THIS COULD BE THE LAST TIME
Let us begin with what used to be called a “back of the envelope”
calculation, only this one is done with a spreadsheet. The US Treasury
maintains two sets of numbers which indicate the present state of their
funded debt. One is called the debt “to the penny” - the other is called the
debt “subject to limit”. As of Monday, November 19, the debt to the penny
stood at $US 16.286 TRILLION while the debt subject to limit stood at $US
16.247 TRILLION. The discrepancy between these two totals is $US 39
Billion and has remained constant since the start of fiscal 2013 on October 1.
The current Treasury debt “limit” is $US 16.394 TRILLION. That means
that as of November 19, the debt to the penny was $US 108 Billion below
the limit while the debt subject to limit had a “leeway” of $US 147 Billion.
Both of the totals had increased by $US 220 Billion since the start of fiscal
2013. Were that rate of increase to remain constant, the debt to the penny
would hit the limit on December 13, 2012 with the debt subject to limit
following just over a week later on December 21. The Treasury must be
running a similar spreadsheet. Ever since August, they have been predicting
that the current debt limit will be hit “before the end of 2012”.
The last time that the US Treasury officially hit its debt subject to limit was
on May 16, 2011. The debt limit was actually raised - in the first of three
increases - on August 2, 2011. Thus, the Treasury was able to delay the
“default” of the US government by eleven weeks by means of its now well
honed “extraordinary measures”. A repeat would enable the Treasury to
postpone the day of reckoning until the second week of March 2013.
As for the deliberations on a new debt limit and the “fiscal cliff”, the US
Congress is winding down the year fast. The House will be in session for
four days between November 27-30. After that, there are eight sitting days
left in the year - December 3-6 and 11-14. The newly-elected 113
Congress meets for one day on January 9, 2013 and goes into session after
the inauguration of President Obama on January 21. The 2013
congressional calendar has yet to be released. In January 2012, the House
was in session for six days. There’s a lot to do and not much time to do it.
The Sooner The Better?:
In tandem with his predecessors stretching back at least two decades, Treasury Secretary Geithner would
like to see the debt “limit” eliminated altogether. To quote a remark he made in a recent TV interview - “the
sooner the better!”. Alan Greenspan is no longer Fed Chairman so he too can be blunt. When CNN asked
him for a comment on the proposition that there had to be a “better way” to deal with the debt ceiling, his
response was instant - “Yep, repeal it”. Every year, the temptation grows to simply sweep this
anachronistic 1917 impediment out of the way. It will be intense as we enter 2013.
The Lead Up To August 2011:
On December 28, 2009, a bit more than a year after the Fed had inaugurated its ongoing ZIRP (Zero
Interest Rate Policy) by lowering its funds rate to 0.00-0.25 percent, President Obama signed a bill which
raised the Treasury’s debt limit by $US 290 Billion - from $US 12.104 to 12.394 TRILLION. A bit more
than six weeks later on February 12, 2010, he signed another bill which raised the debt limit by another $US
1.9 TRILLION to $US 14.294 TRILLION. There were no “strings” attached to either of these bills, the US
government merely gave its Treasury permission to borrow another $US 2.19 TRILLION.
That cumulative $US 2.19 TRILLION debt limit increase saw the US government through the year of 2010
and the mid-term Congressional elections. Then, on January 3, 2011, the White House Council of
Economic Advisors was quoted as saying the US government would “probably” have to raise the limit on its
Treasury borrowing over the coming year and that it would be foolish to politicise the issue. The exact
quote went like this: “The debt ceiling is not something to toy with.” On January 5, 2011, two days after
this warning from the White House, the new House of Representatives convened and duly elected a speaker.
The new House was controlled by the Republicans and the speaker they chose was Mr John Boehner.
Speaking for his colleagues, Mr Boehner pledged to vote once a week on bills which would cut spending.
Then, on January 6, 2011, Treasury Secretary Tim Geithner sent an “open letter” to the leader of the
Democrat-controlled Senate, Mr Harry Reid. The purpose of the letter, which Mr Reid duly and instantly
publicised, was to urge an immediate increase in the Treasury’s debt limit. Mr Geithner predicted that the
debt could hit the limit as early as March 31, 2011. When pressed for further details, he offered a time
frame of between March 31 and May 16, 2011.
The Treasury’s official “debt to the penny” actually exceeded the limit on April 15, 2011 and remained there
for four days until April 19. On April 18, Standard and Poor’s (S&P) declared that it was cutting its “ratings
outlook” on US sovereign debt from “stable” to “negative”. S&P had watched the US government burn its
way through more than $US 2 TRILLION of new borrowing in a period of not much more than a year with
perfect equanimity. The thing that led to this “sudden” announcement in mid April 2011 was not the pace of
US government borrowing but the prospect that another increase in the Treasury’s credit card “limit” might
not be the routine event that everyone had assumed to would be.
As a salutary lesson that the US Treasury can estimate very closely if it wants to, the debt “subject to limit”
hit $US 14.298975 TRILLION - $US 25 million below its limit - on May 16, 2011. The April overshoot
was capped by the government’s April tax revenues for a bit less than a month. The debt subject to limit
was duly frozen at that level for the next 2.5 months while the US Congress engaged in what has come to be
known as the debt limit circus of mid 2011.
