Ben Bernanke on Debt Ceiling: Only I am Allowed to Dabble with Politics!

US Federal Reserve chairman Ben Bernanke warns that the US debt ceiling should NOT be used as a bargaining chip.

Yet he goes on to talk down on the supposed nasty implications of NOT raising the debt ceiling

From the UK’s Telegraph,

Federal Reserve Chairman Ben Bernanke said the US could lose its AAA credit rating and create a new crisis in the financial markets if it does not raise the cap on government debt.

Mr Bernanke warned that if the $14,300bn (£8,784bn) debt ceiling was not lifted quickly there could be disastrous consequences.

"Even a short suspension of payments on principal or interest on the Treasury's debt obligations could cause severe disruptions in financial markets and the payments system, induce ratings downgrades of US government debt, credit fundamental doubts about the creditworthiness of the United States, and damage the special role of the dollar and Treasury securities in global markets in the longer term," he said.

American journalist and libertarian H. L. Mencken once wrote,

The whole aim of practical politics is to keep the populace alarmed (and hence clamorous to be led to safety) by menacing it with an endless series of hobgoblins, all of them imaginary.

By putting pressure on the opponents to raising the debt ceiling, Mr. Ben Bernanke is essentially saying,

I am the only person entitled to do politics, because I am the expert and everybody else does not know what they are talking about.

Apparently Mr. Bernanke is using 'fear' from 'hobgoblins' as leverage to reach a political compromise.

Of course, we also know how much of an expert Mr. Bernanke is considering his highly inspirational track record.

Falling Markets, QE 3.0 and Propaganda

The essence of the interventionist policy is to take from one group to give to another. It is confiscation and distribution.-Ludwig von Mises

Some say that falling markets won’t account for the imminence of QE 3.0.

That would signify a blatant misread.

For me, falling markets account as one of the two possible conditions for the re-institution of QE

As I previously wrote[1],

Although I expect that this extension won’t come automatically which I see as either tied to the US Congressional vote to raise debt limits or in reaction to growing pessimism in the some of the world’s economic environment due to a cyclical slowdown or to the accrued effects of signaling channels applied by governments or from mainstream’s addiction to inflationism. Besides if the debt ceiling will be raised this gives further excuse for the FED to activate QE 3.0.

Today’s financial markets have essentially been influenced by political forces more than economic developments. All the accounts of bailouts, rescues and assorted market interventions (quantitative easing, currency interventions, credit margin hikes on commodity markets) are part of the many examples. All these have effects on the marketplace[2].

Thereby, the state of the current sluggishness in the Philippine and global markets could likely be symptomatic of more of political design than merely reactions from economic forces.

Markets as Hostage to Politics

This week, we saw a political representative of China and one of the Fed officials jawbone on the possible adverse repercussions[3] from the palpable dabbling of a brief debt default by several Republican lawmakers as the debt ceiling is being deliberated.

This week, reports also say US President Obama pondered on using tax cuts as possible concession to the Republicans to reach a compromise[4].

Earlier both President Obama[5] and Treasury Secretary Tim Geithner[6] warned of a global recession if a settlement on raising the debt limits won’t be reached.

About a month ago a series of studies from the US Federal Reserve came out to state that commodity prices have not been tied with Quantitative Easing. Also during the same period commodity markets were slammed by the repeated increases of credit margins[7] of several commodities.

The point is the markets are seemingly being held hostage by politics. The idea is that markets can indeed go down, for the plain reason that the market is being used as leverage to secure political concessions.

Intervening and manipulating, directly or indirectly in the marketplace has been the du jour trend of today.

And what appears to be the imperative political tenet resonates in the famous statements of President Obama’s former Chief of Staff Rahm Emanuel[8]...

Never let a serious crisis go to waste. What I mean by that is it's an opportunity to do things you couldn't do before.

Don’t you see, the vehement aversion to crises has been the hallmark of today’s politicking?

This runs along with the prevailing economic ideology which guides on the directives of the political orthodoxy, where the prescription to supposed “market failures” would be through interventions channeled mainly through Keynesian concepts of ‘parting with liquidity’ (giving up liquid assets in exchange for employment-creating illiquid assets) ‘euthanizing the rentiers’ (low interest rates), and ‘socializing investment’ (public private partnership)[9].

