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Post How Do We Understand Negative-Yield Bonds?
Created by John Eipper on 09/01/19 7:03 AM

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How Do We Understand Negative-Yield Bonds? (Tor Guimaraes, USA, 09/01/19 7:03 am)

I read the following on Bloomberg Markets (August 27th):  "A once-unthinkable collapse in global bond yields is forcing pension funds to buy bonds that offer negative returns--putting the financial security of future retirees in jeopardy."

Who should we blame for such scary and disgraceful economic reality? The Communist Party in China? Donald Trump?  Obama? While the headline is disturbing, the trends have been going on for a while. But who is behind the curtain?  Is it just a terrible accident somewhere? I think I finally got the answer: the banking system.

To get to the convincing evidence that money creators are the culprit, I had to learn that Central Banks are unbelievably powerful; they can be used to change a nation or the world economy, political and social structure. And they are very independent and opaque to the people. The historical evidence on how Central Banks have been used powerfully and mercilessly to change things for the powers to be is well documented if one bothers to see. It is the old play based on several facts: established systems will not change unless there is a crisis which will force widespread popular support for the change being thought. Bubbles provide a powerful mechanism for change or just plain massive wealth re-distribution. We all have heard of the old Dutch Tulip and the South Sea Company bubbles, but Central Banks were not involved.

Starting our sequence of examples, in the early 1900s, American banks' easy-money policy for speculators in the stock market created a relatively small bubble in stock prices which culminated with the "obvious" need for a Central Bank, which was established in 1913. Something similar but much bigger led to the 1929 crash and all the wealth re-distribution to the few and the misery to the American people that we heard so much about.

After WWII, the Japanese banking sector was bankrupt with the rest of the country totally destroyed. Occupation authorities revived the Ministry of Finance (responsible for setting interest rates) and the Bank of Japan (or BOJ, responsible for the quantity and specific allocation of money to sectors of the economy and major borrowers from Japanese banks through "window guidance"). Japan basically continued to use its war economic structure for the production of consumer goods. Surprisingly, much to the embarrassment of free-market economists and politicians, by 1959 the Japanese economy grew by 17 percent. The economy was stable and growing with fairly even income distribution. Cartels controlled sharp competition striving for market share but not focused on profits for shareholders. Such powerful economic growth made Japanese firms dominant in many world markets and made the Japanese managerial style famous worldwide. The fast growth was good for the nation and its people, but shareholders felt neglected.

The 1980s saw increasing calls by the government and BOJ officials for a re-structuring of the Japanese economy to mimic the American format of shareholder capitalism and more liberated markets. According to the Advisory Group appointed by the government, this was essential for further growth. However, the Ministry of Finance and the Japanese people failed to accept such proposal for drastic changes while the economy was doing so well. A crisis was needed before such changes could be implemented. The BOJ started a credit boom (1985-89) that totally distorted the Japanese economy with stocks and real estate at its peak exploding 240+ percent, land values became exorbitant where Japan with 1/26 of the territory of the US was worth four times more, the Imperial Palace's garden alone was as expensive as the whole of California. Middle-class people were buying two or three houses, even corporate manufacturing leaders like Nissan were making more profits speculating the in their business. Nevertheless, the BOJ persisted by pushing banks to more aggressively provide more risky loans to individuals and companies. Despite the flood of money, the Yen was not devalued internationally because of Japanese massive exports and historical success, so Japanese went on an international shopping spree including great works of art, Pebble Beach Resort, and the Rockefeller Center. The outflow of capital from Japan was $2B in 1980 and $132B in 1986. Relatively overnight, the bubble creators became responsible and saw the need to stop the madness. Prices stopped going up, in 1990 the stock market crashed 32 percent. Window Guidance was abolished and banks did not know what to do so they stopped lending. From 1990 to 2003 the stock market crashed 80 percent and real estate crashed 84 percent. Economic growth tanked and the government tried several useless remedies. There was a dire need for BOJ "full legal" independence from government meddling, there was a need for re-structuring the economy toward a focus on shareholder value (profits), a less regulated free market, less bureaucratic institutions like the Minister of Finance which supposedly created the crisis, the one party system needed to be abolished, politicians and not central planners should produce policies, and all of that was blared on the media 24/7 to educate the masses. Last, the government insurance for bank demand deposits was abolished so more money could go to the stock market. Even PM Koizumi, someone the media equated with Reagan and Thatcher, saw the light and stated "no recovery without reform." Bank loans became available for vulture funds to buy, shareholder profits became king, unemployment rose along with the suicide rate. Shareholder capitalism became entrenched.