So What Actually Happened - “The Last Time”?:
On May 3, 2011, two weeks before official Treasury debt totals were frozen, Mr Geithner had stated that
the “extraordinary measures” being undertaken by the Treasury to postpone US debt “default” could be
maintained up until - but not beyond - August 2. Throughout May and June 2011, the Treasury was greatly
aided by the Fed in their efforts to keep their debt under the limit. The problem, both for the US
government and for US politicians, was that the Fed’s second foray into “quantitative easing” - QE2 - was
scheduled to end on June 30, 2011. Chairman Bernanke never tired of telling people that this did NOT
mean that the Fed would stop buying Treasuries “cold turkey” - they could and would still be spending the
proceeds from their ($US 2.8 TRILLION) balance sheet on US government IOUs. It DID mean, however,
that the amount that the Fed had to spend on Treasuries was going to contract.
It was in this context that the wild ride of July 2011 took place. The result was a “promise” that taxes would
rise and spending would fall - by law - at the end of December 2012. In return for that, the US Treasury got
its first of three debt limit increases on August 2, 2011 - right on schedule. The Congress and the White
House had taken it right to Mr Geithner’s deadline. They could not take it further. So they didn’t.The Privateer - Number 717 Page 3
A Quick Aside - On Unsustainable Debt:
On November 21, 2012, it was reported that European Finance Ministers meeting in Brussels had failed to
agree on the latest debt-reduction package for Greece. Core European holders of Greek sovereign debt -
including Germany - are refusing to put up fresh money (throwing “good” after “bad”) or to offer debt relief
(by attempting to lower the rates on Greek debt). On top of that, there was a “clash” with the IMF over the
Europeans’ plan to grant Greece another two years to get its fiscal house in some kind of “order”. Officially,
the IMF doesn’t want to “play” because its bylaws bar it from lending to countries with “unsustainable
debts”. And who defines what is “unsustainable”? The IMF, of course.
In the case of Greece, the IMF has defined “unsustainable” as a sovereign debt load exceeding 120 percent
of GDP. As part of the European deal which the IMF is not happy with, Greece has been granted two extra
years - until 2016 - to cut its annual deficits to 2 percent of GDP. There are very few nations in the world
today which can boast of running deficits of less than 2 percent of GDP. There are few prospects that their
ranks will be swelled in the foreseeable future.
As a comparison, look at the situation in the US. Between December 2009 and February 2010, the
Treasury’s debt limit was raised by 2.2 TRILLION. Between August 2011 and February 2012, it was
raised by another $US 2.1 TRILLION. Sometime between the end of this year and March 2013, it will
need to be raised again (or abolished). As for deficits as a percentage of GDP, the official figure for US
GDP at the end of fiscal 2012 was $US 15.775 TRILLION. US Treasury funded debt grew by $US 1.276
TRILLION in fiscal 2012. That’s about 8.1 percent of GDP.
How does the IMF “know” that Greek sovereign debt is “unsustainable”? They can tell by looking at the
interest rates being demanded on the secondary market for Greek debt paper. How does the IMF know that
US (or Japanese or British or ...) sovereign debt is “sustainable”? By using exactly the same procedure. US
(and British and Japanese and ...) debt is “sustainable” for as long as the central banks in these nations can
keep the rates on their sovereign debt down buy buying it with the “money” they have the sole power to
create. Why is the US economy still officially “growing” while the other economies are not? Because the
US has the further advantage of issuing the world’s reserve currency and thus has many more actual and
potential buyers for its government debt than does any other nation in the world.
The August 2011 Debt Deal:
On August 1, 2011, the US House of Representatives passed the “Budget Control Act Amendment of
2011”. The law began with a clause which made sure that the “third” branch of government, the Supreme
Court, could not hamper it in any significant way: “If any provision of this Act, or any application of such
provision to any person or circumstance, is held to be un-constitutional, the remainder of this Act and the
application of this Act to any other person or circumstance shall not be affected.”
Having got that out of the way, the bill proceeded to put “conditions” on the next increases to the Treasury’s
debt limit. All of these conditions have been exhaustively reported on ever since. None of them has yet
been complied with. What is going on in Washington DC as the clock ticks down towards the next debt limit
increase is redolent of what went on in June - July 2011.
On the lighter side, here are two suggestions made in 2011 by a Constitutional scholar at Yale Law School to
“solve” the debt ceiling crisis. First, he pointed out that the Treasury has the power to issue platinum coins
in any denomination. The Treasury could solve the debt ceiling crisis by issuing two platinum coins in
denominations of $US 1 TRILLION each, depositing them into its account in the Federal Reserve and
writing checks on the proceeds. The other idea was for the federal government to sell the Fed an option to
purchase government property for $US 2 TRILLION. The Fed would credit the proceeds to the
government’s checking account. Then, once Congress lifted the debt ceiling, the president could buy back
the option for a dollar - or it could simply be marked to expire in 90 days. Neither of these “suggestions”
was implemented in 2011. We have no idea if they will be considered again in 2013.The Privateer - Number 717 Page 4
The Four Major Possibilities For 2013:
There are four likely “scenarios” for what will happen when the US Congress - and the president - come up
against the limit to the Treasury’s credit card sometime in the first quarter of 2013. The first one is the most
obvious. They could simply abolish or “repeal” or draw a line through the legislation which set up the debt
limit in 1917. There is no shortage of eminent US historians, economists, captains of industry, politicians,
legal scholars, bankers, investors and others from all walks of life advocating this procedure.
