Paths to Repudiation

As readers of this blog and my newsletter are aware, I have laid out the case whereby the United States eventually repudiates its public debt. The means by which this happens is unclear. There are several paths to the same place however, and it’s not necessary to choose only one method of ultimate default. All the usual methods will do, and I am now confident we’ll witness most of them in the next five years.

us-savings-bond

For example, we now know that an industrial depression will collapse tax revenues to Washington. This is already in the pipeline, as States from California to Kansas cannot even issue their own tax refunds. So the first path to repudiation comes from a collapse of GDP.

We also know that flagrant monetization will not be allowed to go on forever. That too is in the pipeline, as the FED has expanded outright non-sterilized purchases of financial assets. They have backed-stopped trillions in assets already with Treasury lending, but have since moved on to outright purchases. It’s likely that any month now they will start classical monetization of Treasuries. The FED has told us so. Thus, the second path to repudiation will come via quantitative easing, and inflation.

Now comes the populist response to the financial crisis. This is the third pressure that will come to bear on both tax revenues to Washington, and Washington financial policy. One face of the populist response is Liquidationist. The other face is Keynesian and Interventionist. The Liquidationist movement, to the extent its successful, will promote default in the private sector. (It will also be associated with Tax Revolts). The Interventionist movement will seek to move default into the public sector. In the end, it doesn’t really matter which pipeline is the conduit for default. And here’s why…

Default in the private sector deepens the crisis, and further reduces tax revenues to Washington. Default and losses in the public sector forces increased monetization and Treasury borrowings. The result is obvious: an ever greater quantity of Treasury securities, backed by ever decreasing cash flow to the government, and topped off by ever increasing monetization of both Treasuries and Agency debt.

Nationalisation of financial entities such as Fannie Mae, AIG, or the impending takeover of Citigroup and Bank of America are no longer that important. The only dynamic that is altered with nationalisation is how exactly the debt will be mitigated. Again, in the private sector it’s liquidated. But in the public realm it’s mitigated politically. Fannie Mae and Freddie Mac are already political vehicles that will be used to mitigate private debt through rescheduling. If Citigroup is taken over, then all commercial loans, credit card loans, and other debt held by Citigroup will be mitigated by Congress.

Let’s be clear: United States house prices, as one example, will now and for years to come be known as “The Prices of the Previous Era.” There will be no restoration of those price highs for a long time. Accordingly, Congress once it is in control of Citigroup and Bank of America will do just as they are doing now with Fannie Mae and Freddie Mac–they will reschedule the debt.

The private sector debt in the United States exerts the same power over the banking system as the public debt of the United States exerts over our international creditors. Collectively, the debtors are in control. Not the creditors. This is why the the Creditors, not the Debtors, will be making most of the concessions in the years ahead. Whether the US public debt is inflated away, rescheduled, or repudiated–or some combination of all three–it doesn’t matter much. The process is already underway. And only an improbably quick return to a very high GDP in the United States could halt the process. We’d need a pace of growth that the United States has not experienced in decades. I don’t see a quick return to high GDP in the US anytime soon, do you?

-Gregor

This popular post is now available in .pdf version. Click here: Paths to Repudiation

  • richard

    The root problem, my friend, is that a significant portion of our population is greedy and nasty. Greediness and nastiness eventually destroys itself (see Roman Empire) only to be reborn from their ashes to start the cycle over again. The trick is to profit quietly. Shhhhhhhhh.

  • richard

    The root problem, my friend, is that a significant portion of our population is greedy and nasty. Greediness and nastiness eventually destroys itself (see Roman Empire) only to be reborn from their ashes to start the cycle over again. The trick is to profit quietly. Shhhhhhhhh.

  • richard

    The root problem, my friend, is that a significant portion of our population is greedy and nasty. Greediness and nastiness eventually destroys itself (see Roman Empire) only to be reborn from their ashes to start the cycle over again. The trick is to profit quietly. Shhhhhhhhh.

  • richard

    The root problem, my friend, is that a significant portion of our population is greedy and nasty. Greediness and nastiness eventually destroys itself (see Roman Empire) only to be reborn from their ashes to start the cycle over again. The trick is to profit quietly. Shhhhhhhhh.

  • Joe Pisarcik

    I just looked at a list of Israeli ADRs & i could not identify a single one that dominates a major market. So while it is impressive that such a small country has so many dynamic tech businesses, i don't think it's fair to say it rivals Silicon Valley.

  • Joe Pisarcik

    I just looked at a list of Israeli ADRs & i could not identify a single one that dominates a major market. So while it is impressive that such a small country has so many dynamic tech businesses, i don't think it's fair to say it rivals Silicon Valley.

  • Joe Pisarcik

    I just looked at a list of Israeli ADRs & i could not identify a single one that dominates a major market. So while it is impressive that such a small country has so many dynamic tech businesses, i don't think it's fair to say it rivals Silicon Valley.

  • Joe Pisarcik

    I just looked at a list of Israeli ADRs & i could not identify a single one that dominates a major market. So while it is impressive that such a small country has so many dynamic tech businesses, i don't think it's fair to say it rivals Silicon Valley.

  • richard

    The number of patents coming out of Israel does rival Silicon Valley. Domination is tough without massive capital. It's a good thing we are buddies. Hopefully, Obama won't mess it up.

