Bond Bears: Beware of “crypto QE”

October 28, 2009

The guys at Variant Perception make a great point. Some reform plans for the banking sector (so-called “narrow banking” being the most extreme) would have banks invest more deposits in government paper in order to keep them safe. To the degree such plans get traction, that could keep a lid on yields despite rising government spending.

The following chart shows how the US 10yr yield has disconnected from the price of commodities. We believe yields are not reflecting the future risk of inflation, and the fiscal situation of many sovereign issuers. However, there are no limits to what governments may do to support their debt. In the UK, a recent ruling was announced by the FSA forcing banks to increase their holdings of government bonds. In India a similar initiative has just been announced. In Japan, already over 50% of outstanding JGBs are owned by public sector institutions. In the US, only 0.9% of commercial banks’ assets are treasuries; in 1994 it was as high as 8.7%, so there’s great scope for it to increase. Mandated purchases of government bonds by banks and other financial institutions – crypto-quantitative easing – could persist long after official QE comes to an end, keeping bond markets supported for longer than many think.

Nevertheless, we think longer-term yields will move higher. Sell rallies.



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The best sign of a debt market top is when government officials use their regulatory power to mandate that people / banks fund their excessive spending.

Posted by Steve Roberts | Report as abusive

This has nothing to do with QE :
QE means monetization of debt – hopefully temporary, but we all know it won’t be. Individual citizens don’t have a say wether QE should happen or not.

Conversely, government bonds backed deposit is a voluntary scheme, an a citizen per citizen basis. Banks will buy T-Bonds and bills only if they have some deposits (and they will give less yield than what they receive on the government bond anyway). If people don’t like the yield they get on deposits, it is up to them to find an alternate channel for their investment (or consumption actually).

Qualifying narrow banking as “crypto QE” is really a case of the pot calling the kettle black !

Posted by charles | Report as abusive

QE is NOT equivalent with debt monetization.

QE is the creation of central bank reserves which are used to buy assets, often government bonds. A certain amount of reserves, ie a quantity, is targetted, rather than the price (ie the interest rate) of these reserves. (So in theory one could have QE with non-zero rates.)

Only if this is unsterilized, and rates are stuck at 0 – in perpetuity – would this represent monetization of debt.

Posted by Simon | Report as abusive

We are drowning in debt and all these props appear to be air hoses to keep us breathing. But the trouble is, the debt is only getting heavier and I don’t think the air hoses can reach us if we go much deeper.

Posted by Christopher Wingate | Report as abusive