If the US Dollar was not the world’s reserve currency and US Treasury IOUs were not the world’s
preferred holding of reserves behind their own currencies and financial systems, the Treasury’s debt limit
would have been done away with a long time ago. But the US Dollar IS the world’s reserve currency so the
debt of the US government IS the underpinnings of the global financial system. That being the case, the
system stands or falls on the continuing perception that Treasury debt paper is a viable form of “reserve”
and that the debt of the US government will NEVER become “unsustainable”. An announcement by the US
government that it was getting rid of any “limits” to its debt-generating capacity would put that perception at
risk - quite possibly at grave risk. That is the reason why the debt limit remains - even though it has not
been an impediment to ever increasing Treasury indebtedness for well over half a century. It is easy to
laugh at the seeming absurdity of a Treasury “debt limit” and many people do. Take it away, however, and
the fiction that sovereign debt is “sustainable” - let alone any “confidence” in its eventual repayment - would
be MUCH harder to maintain. Absurdities abound in history, and the more abject the absurdity, the more
tenacious it tends to be. Today, a US Treasury debt “limit” is a very necessary absurdity.
This does not mean that the debt limit will NOT be abolished. But it does mean that the new Congress
convening early next year will be very reluctant to take such a step.
The second possibility is that the US government will follow the lead of one of the few other major nations
which maintains a “debt limit” on its Treasury. That nation is Denmark. Denmark last raised its debt limit
in December 2010. The Danish government did not mess about - they more than DOUBLED the limit from
950 Billion to 2 TRILLION Kroner. The current debt limit of the Danish government is about three times
as much as their official funded debt. If the US government was to increase the Treasury’s “limit” by as big
a percentage as the Danish government did in 2010, they would raise the Treasury’s debt limit from its
present $US 16.394 TRILLION to almost $US 34.5 TRILLION. If they wanted as big a “buffer” between
their current debt and their debt limit, they would raise the Treasury’s limit to almost $US 49 TRILLION.
Like the US, Denmark has its own currency, the Kroner. The Danes did not choose to adopt the Euro in
1999. But unlike the US, the Danish Kroner is NOT the world’s reserve currency.
President Obama To The Rescue?:
The third alternative is a very popular one - especially in Democrat political circles. It was suggested by
many of them during the mid 2011 crisis and was being advocated right up to a few days before the deal was
cut in early August. This “solution” would be for President Obama to do an end run around the whole sorry
mess in the Congress and raise the Treasury’s debt limit by executive order. The rationale for the
President’s power to do this is said to reside in the Fourteenth Amendment, which begins like this: “The
validity of the public debt of the United States, authorized by law, including debts incurred for payment of
pensions and bounties for services in suppressing insurrection or rebellion, shall not be questioned.”
Mr Geithner has advocated this method of getting around the Congress. So has Bill Clinton. So has the
current majority leader in the Senate, Harry Reid. As these gentlemen see it, any reluctance to raise the
Treasury’s debt limit or any “conditions” put on such an action is calling into question - “The validity of
the public debt of the United States”. This is clearly UN-constitutional.
Mr Obama was urged to take this step in 2011 and refrained. He has now been elected for a second and last
term. With no more elections to win or lose, he may not be nearly so reluctant this time. The Privateer - Number 717 Page 5
Let’s Make Another Deal:
This is the last of our four major possibilities. There are variations on all four of them, but these are the
major alternatives. The US government could do what they have been doing for many decades now. They
could just make another deal and go on pretending they have found a solution to an insoluble problem.
That alternative becomes fraught with danger when one considers the situation in which the Congress will be
deliberating for the rest of this year and probably well into next year. The funded debt of the US Treasury
has risen by more than $US 1 TRILLION in every fiscal year since 2008. Fiscal 2012 was the fifth year in
a row and fiscal 2013 has begun with the debt increasing by $US 220 Billion over the first seven weeks of
the year. The Fed has held its controlling rate at 0.00-0.25 percent for more than four years. They have
promised to keep that rate until mid 2015. Barring a catastrophe and/or a market rebellion (which would
amount to the same thing), 2013 will be the fifth straight year of the ZIRP. The Fed bought more than 60
percent of ALL the new Treasury debt sold in 2011. The final “score” for 2012 is not yet in but it is a safe
bet that the total will be even higher. Recent mainstream reporting has put Fed monetisation at over 90
percent of the new longer-term Treasury debt being sold.
But there is one overriding fact which is NOT made it into the mainstream media but which has nonetheless
been reported in many places and never denied by the US government or its Treasury. The budget of the
US government is divided into “discretionary” and “mandatory” categories. There is also a third category
which is interest payments on existing debt but that is also mandatory. For a while now, the government has
not been able to collect enough revenue to meet the demand for its mandatory payments (aka entitlements)
and debt servicing (even at historically low interest rates). That means that the government could cut the
“discretionary” portion of its budget to zero - AND THEY WOULD STILL BE IN DEFICIT.
Please note here that the “discretionary” portion of the budget INCLUDES military spending. Even if that
was cut to ZERO - the deficit would still survive. There is absolutely no prospect of ANY reduction in the
debt of the US government (or most any other government) unless and until a meat axe is taken to
“entitlements”. This would involve a HUGE dismantling of the welfare state, something that neither side of
US politics wants to even discuss. The situation is that simple.