Even Harvard Professor Carmen Reinhart along with her colleagues observes of the ongoing non-market features of today’s marketplace[10] characterizing an environment which they call as financial repression, (bold emphasis mine)

Undoubtedly, a critical factor explaining the high incidence of negative real interest rates was the aggressively expansive monetary policy (and, more broadly, official central bank intervention) in many advanced and emerging economies during the crisis. This raises the broad question of the extent to which current interest rates reflect the stance of official large players in financial markets rather than market conditions. A large role for nonmarket forces in interest rate determination is a key feature of financial repression.

In short, official players will likely manipulate markets to meet their ends.

Stoking Fear

And part of such tactical operations would probably mean instilling fear to paint an ambiance of urgency.

And speaking of fear, the current stock market declines seem to have twitched Wall Street’s fear measures higher.

Whether seen from original computation of volatility ($VXO), the current VIX ($VIX) and volatility applied to the CBOE S&P 500 3-Month ($VXV) signs of fear have emerged. The rallying US dollar appears to chime with such an environment.

This fear has been evident even seen Google Search trends (chart below).

Lately Google has shown increasing searches by the public for ‘double dip’. Meanwhile news and articles featuring double dip have also grown.

Given that Wall Street has been a politically privileged sector, with more fear comes the greater clamor for interventions.

Wall Street operates in an environment fostered by the moral hazard, which reveals on their sense of entitlement.

Rescues signify political events. Only in the pretext of growing risks of a crisis that would incur pernicious broad market and economy welfare implications will bailout measures be deemed as justifiable by politicians and the bureaucracy.

And along this line, it wouldn’t be farfetched to say today’s actions in the marketplace could be part of the effects of the conventional signaling channel tool used by central banks in preparation for the next set of rescue measures.

That’s why mainstream media seems to have misinterpreted Bernanke’s last comments as having ‘no QE 3.0’ when the fact is Bernanke’s statements prior to November 2010’s QE 2.0 resembled his latest comments[11].

In short, if there is no emergency, then there will be no rescue. Falling markets sow the seeds of alarmism, and thereby, setting in motion the conditions required for prospective rescues.

As previously noted, this has been the routine recourse by political leaders almost everywhere.

A Possible Growth Scare and Not a Crisis

Despite the recent signs of fear, credit markets in the US and in Euro seem to remain calm.

The above chart from Danske Bank[12] shows marginal signs of impact from the current equity-commodity downdraft on US bond markets and on interbank loans as represented by the LIBOR OIS spread.

But this has not been powerful enough to stir the proverbial hornet’s nest.

And the cyclical downturn of major economies following a vigorous upside could also be part of the story.

As the Danske Research writes[13],

Global leading indicators have suffered a setback recently, pointing to slower growth. The US ISM dropped considerably in May and European PMIs also fell faster than expected. China, on the other hand, seems to have stabilised, as the PMI dropped slightly in May and order-inventory bottomed.

The current declines could represent more of a growth scare instead of imminent risks of crisis or recession as presented by politicians.

Also, Danske Research[14] thinks that the dislocation from Japan’s recent disaster has partly been the culprit of the downturn of economies. But signs according to them are that Japan has been recovering fast.

The above evidences seem to show that the essence of fear being manifested by reports which highlights ‘double dip’ concerns may seem unwarranted.

A growth scare and not a crisis could be taking place.

Yet it is quite obvious that politics have been dominating feature of the marketplace.

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[1] See ASEAN’s Equity Divergence, Foreign Fund Flows and Politically Driven Markets, June 5, 2011

[2] See Poker Bluff: No Quantitative Easing 3.0?, June 5, 2011

[3] See China Warns US on Debt Default as ‘Playing with Fire’, June 9, 2011

[4] See US President Obama Mulls Tax Cuts as Compromise for Raising Debt Limits June 9, 2011

[5] Huffington Post, Obama Debt Ceiling Warning: Raise Limit Or Risk Global Recession, April 15, 2011

[6] Wall Street Journal Geithner Issues Warning on Debt Ceiling, May 15, 2011

[7] See War on Commodities: Intervention Phase Worsens and Spreads With More Credit Margin Hikes! , May 14, 2011

