A Ponzi scheme pays returns to its early investors from new capital paid by later investors. American fraudster and former stockbroker Bernie Madoff practised it, and governments around the world are practising pretty much the same thing, only with bonds.
Governments issue bonds to fund their spending. In 2006, the value of government bonds in the developed world was $10.1 trillion (£8.3 trillion). It is now $27.6 trillion and rising, as governments pay off maturing bonds by issuing new ones, Ponzi-style.
Bank on it
Whether or not there are buyers for new issues does not seem to matter: if all else fails, central banks buy the bonds. This practice is a central part of quantitative easing.
In the case of the UK, the Bank of England owns more than a third of all extant UK government bonds.
Japan’s budget deficit of 6% of gross domestic product (GDP) is dwarfed by its bond purchases, equivalent to 16% of GDP last year.
The total assets of central banks of the US, Europe, Japan and China has increased by $1.3 trillion in the past year, and is up by $10.5 trillion since the start of 2008.
The 166% increase in the value of government assets, mostly bonds, since 2006, towers above the 15% rise in global industrial production over the same period. It dwarfs the 17% increase in the value of global exports and the growth of 44% in the world’s nominal GDP. Yet the consumer price index (CPI) is up globally by only 34% over the past eight years.
In the red
Today, with yields on bonds low and even negative, the plot thickens. Yields on Dutch 10-year bonds can be traced back to 1517, the longest history of any government bond. For the first time, their yields have turned negative.
The entire Swiss yield curve out to nine years (government bonds with a maturity ranging from three months to nine years) has a negative yield. Any investor buying a seven-year or shorter-dated Japanese government bond will have to pay for the privilege.
Despite the recent rise in bond yields, more than $6 trillion of government bonds have negative yields. The only consolation is such alchemy is good for equities.
Switch in focus
The Ponzi scheme is moving on from government to corporate debt. The European Central Bank has been buying the debt of an airliner (Lufthansa), a car manufacturer (Volkswagen) and a miner (Glencore).
Suppressing the cost of debt in capital-intensive industries such as these seems likely to have perverse consequences. It shows the potential of the bubble in bonds to be more damaging than the dotcom boom of the 1990s. That is because the effects of this bubble are not limited to one sector and are more global.
So, is a big bubble about to burst? In these extreme conditions, paradoxes could run on. Recessions cause bear markets, which politicians and central bankers strive to avoid.
However, there is comfort in nature. The wasp Dinocampus coccinellae lays its egg in the abdomen of an adult ladybird. As the larva develops, first it eats the ladybird from the inside, then paralyses it and spins its cocoon under the ladybird’s shell.
Remarkably, many ladybirds survive this zombification. A bit like Japan. As Tessa Ransford, poet and founding director of the Scottish Poetry Library, wrote: ‘The lies we tell are merely forms of hope / With kinks in them like periscopes.’
Let Ponzifying governments hope on.
William Littlewood manages the Artemis Strategic Assets fund