Tax Increases - Spending Cuts?:
Next year, the Sixteenth Amendment which began the regime of taxes on income - “from whatever source
derived” - reaches its centennial in the US. Its major original selling point was that it would only apply to
the “rich”. The implication was that if the “rich” didn’t pay all of the tax then they would at least pay their
“fair share” - a lot more than everybody else. Incredibly, a century later, one side of US politics is STILL
pitching a “tax the rich” “solution” to the current spending and debt morass. Even more incredibly, the man
who heads that side of politics was just elected to a second term as President of the United States.
It is very difficult to overestimate the degree of economic (and historical) ignorance displayed by the current
“negotiations” over the fiscal cliff. The Democrats base their whole “negotiating position” on wringing still
more out of that segment of the US community which already pays the vast majority of their revenues. The
Republicans listened to Mr Obama talking about this ridiculous procedure right the way through the recent
election campaign and came up with absolutely nothing in the way of rebuttal. Meanwhile, the American
people show in the polls that they are all for taxing anybody except themselves while at the same time they
are adamantly opposed to ONE PENNY being cut off their “entitlements”. This is the atmosphere in which
the politicians are sitting down yet one more time to see if they can make a deal which pleases everybody.
A bit more than 20 years ago in Australia, Prime Minister Paul Keating was talking about an interest rate
spike up to 20 percent as - “the recession we had to have”. Ten years before that, Paul Volcker in the US
was presiding over a similar “austerity” program in the US. Today, such episodes have been quarantined to
profligate European “peripheral nations”. Or they have so far. The danger is that this could be the last time
that a “deal” is worked out by US politicians. After that, what’s left of the “markets” will chime in. The Privateer - Number 717 Page 6
INSIDE THE UNITED STATES
MEASURE FOR MEASURE
Here’s the scorecard for the US government for October 2012 - the first month of fiscal 2013: Revenue
was up 13 percent over October 2011 to $US 184.3 Billion. Spending was up 16.4 percent over October
2011 to $US 304.3 Billion. That gave an official budget deficit for the month of $US 120 Billion - up 22
percent on the deficit for October 2011. This is interesting, given the fact that Treasury debt grew by $US
195 Billion in October. That is $US 75 Billion or 62.5 percent higher than the official deficit.
These kind of government accounting discrepancies are routine, of course. Every government practices
them. But in the case of the US, they have the potential to become even more skewed because the Fed is
now openly contemplating a change in the way they manage the financial system to encourage “growth”.
On November 14, the minutes of the FOMC meeting of October 23-24 were released. As reported by
Bloomberg: “Policy makers ‘generally favoured the use of economic variables’ to provide guidance on
when they are likely to approve their first interest rate increase since 2008”.
What are the “economic variables” in this context? Given the Fed’s “dual mandate” of striving for price
stability and full employment, they would be the unemployment rate and the Fed’s preferred measure of
what they call “inflation - the core Consumer Price Index (CPI). That’s the one that strips out “volatile”
prices like food and energy costs. As John Williams has been illustrating for many years on
shadowstats.com and as almost everyone with even a cursory interest in economic variables knows very
well, these are probably the two most “doctored” statistics in the government’s arsenal.
Many members of the FOMC have endorsed keeping the Fed’s ZIRP going unless and until specific
“targets” are reached in these two variables. The President of the Chicago Fed, Mr Charles Evans, has
endorsed maintaining ZIRP until the unemployment figure hits 7 percent and the core CPI remains under 3
percent. Others are more ambitious. Boston Fed President Eric Rosengren wants an unemployment rate of
6.5 percent while “inflation remains muted” while Narayana Kocherlakota of the Minnesota Fed wants 5.5
percent with a core inflation rate of 2.5 percent or less.
According to Mr Bernanke, all this is part of the continuing effort to make Fed deliberations more
“transparent” to the American people. In a sane world, all that would be made transparent would be the
grossly manipulated and distorted nature of these “economic variables”. But in a sane world, the debate
would be centred on the functions and existence of the central bank itself, not on the methods by which it
proposes to prolong its financial manipulations into the distant future. This is one more test of how far wilful
ignorance can go. Pretty well everybody in the US knows that official government “economic variables”
bear not the slightest resemblance to reality. But they are useful - for those who don’t want to face reality.
Creating Numbers - Destroying Jobs:
While the Fed is hard at work coming up with new ways to “reassure” us all about their future intentions, the
private sector in the US is abandoning the creation of real wealth as an undertaking too fraught with risk to
be viable. In the third calendar quarter of 2012, US business investment on new equipment and building fell
to its lowest level since the first quarter of 2009. That was the calendar quarter which so alarmed the Fed
that it bit the policy bullet and embarked on direct monetisation of US sovereign debt (QE) for the first time.
Not only have US businesses reined in their spending on capital goods, most of them have recently
announced plans to curtail their future expenditure plans even further in 2013. This outlook is almost certain
to get worse if the US government gets bogged down in a debt and deficit standoff next year. US businesses
provide the vast majority of US jobs - and ALL productive US jobs. Government statisticians are going to
have their work cut out for them next year producing the fall in the “economic variables” which the Fed is
relying on to prove that their policies are “working”. The old phrase about - “lies, damn lies and statistics”
- is set to take on a whole new level of meaning in 2013. The Privateer - Number 717 Page 7
WHEN THE ZIRP IS NOT ENOUGH
Over the forty years since 1972, the controlling interest rate of the Bank of Japan (BoJ) has averaged 3.30
percent. Its all time high was 9.00 percent set in January 1975 and its low was - and is - the 0.00-0.10
percent which has been fixed by the BoJ since October 2010. Until late in 2008, the US Fed’s controlling
rate had never been below 1.00 percent. The BoJ’s controlling rate has not been above 1.00 percent since
the beginning of 1995. It has not been above 0.50 percent since mid 1995. With the exception of a shortterm bump up to the 0.50 percent level in early-mid 2007, the BoJ’s controlling rate has been at or very near
the 0.00 percent level since the late 1990s.
