Sovereign debt depression

One “outlier” story I’d like to see Charlie Morris investigate is whether governments will default on their bonds this year. In a TV interview a few weeks back, he mentioned that prices in the credit default swap market indicated some… apprehension about the quality of certain government bonds.

Keep in mind that a large increase in the total global debt outstanding since 2009 has been issued by sovereign borrowers (and at low interest rates, courtesy of nominally independent central banks). That’s why it was so interesting to read William White’s comments in The Telegraph earlier this week. It was the sort of article that justifies an entire year’s subscription price.

White is the former head of the Bank for International Settlements. It’s the “central bank for central banks”. White has credibility when it comes to financial warnings because he was one of the few officials who correctly warned of the dangerous build-up of debt in the global financial system in 2008.

He issued another warning last week

It’s sobering. Speaking to Ambrose Evans-Pritchard before the World Economic Forum in Davos began, White made the case that we may be worse off now than we were going into the last crisis. He said this:

The situation is worse than it was in 2007. Our macroeconomic ammunition to fight downturns is essentially all used up… Debts have continued to build up over the last eight years and they have reached such levels in every part of the world that they have become a potent cause for mischief… It will become obvious in the next recession that many of these debts will never be serviced or repaid, and this will be uncomfortable for a lot of people who think they own assets that are worth something… The only question is whether we are able to look reality in the eye and face what is coming in an orderly fashion, or whether it will be disorderly. Debt jubilees have been going on for 5,000 years, as far back as the Sumerians.

How soon is the next recession?

In the UK, Mark Carney’s low interest rates, inflows of capital and the crashing oil price, have all contributed to 12 consecutive quarters of GDP growth. Carney projects that UK GDP will have grown by 0.5% in the fourth quarter of last year. But next?

That’s the big question. With oil low and inflation (other than house prices) hard to find, you’d be surprised if the Bank of England raises rates this year. There are simply too many other deflationary forces worldwide to justify higher UK rates now. Besides, the pound’s weakness against the dollar does some of Carney’s job for him.

But even that unexpected boon to exports won’t be enough to offset the kind of crisis White thinks could happen. If it does begin to happen in a disorderly fashion, whatever plans there are for a debt jubilee will be dusted off or made. Bill Bonner talked about this last week with us on the podcast.

As an investor, you want to try and get ahead of this story before it happens. There’s a lot riding on the outcome, including the value of your portfolio (and by extension, the quality of your retirement).

Dan Denning's Signature

Category: Central Banks

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