[8] Wall Street Journal A 40-Year Wish List, January 28, 2009

[9] what-when-how.com SOCIALIZATION OF INVESTMENT

[10] Reinhart Carmen M., Kirkegaard Jacob F., Sbrancia M. Belen Financial Repression Redux, June 2011, IMF FINANCE & DEVELOPMENT

[11] See Bernanke’s Comments Mirror Those of Pre-QE 2.0 in 2010, June 8, 2011

[12] Danske Bank, Bad macro indicators and Greece weigh on market sentiment, Weekly Credit Market, June 10, 2011

[13] Danske Bank, Global: Business Cycle Monitor, June 6, 2011

[14] Danske Bank, ECB confirms July rate hike, Weekly Focus June 10, 2012

China Warns US on Debt Default as ‘Playing with Fire’

Here is another spectacle, China warns the US of ‘playing with fire’ by tinkering with the prospects of default.

From yahoo.com

Republican lawmakers are "playing with fire" by contemplating even a brief debt default as a means to force deeper government spending cuts, an adviser to China's central bank said on Wednesday.

The idea of a technical default -- essentially delaying interest payments for a few days -- has gained backing from a growing number of mainstream Republicans who see it as a price worth paying if it forces the White House to slash spending, Reuters reported on Tuesday.

But any form of default could destabilize the global economy and sour already tense relations with big U.S. creditors such as China, government officials and investors warn.

Li Daokui, an adviser to the People's Bank of China, said a default could undermine the U.S. dollar, and Beijing needed to dissuade Washington from pursuing this course of action.

"I think there is a risk that the U.S. debt default may happen," Li told reporters on the sidelines of a forum in Beijing. "The result will be very serious and I really hope that they would stop playing with fire."

China is the largest foreign creditor to the United States, holding more than $1 trillion in Treasury debt as of March, U.S. data shows, so its concerns carry considerable weight in Washington.

"I really worry about the risks of a U.S. debt default, which I think may lead to a decline in the dollar's value," Li said.

This just shows how governments have been addicted towards profligacy and inflationism as recourse to economic predicaments.

By advocating an increase of US debts, the US will genuinely be “playing with fire”.

Eventually this spending-deficit cycle will reach a point where the US economy won’t be able to pay her liabilities and will prompt her to an outright default or pursue hyperinflationary policies. So China is effectively asking the US to kick the can down the road.

However, these warnings do not just come from China, but also from the Fed’s James Bullard and one of the key credit rating agency, the Fitch Ratings

From the Reuters (hat tip Dr Antony Mueller)

A default would have severe reverberations in global markets, a top Federal Reserve official said just hours after Fitch Ratings warned it could slash credit ratings if the government misses bond payments.

St. Louis Federal Reserve Bank President James Bullard told Reuters on Wednesday "the U.S. fiscal situation, if not handled correctly, could turn into a global macro shock."

"The idea that the U.S. could threaten to default is a dangerous one," he said in an interview.

"The reverberations in those global markets would be very severe. That's where the real risk comes in," Bullard warned.

So the political pressure to raise debt limits has apparently been escalating.

Once the US Congress approves such actions, which I think they will, this gives the Fed another rational for QE 3.0: insurance against the risk of a bond auction failure as previously discussed here.

But while China warns of a default, the fact is that the US has already been partially defaulting on her debt via inflationism (QE 1.0 and 2.0)

Repeating what Murray Rothbard wrote,

Inflation, then, is an underhanded and terribly destructive way of indirectly repudiating the "public debt"; destructive because it ruins the currency unit, which individuals and businesses depend upon for calculating all their economic decisions.

So China prefers indirect default by inflation than an outright default.

Finally another paradox is that this warning of China comes amidst what appears to be her declining interest to finance the US.

True China owns lots of US debts (following charts from zero hedge)

But China has been buying less during the past months

Bottom line: Global policymakers appear to be averse at imposing fiscal discipline and would choose the inflationism route instead.

These actions manifest what I call path dependency or the bailout mentality via inflationism. Until the next crisis implodes such dogmatist approach simply won’t change.