In the US, the great bear market on Wall Street saw the Dow retreat from 381 at the beginning of September
1929 to a low of 41 in June 1932. That was a fall of just over 89 percent. It took the Dow 24 years - until
1953 - to regain its 1929 highs in nominal terms. The Japanese stock markets peaked at 38876 (closing
basis) at the end of December 1989. Its low closing level since then was 7173 set on March 6, 2009.
That’s a fall of just under 82 percent. The problem is that this low on the Nikkei came nearly 20 years after
its December 1989 peak. It took the Dow 24 years to recover its nominal 1929 high. Next month, it will be
23 years since the Nikkei hit its 1989 peak. Unless the method of calculating the Nikkei is radically altered,
there is no expectation that the index will get anywhere near its highs of nearly a quarter of a century ago in
the foreseeable future. On November 22, 2012, the Nikkei closed at 9366 still 76 percent below its high.
A Sudden Surge:
Looking at the big picture, a stock index which still languishes 76 percent below the highs it set more than a
generation ago is a very doleful picture. But look at the picture more closely and something very different
emerges. As recently as November 12, the Nikkei closed at 8661. Its close of 9366 on November 22 shows
a rise of 705 points or 8.1 percent in the past seven trading days. A spurt of such magnitude on the
Japanese stock market is a rare event, particularly when most of the other major world markets have not
risen by anything like this magnitude over the period in question. So what is going on in Japan?
Looking at the economy, things are going from bad to worse. This was the economic monolith which was
poised to take over the world in the late 1980s. On November 13, it was reported that Japanese
“consumers” have stashed more cash in the banks than at any time since mid 2005. In the third calendar
quarter of 2012, Japanese consumer spending fell by 1.8 percent at an annualised rate - more than four times
the 0.4 percent it fell in the previous quarter. Over that same third quarter, the annualised GDP fell by 3.8
percent. On top of all that, Japan is running a persistent and ever growing trade deficit. This trade deficit is
growing so fast that it has now all but wiped out Japan’s current account surplus. In September, that surplus
was down to 2.72 TRILLION Yen or about $US 34 Billion. That is the lowest figure since the monthly
data began to be collected and published in 1985. The REAL Japanese economy looks as bad or worse
today than it has at any time over the past 23 years. So why the surge on the Nikkei?
Negative Interest Rates:
On November 16, Japanese Prime Minister Yoshihiko Noda dissolved the lower house of the Japanese
parliament to set up what is being called a “snap election” - on December 16. Mr Noda’s party is faltering in
the polls and is expected to be defeated. While no single political party is expected to win, the opposition
Liberal Democratic Party is almost certain to be the senior party in the next Japanese government. The
leader of that party is Mr Shintaro Abe. On November 16, Mr Abe “urged” the BoJ to push its controlling
rates BELOW zero to spur lending. He also urged the bank to pursue “unlimited” easing of monetary
conditions until Japanese prices rise. The current head of the BoJ, Mr Masaaki Shirakawa, is vocally
opposed to any such action. But Mr Shirakawa’s tenure as the Governor of the BoJ ends in April 2013.
Should Mr Abe win in December - he is certain to replace him. The prospect of yet more BoJ “easing” has
attracted a spurt of foreign capital into the Nikkei. The Japanese people continue to shun it.The Privateer - Number 717 Page 8
INSIDE THE EUROPEAN UNION
FOUR AND COUNTING - AND - ANOTHER LAYER OF GOVERNMENT!
If one was to look exclusively at Fitch - the “junior partner” of the US ratings agency “troika” (Fitch, S&P
and Moody’s) - one could count six Euro-using nations which retain the top “AAA” ratings for their
sovereign debt. These are Austria, Finland, France, Germany, Luxembourg and the Netherlands. Take the
troika as a whole though, and the count dwindles to four. Austria and France were downgraded one notch
to AA+ by S&P in February 2012. This put them in the same boat as the US, which was downgraded to
AA+ by S&P in August 2011. Moody’s has not (yet) downgraded Austria, but on November 19 it joined
S&P by downgrading France to AA1, a step it has not yet taken with the US.
In its press release explaining the reasons for its French downgrade, Moody’s has a section which it calls its
“Ratings Rationale”. The relevant item in this section reads as follows: “...unlike other non-euro area
sovereigns that carry similar high ratings, France does not have access to a national central bank for the
financing of its debt in the event of a market disruption.”
There are now four European nations which use the Euro and are still AAA rated by all three of the US
ratings “troika”. These are Finland, Germany, Luxembourg and the Netherlands. But while all of these
nations are still AAA, they all have an official “negative outlook”. The reason why they have this negative
outlook is exactly the same reason that Moody’s gave for downgrading France. Unlike ALL of the other
AAA rated countries in the world, these four nations cannot “print to cover”. They do not have command
of a printing press - electronic or actual - with which to “guarantee” that their debts will be serviced and, if
necessary, “repaid”. Like all other nations, Finland, Germany, Luxembourg and the Netherlands have a
central bank. But that central bank cannot lawfully issue the currency in use in these countries.