If this is interesting to you, I can report what I learned about what happened to the Asian Tigers and some Euro nations in their tango with Central Banks and other financial institutions. They are so sneakily powerful that before we wake up, mankind will become enslaved. This is no conspiracy theory, the evidence is clear and available for checking.

JE comments:  I got a late start this morning, because WAISer extraordinaire Bert Westbrook is visiting, and we have been discussing precisely this topic:  negative-yield bonds.  They still don't make complete sense to me.  Perhaps I can pester Bert to give us an explanation in layperson's terms.

And Tor, please tell us more about the Central Banks.


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  • Revisiting the Collapse of the Asian Tigers (Tor Guimaraes, USA 09/02/19 6:00 AM)
    Before continuing my sequence of historical examples on how powerful Central Banks can be used to change a nation or the world economy, political and social structure, I need to apologize for and correct some glitches in my most recent post (1 September).  The corrections are in italics.


    The 3rd sentence in my 4th paragraph should be "Japan basically continued to use its war economic structure for the production of consumer goods. Surprisingly, much to the embarrassment of free-market economists and politicians, in 1959 alone the Japanese economy grew by 17 percent."


    The end of the 4th paragraph should be, "There was a dire need for the Bank of Japan to have 'full legal' independence from government meddling, there was a need for re-structuring the economy toward a focus on shareholder value (profits), a less regulated free market, less bureaucratic institutions like the Minister of Finance which unfairly got blamed for supposedly having created the crisis, the one-party system needed to be abolished, politicians and not central planners should produce policies, and all of that was blared on the media 24/7 to educate the masses. Last, the government insurance for bank demand deposits was abolished so more money could go to the stock market. Even PM Koizumi, someone the media equated with Reagan and Thatcher, saw the light and stated 'no recovery without reform.'  Bankrupt banks and companies became available for international vulture funds to buy, shareholder profits became king, and unemployment rose widely along with the suicide rate. Shareholder capitalism became entrenched and easily available internationally."


    As requested by our editor, here's another example of Central Banks (CB) deliberately holding back power used in conjunction with the International Monetary Fund (IMF). In the example of post-WWII Japan's social, political, and economic changes, the IMF was not a negative player in any way. Quite to the contrary, Japan became an important member of the IMF over many decades now. In this example of power temporarily denied, the Southeast Asia so-called Tiger Economies (South Korea, Thailand, and Indonesia) collapsed 60 to 80 percent in 1997 once again creating misery among their populations but a great opportunity for profits for the manipulators. A post-mortem by competent economists reveals that this debacle started in 1993 with pressure from the international financiers for the Tigers to liberalize (de-regulate) capital flows, allowing local firms to borrow from abroad. For no economic or financial reason, an "international lending facility" was created under political pressure within each of the Tigers. These facilities provided lower interest rates than local lenders, and the respective governments promised local borrowers to maintain a fixed exchange rate between their currencies and the US dollar. Meanwhile local banks were pressured to offer loans to local more risky borrowers. The collapse of the Tiger economies started when speculators stated a relentless selling of the Tiger currencies until their respective governments quickly run out of dollars to maintain their dollar pegs. Thailand's government asked Japan for a bailout but the US government stated that any bailout had to come through the IMF, not Japan. The IMF came in with the now standard demands: the nation's CB must be made more legally independent from the government, immediate temporary curbs on CB money creation, sharp rises in interest rates, and other legal changes. As rates rose so did loan defaults and unemployment. Even healthy companies got caught in the financial maelstrom. Believe it or not, local bankrupt banks had to be sold to international buyers. Through whistle-blowing, it was discovered that in the specific case of South Korea that the IMF had a priori conducted a study of how many Korean companies would go bankrupt at a 5 percent interest rate. Subsequently, as part of the IMF requirements for a bailout the Korean rate was set at 5 percent. No bailouts were allowed by the Tigers' national governments, as the bailout cartel US government organized a year after the Southeast Asia economic disaster, bailing out the American fund Long Term Capital Management (LTCM).


