset prices, that seemed to conjure wealth out of thin air. A veritable magic money tree. And now they are trapped. The experience of 2008, told them that if these financial asset prices crash, it can have other effects.

Large numbers of Tory voting homeowners, who have seen their house prices rocket by 2000% since 1960, or 500% just from the late 1980's, will not be best pleased when house prices fall by 80% from their current levels, to get back to the historic averages. All of those who have their wealth in the form of billions of bonds and shares, will not be pleased when those values drop by 75%, as happened with the NASDAQ in 2000, when reality bit. Yet, the truth is that none of that actually should change anything. A house is still the same house, provides exactly the same comfort and shelter whether its price is £200,000, or drops to £40,000. The drop in the value of shares, does not change the ability of the factories, and machines within them to continue producing goods and services. All that is actually required is that the state ensures that the method of making payments to provide the necessary currency for such transactions to occur, remains functioning.

That is what should have happened in 2008, allowing the banks to go bust, and share, bond and property prices to collapse back to reasonable levels. But, the central banks real interest is not with the real economy. The reason they keep their official interest rates low, and engage in money printing has nothing to do with stimulating the real economy. It is designed to keep asset prices inflated, and thereby protect the paper wealth of the top 0.001%. That is also why governments have not been taking advantage of these record low interest rates to modernise economies, and provide a sustainable basis for economic growth and prosperity.

If governments, issue large amounts of bonds, and use this money-capital for spending on infrastructure and so on, that is money that is not going into stock, bond and property markets to inflate those asset prices. It represents a demand for money-capital, which thereby causes interest rates to rise, and causes bond, share and property prices to fall. The real economy is being sacrificed on the altar of the belief in fictitious-capital.

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