What this should bring into sharp focus is the simple fact that the entire world is now at the “mercy” of its
central banks. It should bring into equally sharp focus the fact that governments are relying TOTALLY on
these central banks to preserve the “monetary policy” which makes their “fiscal policy” continue to appear
viable. To use Moody’s own rationale, the rest of the world DOES “have access to a national central bank
for the financing of its debt in the event of a market disruption”. The individual Euro-using nations do not.
This is the essence of the difference and reason why for public consumption, the GLOBAL debt crisis has
been confined to Europe for the past three years.
It is also why the US-based ratings agencies have an almost inexhaustible supply of “downgrades” to deploy
in Europe. The longer the “discussions” over the fiscal cliff and the US Treasury’s debt limit drag out, the
more pressure will be applied to keep the global focus AWAY from the US. What better way to do it but
yet another debt downgrade in Europe?
One Government Too Many:
Unfortunately for the people of Europe, the European Union (EU) has deemed it necessary to have its own
supra-national layer of government located in Brussels. On November 22, the latest meeting of the twentyseven European Finance ministers meeting in Brussels broke up without having approved the EU’s proposed
budget for the years 2014-2020. The original proposal by the EU “Eurocrats” was for a budget of 1.033
TRILLION Euros. Over the course of the meeting, this was reduced to 971 Billion Euros, but that was
deemed too much by several of the nations in attendance and the meeting broke up without an agreement.
One of the major sticking points was the sheer number of Eurocrats - there are 50,000 of them deemed
“necessary” to run the EU. British Prime Minister Cameron was blunt. “More that 200 Brussels staff earn
more than I do”, he said. Mr Cameron makes 142,500 Pounds a year or the equivalent of 176,000 Euros.
Negotiations over the refinancing of the “European government” are routinely not concluded over one
sitting. As the rules stand, the Finance Ministers will have most of next year to come to some kind of
agreement. If they won’t, or can’t, the EU will simply roll over its current budget on an annual basis.The Privateer - Number 717 Page 9
TAKE US TO SOMEBODY ELSE’S LEADERS!
A recent headline in the Australian newspaper makes this statement: “Faith in political leaders collapses”.
The story goes on to say that - “fully two-thirds of Australians do not believe federal and state
governments are working well together, while confidence in the federal government as the most effective
of the three levels at doing its job has plummeted from 50 percent in 2008 to 29 percent today” (emphasis
by The Privateer). The article does not discuss the question of just what the “job” of the government is, it
is implied by the headline. The “job” of the government is to “lead”. Aussies are no different to the citizens
of most of the nations in the world today. They don’t like the direction in which they are being led.
The most doleful aspect of these findings is the unchallenged if unstated assertion that political leadership is
necessary. Like their counterparts across the world, Aussies still think that a nation and its economy needs
to be “run” and that this is the “job” of government. The most encouraging aspect is that the federal
government in Canberra has dropped below local government in public estimation. Local government is now
seen as the most effective layer of government at doing its “job”. By its nature, a local government cannot
get away with the stifling edicts of its “superiors” at the state and especially the federal level. If an individual
strongly disagrees with the direction in which the national government is taking the nation, he or she has no
way out of their jurisdiction except to emigrate. In the case of a state government, all that is necessary is to
cross the state line. And in the case of a local government, all that is necessary is to move a few kilometres
down the road. The more local a government is, the smaller and more constrained it is. The smaller a
government is, the less control it can impose on those it governs. At election time, a ballot paper is all that a
citizen can wield at a national level. At a local level, they can literally “vote with their feet”.
That simple fact puts a cap on the amount of “leadership” that a local government can impose. Aussies are
no doubt fed up with their political leaders - especially the ones in Canberra - with very good reason. But
they have not been weaned off the idea of political leadership. That is a very big further step to take. The
increasing “popularity” of local as opposed to national government is a small step in the right direction.
The Mouse That Roared:
It is not very often that the New York Times - the home of “all the news that’s fit to print” - takes notice of
a legal decision emanating from Australia. But there are exceptions. In early November, an Australian
federal judge handed down a ruling that the US ratings agency S&P was liable for “issuing the topinvestment-grade rating of AAA for a product she described as a “grotesquely complicated” piece of
financial engineering. According to the Times, the exhaustive 623,000 word “finding” of the judge boiled
down to the fact that “no competent ratings agency” would have awarded the rating.
The piece of financial engineering in question was something called a CPDO or constant proportion debt
obligation. Yes, it was a derivative based on the now infamous credit default swaps which were, in this
instance, written against a basket of corporate bonds. And, of course, it was absolutely necessary for the
banks that were issuing this paper to get an AAA rating, something that S&P duly delivered.
The amount of money that S&P is liable for if this judgement is upheld on appeal is laughably small at about
$US 14 million. The much bigger issue, as the Times duly points out, is the potential damage to S&P’s
reputation. It is a well-known fact that S&P was not alone in issuing these spurious “ratings”, the other “bigtwo” of the US debt ratings agency “troika” were in there pitching just as hard.