  • richard

    The number of patents coming out of Israel does rival Silicon Valley. Domination is tough without massive capital. It's a good thing we are buddies. Hopefully, Obama won't mess it up.

  • richard

    The number of patents coming out of Israel does rival Silicon Valley. Domination is tough without massive capital. It's a good thing we are buddies. Hopefully, Obama won't mess it up.

  • richard

    The number of patents coming out of Israel does rival Silicon Valley. Domination is tough without massive capital. It's a good thing we are buddies. Hopefully, Obama won't mess it up.

  • hard_medicine

    Thanks Richard. I'm not denying human nature nor the deteriorating society which encourages this sort of irresponsible debt…but…to excuse it as cyclical and ride it as a one trick pony to the bank….well that's both dismal and enabling. Don't get me wrong, I agree with the premise that “The one thing man has learned from history, is that man does not learn from history”. I just prefer to rail about the ignorance rather than Shhhhhhh my way along.

    (As you suggest) this is not a cyclical ‘inventory recession’ typical of traditional ‘seasonal’ adjusting’ (every 5-10 years). This is a complete structural change of our economic and societal value systems. Our thinking will need to adapt to this new paradigm. Within that adaptation I'm afraid profiting will take a backseat to wealth preservation.

  • hard_medicine

    Thanks Richard. I'm not denying human nature nor the deteriorating society which encourages this sort of irresponsible debt…but…to excuse it as cyclical and ride it as a one trick pony to the bank….well that's both dismal and enabling. Don't get me wrong, I agree with the premise that “The one thing man has learned from history, is that man does not learn from history”. I just prefer to rail about the ignorance rather than Shhhhhhh my way along.

    (As you suggest) this is not the typical cyclical ‘inventory recession’ of traditional ‘seasonal’ adjusting’ (every 5-10 years). This is a complete structural change of our economic and societal value systems. But whether or not this is our time to 'fall' remains to be seen. Be careful what you wish for. Regardless, our thinking will need to adapt to this new paradigm. Within that adaptation I'm afraid profiting will take a backseat to wealth preservation.

  • hard_medicine

    Thanks Richard. I'm not denying human nature nor the deteriorating society which encourages this sort of irresponsible debt…but…to excuse it as cyclical and ride it as a one trick pony to the bank….well that's both dismal and enabling. Don't get me wrong, I agree with the premise that “The one thing man has learned from history, is that man does not learn from history”. I just prefer to rail about the ignorance rather than Shhhhhhh my way along.

    (As you suggest) this is not the typical cyclical ‘inventory recession’ of traditional ‘seasonal’ adjusting’ (every 5-10 years). This is a complete structural change of our economic and societal value systems. But whether or not this is our time to 'fall' remains to be seen. Be careful what you wish for. Regardless, our thinking will need to adapt to this new paradigm. Within that adaptation I'm afraid profiting will take a backseat to wealth preservation.

  • hard_medicine

    Thanks Richard. I'm not denying human nature nor the deteriorating society which encourages this sort of irresponsible debt…but…to excuse it as cyclical and ride it as a one trick pony to the bank….well that's both dismal and enabling. Don't get me wrong, I agree with the premise that “The one thing man has learned from history, is that man does not learn from history”. I just prefer to rail about the ignorance rather than Shhhhhhh my way along.

    (As you suggest) this is not the typical cyclical ‘inventory recession’ of traditional ‘seasonal’ adjusting’ (every 5-10 years). This is a complete structural change of our economic and societal value systems. But whether or not this is our time to 'fall' remains to be seen. Be careful what you wish for. Regardless, our thinking will need to adapt to this new paradigm. Within that adaptation I'm afraid profiting will take a backseat to wealth preservation.

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  • gregor.us

    Thankyou. Looks like it only took about 3~ weeks for part of this essay to play out–repudiation via monetization.

    G

  • gregor.us

    Thankyou. Looks like it only took about 3~ weeks for part of this essay to play out–repudiation via monetization.

    G

  • gregor.us

    Thankyou. Looks like it only took about 3~ weeks for part of this essay to play out–repudiation via monetization.

    G

  • gregor.us

    Thankyou. Looks like it only took about 3~ weeks for part of this essay to play out–repudiation via monetization.

    G

  • http://oracle66.wordpress.com Rod

    Thank you for this article. It has been difficult trying to read the tea leaves on debt monetization and where it is going. I get the potential processes by which this could occur, however, what does it mean for countries which hold a significant amont of US Treasury notes such as China and Japan? What does it mean for the country politically to repudiate the debt. What of the dollar on the world stage and what does it mean for energy costs? I believe that of the 11 Trillion dollars in debt, 4 Trillion dollars are owed to other countries. There has got to be some fallout somewhere.

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  • http://www.lemoncayennepepperdiet.com/ Cleansing diet

    Cheers. The most hopeful thing I can say is that, as someone who would prefer to lean Libertarian and live in a stable economic environment, this crisis may force interesting break-outs of free market behavior. As long as we don't descend too far into a political crisis as a result of the financial crisis–and we will indeed have some sort of political crisis–but as long as the political crisis doesn't jump the shark and stays within loose contours, we may emerge on the other side with all those good things like transparency, and perhaps with smart regulation and simpler laws.