    While I am sure there other smaller examples of Central Banks' misuse of power, the final example is none other the most unaccountable, totally unsupervised, opaque CB in the world today, the European CB (ECB). It has become obvious that the European Commission uses their CB to force European nations to surrender their political power. As the currency and interest rates for the EU are common to all members (one market, one money), in 2003 the ECB told the German CB to reduce money creation while telling Portugal, Spain, Ireland, and Greece to expand money creation. When the money creation stopped, many companies and individual speculators went bankrupt, and in Spain's and Greece's youth unemployment reached 50 percent. The ECB refused any help until the target nations agreed to surrender specific fiscal and budgeting powers to the European Commission.


    JE comments:  I am confused--do Central Banks exercise too much, or not enough power?  If I follow Tor Guimaraes's argument, he gives an example of each.


    The 1997 Asian crisis was a full generation ago. Eleven years later, we had the global Great Recession.  It's now been eleven years since 2008.  These are ominous numbers.

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    • How to Fix Central Banks (Tor Guimaraes, USA 09/04/19 3:48 AM)
      From everything I have learned about Central Banks (CB), two things are obvious:



      1. Like any tool, CB (money creation) can be used for good or evil. As the examples illustrated they have been used mostly for evil (powerful rich people getting richer at the nation's expense). They also can help to prevent economic depressions, if the CB is used to create money so banks can lend for productive purposes like new technology, entrepreneurship, business innovation, new jobs, and economic development. Obviously we want our CB to be engaged in that as much as possible, but always under intelligent, balanced supervision mechanisms. If the CB is corrupted by big banks, politicians and other private interests, the CB needs to be stopped. That is what is happening in the US today, before and after the 2008 financial disaster: under Alan Greenspan's lack of regulations, the CB allowed big banks to create money for financial speculation (not productive for the nation); when the bubble burst the big banks got bailed out by the government because they were too big to fail.

      Unfortunately, after the bailout the big banks said thank you and the CB has enabled them to hijack the money-creation process, getting even bigger and more speculative. This is already creating misery (negative interest rates and massive uncertainty) for the American people despite the money flood.



      2. The way to fix this mess (probably politically impossible because most people are unaware, and politicians are corrupted by the big banks' financial power) is to have two sets of regulations to control the CB and bank lending under two sets of guidelines. One for the local banks which tend to loan to small businesses essential for job creation and economic prosperity, but precluding them from local corruption such as nepotism, cronyism, and other undue influences over the lending process. Another set of guidelines for the big banks, precluding them from using money creation to enrich themselves with speculative investment in derivatives, housing and other asset-bubble creation, and inducing them to lend for infrastructure development and other projects of national importance.


      JE comments:  I certainly would endorse a mechanism to oblige banks to play fairly.  But please allow a naïve question from a guy who teaches literature:  is there a way in today's economy to distinguish between "productive" and "speculative" investment?

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      • "Productive" vs "Speculative" Investments (José Ignacio Soler, Venezuela 09/05/19 4:56 AM)
        As an amateur in economics, I have been following Tor Guimaraes's interesting posts about the role of Central Banks. Unless I have misunderstood something from his comments, I am surprised Tor did not explicitly mention a very important role: When the Central Banks issue inorganic money without proper backup, or artificially devalue the local currency, what they are doing is creating a perverse "tax" on the people by means of currency inflation. At the end consumers "pay" this tax through increasing prices of goods and services, locally produced or imported. Is this not often a wicked political way of manipulating the economy?



        John E commented on Tor's post with a question: "Is there a way in today's economy to distinguish between 'productive' and 'speculative' investment?" The classic answer would be simple. A productive investment is aimed at increasing or maintaining the "production" capacity. It is allocated to increase or maintain value, means of production, assets, infrastructures, R&D, technology, etc. In other words the investor expects a return in the medium and long term. A speculative investment is made when you expect your return in the short term, produced by a drastic change in "price." In other words, the goal is to increase the value of money itself, stocks, bonds, or other assets. "Buy low and sell high" is the ideal of the speculative investor.

        An exceptional case might be a storekeeper, a merchant, who regularly must make both speculative and productive investments.


        In a general sense, all investments are speculative. They all are made expecting a benefit in the short, medium or long range, however a speculative investment is normally only limited to financial transactions and not management of the object of investment. There are other differences in both concepts, but the distinction is more related to taxation, capital investment, capital gains, expenses, depreciation and so on, than its economic concept.


        JE comments:  The crucial difference may be historical and philosophical:  production is good, speculation is evil.  "Speculation," particularly in wartime, makes you an enemy of the people.  Both Stalin and Mao shot millions for it.


