On Tuesday afternoon the Fitch Ratings assigned a AAA rating for U.S. sovereign debt. This is about as good as rating subprime mortgages AAA up until the housing market crashed, giving way to the financial crisis. The statement acknowledged that the U.S. deficit was 4 percent of GDP this year based on IMF measures, with general government debt reaching 98.9 percent of GDP. Fitch also said by 2028 general government debt could reach 120 percent of GDP.
Fitch doesn’t allow for the fact that the U.S. deficit is growing even in the times of relative economic strength to the rest of developed world. Full disclosure: It is Congress that has oversight of the rating agencies through its legislative directions to the SEC. The rating agencies have an oligopoly situation via the use of Congressional oversight, which makes it difficult for new agencies to challenge the present power structure of Moody’s, S&P and Fitch.
The rating agencies have an analogous situation to Major League Baseball’s ANTI-TRUST EXEMPTION, only this time the main actor is the government itself being accused of using the PRINTING PRESS to provide the steroids of wealth creation. This theme of growing government debt during a period of economic growth will continue to course through Notes From Underground as we head into the second quarter. In studying various correlations it appears that the relationship between the U.S. 10-year German bund yields keeps U.S. Treasury yields locked into a tight range. The current differential is 252 basis points, which is near the seven-year high of 279 reached in November 2018. The low on this spread was -3 basis points in February 2012 when the eurozone was experiencing existential difficulties. During that time, the euro that day was 1.3150, a reflection of German yields being higher than U.S. yields.
Both the U.S. and German sovereign instruments serve as HIGH QUALITY LIQUID ASSETS so their comparison is relevant since they’ve both been in high demand in funding markets. The difference for our purposes is that Germany sustains budget integrity while the U.S. engages in financial chicanery. Sight, if only there was a D-MARK. But this spread has significance for if it begins to widen it will impact the 2/10 curve. Currently, the U.S. 10-YEAR receives a bid from those investors using the U.S. note as a way to earn a few extra basis points and secure their HQLA.
***On Tuesday, Jean Claude Juncker was in Rome urging the Italian authorities to do more to spur growth as to prevent a full-blown recession. Chutzpah! Juncker represents the Brussels eurocrats that three months ago were berating the Italian government for violating the previously agreed upon deficit targets. As reported in the Financial Times, Juncker said, “I am slightly concerned about the fact that the Italian economy continues to decline and I hope that the Italian authorities will make additional efforts to keep economic growth alive.” Juncker also proclaimed there was “‘great love’ between the EU and the Italian Government.” Juncker solidifies what NOTES has maintained since the election of the newest Italian coalition government. As much as Brussels threatens and cajoles the Italians about their irresponsible financial behavior, Matteo Salvini and Luigi Di Maio understand very well that it is the Italians that have the upper-hand in any genuine negotiations.
The Italians owe so much money that in traditional financial negotiations. THEY OWN THE BANKS. The entire European banking system is stuffed with high-yielding Italian sovereign bonds because they carry a zero risk weighting. More importantly, the ECB owns hundreds of billions of Italian instruments. The Bundesbank is also on the hook due to Target2 funds on deposit from Italian citizens at German banks. Last week, the Italian government broke ranks with Eurocrat strategists by signing on to China’s Belt and Road Initiative. The Italians are so certain of the strength of their position that they continue to prod the beast that threatens them. Brexit is a sideshow compared to the damage that a belligerent Italian government can effectuate upon a fragile European system. The ability of Italy to disrupt is very great and Juncker and Brussels are trying to keep from boiling over prior to the European parliamentary elections in May.
In reference to the U.S./German 10-year spread, the fear of Italy keeps a bid to the highest quality debt in Europe, aiding and abetting the U.S. 10-year yield. Europe exists on the German credit card regardless of what French President Macron fantasizes. German financial power is the driving force of the EU project. Will Fitch maintain a AAA rating on the ECB? Depends on the ability to eventually consolidate the ECB balance sheet, which can only be accomplished through the acquiescence of the Bundestag. Nothing is as it appears in the realm of NOTES FROM UNDERGROUND where 2+2=5.
Tags: ECB, Europe, Fitch Ratings, HQLA, Italy, Jean-Claude Juncker, U.S./German spread
April 2, 2019 at 8:41 pm |
If you owe the bank $100 that’s your problem. If you owe the bank $100 million, that’s the bank’s problem. 🙂
April 2, 2019 at 8:45 pm |
Chicken—absolutely correct as any real estate developer knows well
April 3, 2019 at 4:36 am |
Similar in neighboring Canada which also enjoys AAA rating.
In consultation with Larry Summers, the new Canadian gov’t swept to power 4 years ago on a platform of increased deficit spending. The gov’t kept its promise and more, by ramping up deficit spending even more than promised. Because deficits don’t matter and in the words of their PM, “the budget will balance itself”.
Alas for Canadian consumers, USD/CAD has gone from 0.90 earlier this decade to 1.33 today … so maybe deficits do matter, like those twin deficits that could explode in the US.
Despite its rising deficits and debts, Canada was recently re-affirmed as AAA by US rating agencies. Why worry? Canada’s debt is mostly in its own FX and Canada has a printing press.
In this paradigm, the rating agencies could award AAA to every nation whose debt is largely denominated in its own currency.
It seems imprudent to invest in Cdn or US sovereign long bonds, except occasionally as a swing trade. In the long run, their yields could soar or their FX could tumble, or both. CAD interest rates have been muted, below US rates (whereas CAD rates used to be triple the level of US rates not so long ago), so servicing the rising CAD debt has been manageable, you see above that the loonie has lost 43-cents. Again no worries, as people believe a falling currency is good for the economy and jobs.
April 3, 2019 at 10:42 am |
I’m 100% in on International Immobiliare.
April 3, 2019 at 1:18 pm |
Luigi and Matteo to Juncker, “Give us more money or we will declare BANKRUPTCY! …on those… bonds.”
Juncker to Matteo and Luigi, ” Sure amici it’s not my money. How mucha you wanta ?”
April 3, 2019 at 6:48 pm |
Luigi and Matteo say, “Ave! Juncker, give us more money, or we will declare BANCAROTTA on those bonds … for fun and profitto via il PRESIDENTE TRUMPO.”
Juncker says, “Hagel! Luigi Matteo, amici, have all you want. It’s only the moneta we’ve been screwing out of you for 20 anni. And there is plenty more where that came from.”
April 4, 2019 at 12:17 pm |
Bellino—-thank you for you are one who well understands the situation in Europe.