EU - A Flawed Foundation, But Brilliant Strategy?

http://www.zerohedge.com/article/guest-post-eu-flawed-foundation-brilliant-strategy

The essence of Mercantile Colonialism is to create a need for debt, then finance that debt and eventually exchange that debt for the collateral assets that are the underlying wealth producing assets.

In the Austrian School of Economics, this exchange of printed paper for real assets, is called the Indirect Exchange.  It is well understood and well documented but like usury is avoided in polite conversation. Eventually the colonies worked as slaves to pay the debt to their European masters.

Gold is the Money of Kings, Silver the Money of Merchants and Debt the Money of Slaves

The European banks are slowly but surely, through a tactic of Financial Arbitrage, moving more and more sovereign debt to the ECB and EU. Someone must pay for this debt and that will eventually be the entire European taxpayer base. That is the goal.

Japanese sovereign debt soaring

Previous blogs rang the alarm bells on Japan's growing debt problems, while all the attention was focused on Dubai and Greece.

The financial news media is finally catching up to the massive debt levels in the US and Japan.

http://news.yahoo.com/s/afp/20100425/bs_afp/japaneconomydebt_20100425225204

However, the article misses some major points. What will happen going forward? How is the Japanese central bank able to issue debt at such artificially low interest rates, when their solvency is in question? Why haven't the bond vigilantes punished the bonds by bidding up higher yields? Who has been buying these Japanese government bonds, and creating the huge demand required of zero-interest rate policies from an essentially insolvent government (one would think investors would demand higher yields from a bankrupt country)? For bond investors, it is a bad bet to tie up your savings for years with little to no return on investment. Yet, buyers have stepped up to the fixed-income window for 20 years.

The answer is two-fold. Firstly, the Japanese have had competitive export industries, despite equities and real estate markets collapsing since 1990. Corporate profits have been vibrant, keeping the overall economy afloat (which, by the way, is a trait the US economy isn't fortunate enough to share, as our economy is 70% consumer-based).

Secondly, Japanese citizens in the past, have been big savers. They have for years methodically saved at least double-figures of their annual incomes, so the Japanese government had a willing citizenry to buy Japanese bonds for their retirements.

But the head winds are forming, and the aging Japanese population is not saving as much as they have in the past. They are becoming more "American-like" in this aspect, although a large portion of this non-saving trend is due to demographics. This pool of savers is disappearing, so Japanese bond auctions will experience a dearth of buyers. This can only mean higher yields, as buyers will demand higher returns to take on the increased risk of funding a government which is no longer creditworthy. And this will ultimately lead to a death (debt) spiral, as new debt is issued to pay off rolled-over old debt.

This will either result in a technical default (which is a rapid debasement of the yen caused by hyperinflation of the printing press), or actual default, where the government declares they cannot make payment on their obligations. When the world's biggest economies declare default, the effects on the financial systems will be catastrophic, as credit markets will seize up. Liquidity in capital markets will collapse, as counterparty risk intensifies.

We saw this happen in 2008, but now the risk of sovereign default is much higher, as toxic derivative assets were transferred from banks to government balance sheets. In other words, the Fed bailed out banks, auto companies, government agencies when they went belly up. Who will bail out the Fed? The level of non-performing assets and debt will eventually overwhelm most developed countries, as it has already Iceland and Greece, and the contagion will spread across Europe as debt levels grow to unsustainable levels.

All central banks, including the Fed, and the IMF will print even more currency in an attempt to stave off defaults, but this will only exacerbate the debt problems, eventually resulting in a currency crisis.

Niall Ferguson on sovereign debt

I won't chastise Niall Ferguson for teaching Economics at Harvard (sarcasm intended), since he is completely dialed into the sovereign debt problem among developed, westernized countries. I saw him in a Bloomberg TV interview last week, but couldn't find the video clip. Thanks to my friend Dick, here is an article which captures his main points on the default risk of the Club Med countries--and of the US.

http://www.ft.com/cms/s/0/f90bca10-1679-11df-bf44-00144feab49a.html?nclick_check=1

It began in Athens. It is spreading to Lisbon and Madrid. But it would be a grave mistake to assume that the sovereign debt crisis that is unfolding will remain confined to the weaker eurozone economies. For this is more than just a Mediterranean problem with a farmyard acronym. It is a fiscal crisis of the western world. Its ramifications are far more profound than most investors currently appreciate.

That leaves just three possibilities: one of the most excruciating fiscal squeezes in modern European history – reducing the deficit from 13 per cent to 3 per cent of gross domestic product within just three years; outright default on all or part of the Greek government’s debt; or (most likely, as signalled by German officials on Wednesday) some kind of bail-out led by Berlin. Because none of these options is very appealing, and because any decision about Greece will have implications for Portugal, Spain and possibly others, it may take much horse-trading before one can be reached.

Yet the idiosyncrasies of the eurozone should not distract us from the general nature of the fiscal crisis that is now afflicting most western economies. Call it the fractal geometry of debt: the problem is essentially the same from Iceland to Ireland to Britain to the US. It just comes in widely differing sizes.

What we in the western world are about to learn is that there is no such thing as a Keynesian free lunch. Deficits did not “save” us half so much as monetary policy – zero interest rates plus quantitative easing – did. First, the impact of government spending (the hallowed “multiplier”) has been much less than the proponents of stimulus hoped. Second, there is a good deal of “leakage” from open economies in a globalised world. Last, crucially, explosions of public debt incur bills that fall due much sooner than we expect

For the world’s biggest economy, the US, the day of reckoning still seems reassuringly remote. The worse things get in the eurozone, the more the US dollar rallies as nervous investors park their cash in the “safe haven” of American government debt. This effect may persist for some months, just as the dollar and Treasuries rallied in the depths of the banking panic in late 2008.

Yet even a casual look at the fiscal position of the federal government (not to mention the states) makes a nonsense of the phrase “safe haven”. US government debt is a safe haven the way Pearl Harbor was a safe haven in 1941.

CNBC anchors in an uproar with Faber's comments

CNBC anchors raised an uproar regarding economist Marc Faber's comments on sovereign debt and impending defaults in the westernized world. Notice how they try to discredit Faber's forecasts, when they themselves missed the financial crisis. What's that expression about throwing stones in glass houses?

http://www.zerohedge.com/article/fabers-bold-prediction-both-us-and-europe-will-default-their-debt

Global sovereign debt

This is a good assessment by Forbes Magazine of the world's sovereign debt problems.

http://www.forbes.com/forbes/2010/0208/debt-recession-worldwide-finances-global-debt-bomb_print.html

Government debt default

The American Enterprise Institute for Public Policy Research recently published a study that indicated that “by all relevant debt indicators, the U.S. fiscal scenario will soon approximate the economic scenario for countries on the verge of a sovereign debt default.” - David Einhorn, Greenlight Capital