The only startling aspect of the case is the assertion that S&P (or Moody’s or Fitch) still has a reputation
susceptible to damage. One of the most telling pieces of evidence of the wilful ignorance of those involved
in modern “finance” is that they still profess to take the “ratings” of the US agencies seriously. But it is
significant that it took a judge from the other side of the world to openly state what everybody knew is true
but nobody has dared to come out and say. The judge’s name is Jayne Jagot. Good on her!The Privateer - Number 717 Page 10
THE GLOBAL MARKET REPORT
THE FED LOOKS AHEAD TO THE NEW YEAR
On November 20, Fed Chairman Ben Bernanke gave a speech to the Economic Club of New York. Having
coined the term “fiscal cliff” to refer to the taxing and spending decisions incumbent upon the Congress
before the end of this year, Mr Bernanke could not help but allude to it. He did so as follows: “Cooperation
and creativity to deliver fiscal clarity ...could help to make the new year a very good one for the American
economy.” On the other hand - Mr Bernanke was speaking to an “economic club”, after all - “the
realisation of all the automatic tax increases and spending cuts ...would pose a substantial threat to the
recovery”. It is a well-known fact that like his audience in New York, Mr Bernanke reserves a special
abhorrence for the idea of anyone living within their means. But he reserves a special room in his chamber
of horrors at any prospect of the government doing such a thing. This is why he urges that “cooperation
and creativity” is necessary “to deliver fiscal clarity”. The LAST thing Mr Bernanke wants is REAL
fiscal clarity. But he does want the illusion of it, no matter how creative the procedure necessary to
manufacture that illusion becomes.
At the same time as Mr Bernanke was delivering his speech, the “researchers” at the Fed were (and are)
hard at work on their latest efforts to find out whether the largest US banks could survive a severe recession.
And when the Fed creates a hypothetical “severe recession”, they don’t mess about. This latest bank “stress
test” includes a scenario in which US GDP falls 6.1 percent over the first three months of 2013. To that the
Fed has added an average official unemployment rate of 12.1 percent in the period to the second quarter of
2014. Into the mix goes a 21 percent fall in US house prices from the third quarter of 2012 to the first
quarter of 2015 and a contraction of real disposable income for five consecutive quarters. No amount of
“creative fiscal clarity” could come anywhere near compensating for any of these events, let alone a
combination of all of them. The Fed knows that. It also knows that US and world financial markets could
not begin to withstand such a MASSIVE cratering of the US economy.
So why “test” for such an eventuality? And why is Mr Bernanke pointing to the possibility of a “very good”
year in 2013 if only the US government gets together and kicks that fiscal can another year down the road to
2014? Could it be that Mr Bernanke’s tenure as Fed Chairman ends in February 2014 and he doesn’t want
to hold onto his job any longer than that? Or is it just a sensible precaution, given the potential foreign
hurdles that the global economy might trip over in the new year?
Comparing Apples And Oranges:
Here comes that old economist’s favourite phrase again. On the one hand, you have the Chairman of the
Federal Reserve talking up the coming year while his colleagues fall all over themselves to reassure Wall
Street that they will keep the “monetary easing” going until they have “proof” that the economy has turned
around. More and more, they are basing this proof on “economic variables”, the numbers churned out by
government and central bank computers which claim to “measure” the health of the economy.
On the other hand, you have that same Federal Reserve coming up with a stress test using economic
variables which would reduce the US overseers of monetary and fiscal policy to a state of the terminal
“heebie jeebies”. In the middle of all this stand what is left of the “markets”. For years, Wall Street has
been trained by the politicians to expect a never-ending and ever-increasing supply of “money” to invests.
The Fed’s part in this grand illusion is to assure us all that they can continue to provide a level playing field
for the markets in perpetuity by guaranteeing that interest rates won’t budge from their present levels.
2013 may be a very good year, so says Mr Bernanke. But just in case it isn’t, we’re going to make sure that
the banks will survive no matter what happens to the economy. Mr Dennis Lockhart of the Fed bank of
Atlanta is very succinct: “I expect that continued aggressive use of balance sheet monetary tools will be
appropriate and justified by economic conditions for some time even if fiscal cliff issues are properly
addressed”. Perhaps Mr Lockhart has seen the preliminary results of the Fed’s stress tests?The Privateer - Number 717 Page 11
The Last Month Of The Year:
According to Goldman Sachs, December is one of the best months of the year for US stock markets. On
data going back to 1928, December is the second best month with an average monthly increase of 1.5
percent and a 75 percent rate of positive return over the month. In December 2011, the Dow came close to
that average with a rise of 1.42 percent over the month. 2011 was not a particularly good year on US stock
markets with the Dow up 5.53 percent over the year. A similar performance this year would see the Dow
close at 12892 on December 31. That’s within 1.0 percent of the Dow’s 13009 close on November 23.
But be all that as it may, the biggest threat for the rest of this year and especially in the year to come does
not come from the stock market. It comes from the bond market, especially the Treasury bond market.
The signal feature of the secondary market for the debt of the US government is that it is today one of the
longest-lived bull markets ever recorded. Its uptrend is unbroken since the bottom more than 30 years ago
in 1981. The Dow has yet to revisit the all time highs it set back in October 2007 but the Treasury market is
different. In 2011, it exceeded the highs it set at the beginning of the Fed’s ZIRP in December 2008. This
year, it has in turn exceeded those 2011 highs. In fact, Treasuries have hit all time highs three times in 2012,
the most recent instance coming only a week ago on November 16. This potential “triple top” is the most
ominous formation on ANY financial market as the old years winds down and the new year approaches. It
remains “THE SIGNAL” we referred to in this section of our previous issue.
For years now, the most fatuously ridiculous of the many claims made by the Federal Reserve has been the
one which denies any connection between their manipulation of interest rates and the boom and bust of the
housing bubble which brought on the GFC in 2007-08. Now, Mr Lockhart of the Atlanta Fed has gone one
better by blandly insisting that “...there is no direct link in terms of intention between the low interest rate
policy and the financing of the deficit”. Any comment on this would be superfluous, so we will refrain.
