Fiscal default is nigh, insist the doomsayers: repent and retrench before it is too late. Yet I have a question: do we believe that markets are unable to price anything right, even the public debt of the world’s largest advanced countries, the best understood and most liquid assets in the world? I suggest not. Markets are saying something important.
On Monday, the yield on 10-year government bonds was 1.1 per cent in Japan, 2.6 per cent in Germany, 3 per cent in the US and 3.3 per cent in the UK (see chart). Based on yields on index-linked securities, real interest rates on borrowing by these governments are very low (1.2 per cent, or less, in the US, Germany and UK). Investors are saying that they view the risk of depression and deflation as greater than that of default and inflation.
This is the moral: if you want to know what the bond market thinks, do not listen to the words spoken by any of its participants. Watch what it does instead.Government borrowing has been consistently cheaper since the end of 2008 than it was in the couple of years before the crunch. And the recent fall can hardly be attributed to the new anti-deficit government: it dates back to the start of the Greek crisis and extends beyond the UK.
A caveat is that, as those of you with memories stretching back two or three years may suspect, the prices that markets allocate are not always right.
4 comments:
"And the recent fall can hardly be attributed to the new anti-deficit government: it dates back to the start of the Greek crisis and extends beyond the UK."
Mmmm... not so sure. As I suggested <a href="http://liammurray71.wordpress.com/2010/07/02/the-one-in-which-i-try-to-argue-with-a-nobel-prize-winning-economist/>here</a> there's an incongruity between the Keynesian mob's "look, the markets ARE NOT panicking" meme and their "why all this austerity then" one - perhaps they're not panicking because of all the austerity!
Fairly rapid fiscal contraction has been the cause celebre across much of Europe for the last 9 months so that will have impacted market confidence. I'm not sure of the wisdom in saying "we didn't need those sandbags, there's no water getting in..."
Well, the markets weren't panicking even before the austerity. Sure, all parties were promising to cut the deficit, so a fairish amount of that was on the cards anyway, but the exact extent was in doubt.
The big fall in govt bond yields didn't coincide with the budget or the coalition deal or any change in the opinion polls, or any international agreement on fiscal tightening. It was the result of a flight from Greek, Spanish, Italian etc debt towards countries perceived as safer. Despite much political uncertainty (Cleggmania!), the markets didn't doubt that the UK was clearly to be grouped with Germany and the US rather than the Club Med.
"the markets didn't doubt that the UK was clearly to be grouped with Germany and the US rather than the Club Med."
...surely because every poll pointed to a Tory government and more fiscal contraction?
"every poll pointed to a Tory government" - not really. A Labour maj may have looked unlikely but a Lib-Lab coalition was definitely a plausible option. Rather, the markets appear to have reckoned that whatever would happen politically between the three parties, the UK would be OK.
Post a Comment