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Bonds Are a 'Safe' Investment: A Big Lie Gets Even BiggerBut, in practice, it isn't that removed because fewer dealers means fewer firms bidding for U.S. bonds - - a circumstance likely to increase government (read: taxpayer) borrowing costs, Mark MacQueen, money manager of Sage Advisory Services told Bloomberg News Monday.
The number of authorized bond traders who make markets in U.S. Government debt decreased to 19 when the Bank of America (NYSE: BAC) acquired Countrywide Financial Corp., Bloomberg News reported. It will drop again, to 18, after J. P. Morgan Chase (NYSE: JPM) completes its takeover of Bear Stearns.
Economist David H. Wang agreed Monday that the bidder math is not running in the U.S. Government's favor at this juncture. "We know from basic economics that, historically, if the number of market makers declines, auctions will not be as efficient, and this will lead to higher financing costs for the U.S. Government," Wang said.
Another factor likely to drive up U.S. Government borrowing costs: the size of the U.S. Government's budget deficit, Wang said. The Congressional Budget Office projects that the Fiscal 2009 deficit will total $500 billion, up from $470 billion in Fiscal 2008, the current fiscal year, which ends September 30, 2008. (pdf)
"In less capital-stressed times, market makers would not be as concerned about price, but with the amount of bond inventory they have to push, dealers will seek concessions on price, and that means higher financing costs for the government and the taxpayer," Wang said. Wang used the analogy of a retail clothing store buying suits from a wholesaler: if he has to buy 10 suits he may give the wholesale a higher price per suit; 20 or 25 suits, a lower price per suit, to reduce to his purchase cost risk.
Bond supply, demand 'double whammy'
"Right now, given the decline in dealers, the preferred situation would be a small federal budget deficit, but that is not the case. We have a large deficit, so we have a supply demand 'double whammy.' The federal government will have to work extra hard to find buyers of its debt, which undoubtedly means increasing the interest rate paid, a higher borrowing cost which the taxpayer pays," Wang said.
Economic Analysis: The above is all the more reason the new U.S. president, in addition to having the U.S. economy and the international situation front and center, must cut the deficit through both tax increases and spending cuts. The large U.S. deficit is one factor that's keeping interest rates higher - - for both the government and typical citizens - than what they should be, given current economic growth conditions.
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Reader Comments (Page 1 of 1)
8-04-2008 @ 5:07PM
william lindblad said...
Given present conditions which include a huge deficit, the above is probably true. Conversely, if the national debt were small and the government operating in a little or no deficit mode, less dealers would be desirable. Remember? Supply and demand? It all works on buyers and confidence, besides, what stops the Treasury from making a few new appointees? Isn't this somewhat moot?
As this at least indirectly pertains, I for one, will be watching the Fed this week. I want to see if they have the guts to raise the discount rate the 1/4 point it will take to push the price of oil back under 115, and in doing, address inflation, their primary objective. So far Bernanke has been little more than highly political and a puppet to Wall St. I hope that he, and Paulson, see that they have the upper hand and choose to keep the pressure on. I don't think that world market conditions will allow this commodity to go under 100, but if it gets below 110 gas will go down to the 3.50 range and diesel back to around 4.00. If we don't get back to at least these levels it will be a very bad winter, probably close to what Thomas Paine described back at the time of the revolution - one that tries our souls.