The Thin Air Of The Yield Curve:
In September 2011, Mr James Kostohryz attempted to answer the question: “How low can Treasury yields
go?” He summed up his answer at the outset: “As long as the US is on a fiat monetary system, there are
overwhelmingly persuasive reasons to suppose that long (10-year) bond yields will never be sustained at
or below 2.0%.” That statement held good when Mr Kostohryz penned his article in September 2011.
Over the last three months of the year, the yield on Treasury 10-year paper did dip below the 2.0 percent
level, but it never remained below that level for long. But 2012, for the first time in the history of the
Treasury long bond, has been a very different story. The last time that 10-year Treasury yields were
ABOVE 2.0 percent was on April 25, 2012. That’s exactly seven months ago. Does seven months qualify
as a “sustained period”?
In his article, Mr Kostohryz pointed out that the only time that Treasury long bond yields had ever fallen to
2.0 percent was a sharp downward yield spike in 1940, shortly before the US entered WW II in 1941.
Don’t forget that a yield as low as 2.0 percent on a debt “asset” which does not mature for ten years is
implying a stable purchasing power for the currency in which that debt is denominated for a LONG period of
time. Mr Kostohryz stressed that his prediction of a 2.0 percent “floor” for the long bond yield held good -
“for as long as the US is on a fiat monetary system”. The history of the purchasing power of the US
Dollar (and all other fiat currencies) under such a system is one of ever more violent gyrations. The history
of the fiat US Dollar over the four decades of the fiat money system is one of ever DECREASING
purchasing power. There were very good reasons as recently as late 2011 for assuming that the yield of the
Treasury long bond had a “floor” at or about the 2.0 percent level.
Inexorably, as long as the gap between US government revenues and US government spending continues to
widen - or at least not to narrow - the grossly overvalued state of the debt paper of the US government will
become more and more obvious. So will the potential danger of a sudden and sharp reverse to what has
become the longest intact bull market of all. The Fed knows this, that is why they are running their bank
“stress tests” with parameters they would not dare introduce into any of their public economic analyses.The Privateer - Number 717 Page 12
The Real Fiscal Cliff:
The first decade of the global fiat money era was the 1970s. That was the decade when the bear market on
US Treasury debt which had begun in the wake of those 2.0 percent yields on ten-year paper accelerated
downwards. The bottom was reached in 1981 when ten-year yields reached just under 16.0 percent. By
1990, the yields were between 8.00 - 9.00 percent. By 2000, they were fluctuating between 6.00 - 6.50
percent. In 2008, the year of the Lehman crisis and the onset of the Fed’s ZIRP, the yields plummeted
from 4.00 to 2.10 percent. That is about as low as they got on a sustained basis - until this year.
Now, the yields on Treasury 10-year paper have been below 2.0 percent on a continual basis since late
April. In the seven months since then, the bull market in Treasuries has hit all time highs three times, the
latest episode taking place only a week ago. This is the REAL fiscal cliff. To have any hope of maintaining
the claim that 2013 might be a “very good year” for the US economy, long-term Treasury yields MUST
remain at or about their present levels. The last time that the US government was wrestling with the
problem of a higher “limit” for their Treasury’s credit card was in July 2011. Ten-year Treasury yields
stayed remarkably stable over that month at or about the 3.00 percent level. But as soon as it became clear
that a deal was going to be made at the end of July, the yields began to plummet. Between July 28 and
August 10, 2011, the yield on ten-year Treasury paper plummeted from 3.00 to 2.10 percent.
The chance of a repeat performance from the current yield of 1.70 percent is vanishingly small. Much more
likely is the opposite scenario, the one in which the recent high on the Treasury market DOES prove to be
the third prong of a “triple top”. That would deliver the kind of “fiscal clarity” that Mr Bernanke does not
want to EVER see the light of day.
So far, the assurances that a “deal” is on the cards in the US Congress and will be struck before the year is
out is being “bought” by global financial markets. Goldman Sachs has been pointing out that the US
government has made a routine of postponing “hard” decisions until almost literally the last minute. They
remind us that in 2010, the decision to extend the Bush tax cuts for another two years was not made until
two weeks before the deadline on December 17. And last year, the decision to extend the payroll tax cuts
for another year was not made until December 23. On top of that Wall Street remembers that when the
Treasury’s debt limit had to be lifted last year, Secretary Geithner set a last gasp date of August 2. Sure
enough, the deal to raise the debt limit was endorsed by the Senate and signed by Mr Obama - on August 2.
Wall Street figures that it has at least a month left before it has to get REALLY worried.
For more on Gold - please see Gold This Week (GTW):
December, the last month of 2012. Ominously, it has been reported that the current “cease fire” between
Israel and Hamas in the Gaza Strip came about as a result of a deal between President Obama and Prime
Minister Netanyahu that the US would sent troops to Sinai - which is Egyptian territory just south of Gaza.
These troops are supposed to “intervene with the rumoured arms trade between Hamas and the Iranians”.
The twenty-fifth and last issue of The Privateer for 2012 will be published on December 16 - not on
December 9 as previously stated. We would like to get the date as close to “year end” as possible.
Late November Issue - Number 717 William (Bill) Buckler
Published: November 25, 2012 © 2012 - All Rights Reserved
The Private Market Letter
For The Individual Capitalist.
Published since October 1984.
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