        Speculators are now perfectly respectable, except when they're not.  Warren Buffett is the only acknowledged "Sage" we have in America, despite having produced nothing but paper.


        Next, Tor Guimaraes takes a stab at defining production vs speculation.

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      • "Productive" vs "Speculative" under the Microscope (Tor Guimaraes, USA 09/05/19 5:48 AM)
        John E commented on my last post with a question, "Is there a way in today's economy to distinguish between 'productive' and 'speculative' investment?"

        It is a very good question and the answer is yes. It is true that many business innovation projects, the development of new products, and/or changing business processes, may involve substantial uncertainty and may be considered speculative in that sense. Whether or not a particular application for a bank loan is too risky or not, should ultimately be a decision by the loan department, which in turn, should be properly supervised.


        On the other hand, if bank loans are used to invest in the stock market (sometimes at very high leveraged rates with options and other derivatives) and totally unsupervised, this in the aggregate is not only extremely risky to the entire financial system, but it is also totally unproductive for the nation as a whole (in accounting terms, such loans have no impact on the GDP) and can be profitable only for the speculators. Thus, using CB money creation for this purpose, as we are wildly engaged in today, is a massive government subsidy for the speculators.


        JE comments:  Can we hone in on Tor's final point--specifically, have Central Banks largely turned into bottomless piggy banks for speculation by banks?  (Yikes, that was a clumsy question.)  My initial answer would be yes.  At least it seems this way from the hinterlands of Main Street/Flyover Country.

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      • Gramm-Leach-Bliley Act 1999: Did This Cause the Banking Mess? (Eugenio Battaglia, Italy 09/09/19 10:06 AM)
        In response to the excellent (as usual) post of Tor Guimaraes (4 September) and the again excellent comments from John E, may I, even as a foreigner, offer a response?

        The Glass-Steagall Act worked effectively for more than 60 years. But the greedy banking industry after 1980 worked to have it repealed. On 12 November 1999 president Bill Clinton agreed, with the Gramm-Leach-Bliley Act.


        Thank you, "good" president Clinton!


        JE comments:   Can we blame every financial transgression on the repeal of Glass-Steagall?  Some have, although this is certainly an oversimplification.  Given that we're coming up on the 20th anniversary of Gramm-Leach-Bliley (and the 10th anniversary of the depths of the Great Recession), it's an excellent time for deeper reflection.


        Who will get the ball rolling?


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        • Can We Blame "Everything" on the Repeal of Glass-Steagall? (Tor Guimaraes, USA 09/11/19 4:10 AM)
          My friend and maker of wonderful olive oil, Eugenio Battaglia, wrote on September 9th:

          "The Glass-Steagall Act worked effectively for more than 60 years. But the greedy banking industry after 1980 worked to have it repealed. On 12 November 1999 president Bill Clinton agreed, with the Gramm-Leach-Bliley Act."


          JE asked in reply: "Can we blame every financial transgression on the repeal of Glass-Steagall? Some have, although this is certainly an oversimplification."


          Repealing the Glass-Steagall Act (separating commercial banking from investment banking) is bad enough, but it amounts to icing on the cake. The effect of a few other things adds up to the financial pickle (inverted yield curves, negative interest rates, submarine inflation, consumer debt, national deficits as far as the eye can see) we are in.


          Nixon took us off the $35 dollar/ounce gold peg so he could pay for the Vietnam War. Then all the other wars were free, I mean on credit.


          But remember, much earlier than that, the Fed's creation process starting with the special meeting on Jekyll Island (http://www.jekyllislandhistory.com/federalreserve.shtml ).  The big banks from then on control the money supply and make bubbles at will. Can you believe it? Another more recent crucial piece of evidence for Fed slavery creation comes from an ex-Fed economist who was actually in charge of distributing the bailout money for the 2008 financial disaster. His name is Andrew Huszar and he quit the Fed in disgust over who was getting paid. There is a huge amount of evidence on this topic, available to anyone interested enough.


          Republicans and Democrats, all together, live like a happy family of heroin addicts.


          JE comments:  The event that imagined the Fed took place at a duck-hunting lodge on Jekyll Island, Georgia.  The year, 1910.  I see images of guns, cigars, red meat, and cognac.  The meeting was in response to the financial panic of 1907.


          Off topic, but perhaps not:  the Eipper family vacationed on Jekyll island sometime in the late 1960s.  It's one of my earliest memories.  To my knowledge we did not discuss banking or finance.

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