09 Oct SHARE OWNERSHIP RESTRICTIONS, MMT AND DEFICITS
Led by technologies, equities sank on reports that the US is moving toward restrictions on ownership of Chinese equities in government sponsored pension plans. I think it is noteworthy that there is bipartisan support for such a plan albeit such is not discussed. Personally I am against such curbs for a myriad of reasons.
Equities were also weighed down by Brexit, earning concerns, Hong Kong and the growing backlash over Chinese suppression of Muslim and Christian minorities.
Deviating considerably from market comments, as we all recall from our freshman political science class of comparative structures of government such suppression of religion is a hallmark of communist societies where loyalty is to the state not to a God. The state is sovereign, omnipotent and omniscient demanding absolute loyalty above everything else.
Returning back to the markets, many times I have discussed the lack of liquidity in the bond market which has demanded Federal Reserve intervention. It is now generally accepted the reason for this lack of liquidity is government fiat that has destroyed a vital trading component in an attempt to make the markets more stable.
Today and tomorrow the Treasury is auctioning about $50 billion of the 10 and 30-year Treasury. In my view one would be hard pressed to find many people in Washington who are worried about the budget deficit. Republicans want to cut taxes and Democrats have extremely ambitious plans for everything under the flawed philosophy of Modern Monetary Theory (MMT).
In my view the repo crisis is a small but pointed reminder that debt and deficits do matter. This view was validated by FRB Chair Powell when he stated yesterday “the repo spike was driven by reserve shortages brought on by an excess of public debt.”
Simply put there is too much new debt flooding the financial system and not enough money causing lenders to jack up repo rates. The Fed moved to inject much needed cash on a temporary basis. At some juncture the flood of supply in coming months and years cold ultimately result in higher borrowing costs.
I am not suggesting the US faces any imminent problems financing itself. Everywhere government borrowing costs around the world are at historic lows. The dollar remains the world’s reserve currency and Treasuries are still regarded as the ultimate safe harbor.
Nevertheless I worry as do others that MMT is winning the argument in Washington and the repo upheaval is a clear sign there might actually be limits on just how much debt the US can take before triggering a disruption. Deficits are nothing new but since the crisis, the market for Treasury debt has tripled in size.
The growth in the market was manageable in previous years because the Fed bought significant amount of Treasuries post auction from dealers via QE but this outlet is now absent. Bloomberg writes primary dealers outright positions in Treasuries reached an all-time high in May—about $300 billion and more than double than the previous year.
Primary dealers unfortunately are not getting much help form investors in soaking up the excess supply given that both China and Japan have shrunk their share of official holdings from 40% of amount outstanding in 2008 to 25% today according to the Treasury.
The introductory sentence of today’s comments was about the US moving to restrict American ownership of Chinese equities, an idea that has bipartisan support. What happens if the Chinese threaten the same?
Wow! Talk about the nuclear option that will shatter today’s MMT illusion and complacency.
Last night the foreign markets were mixed. London was up 0.48%, Paris up 0.67% and Frankfurt up 0.96%. China was up 0.39%, Japan down 0.61% and Hang Sang down 0.81%.
The Dow should open moderately higher as China signaled it would accept a partial deal even after the Administration placed a number of Chinese technology firms on a blacklist. Bloomberg reports the White House is moving ahead with discussions about restricting US government pension fund investments in China.
The 10-year is off 10/32 to yield 1.57%