Part II: Credit ratings agencies, corporate blackmail & foreign loans

The following is Part II of ‘What If Every Government Paid Off Its National Debt?’, an edited excerpt of my upcoming book whose title has changed so many different times now, I don’t even know if it’s worth mentioning. Right now I’m thinking: ‘The Big Lie – How The World Really Doesn’t Work’.

What the hell do credit ratings agencies have to do with monetary sovereign government debt?

“But we’ll lose our AAA credit rating” is the go-to response to those — like me — who worry less about the deficit and more about the actual state of the economy. But what the hell do credit ratings agencies have to do with sovereign debt?

As the fiction goes, if credit agencies downgrade the national credit rating, the government will go broke because as a result of higher interest rates. “The credit ratings fear-mongering isn’t science,” says economist, Ellis Winningham. “It isn’t even pseudo-science; it’s entertainment. It is a grand fiction. It’s a scary story told around a campfire for fun. It’s a Stephen King novel. It’s “The Great Pumpkin Charlie Brown”; it’s “Night of the Living Dead”; it’s “World War Z”; It’s “Friday the 13th Part 666” — it’s entertainment.”

First of all — as I have mentioned many times previously — a government which issues its own currency (a monetary sovereign) cannot run out of money. The US government, the Australian government, The UK, Canada, China, Japan etc do not have to borrow to fund themselves, because they are not borrowing from other countries, but lending to themselves in their own denominated currencies. Repaying the debt is simply a matter of moving money from the savings account at the central bank to chequing and vice versa.

Governments are operationally unaffected by credit ratings precisely because they print their own currency. Currency users — that’s us — can be affected precisely because we do not issue our own currency. Users can run out of money and go into real debt because they cannot simply print more money to cover their costs. Governments on the other hand — at least governments that issue its own currency — cannot.

Credit ratings agencies are the bully pulpit of the private sector trying to hold a government which cannot be threatened over a barrel and should be outlawed.

“The AAA rating doesn’t mean jack squat to anyone but the ratings agencies themselves, and to those who pay them handsomely in an attempt to bully national governments that cannot be bullied,” says Winningham. “These people know that they have absolutely no power over sovereign currency-issuing governments, so they use illusory credit ratings to scare the public into demanding that their governments give these private entities what they want.

“What do they want? They want more corporate welfare, They use government bonds to manage their risk. They want more wage suppression, so that the national income keeps flowing to them and away from workers. They want forced involuntary unemployment maintained, so that they can threaten workers with unemployment who refuse to obey them. They want the entirety of economic policy to benefit them alone.”

What are bonds?

“The national debt that people worry about and politicians harp on about are bonds,” says Winningham. “These are savings accounts essentially.”

The US & UK calls their short-term government securities, ‘treasury bills’. Longer-term IOUs are called ‘treasury-bonds’, which are an example of what is known as capital market security. Australia calls its short-term IOUs ‘treasury notes’, and are an example of a money market security.

In the US, the Federal Government issues such IOUs by tender to banks and any other companies or institutions which care to bid for them. The same applies across Australia, the UK, and any other government which issues its own currency.

Bonds are a debt security, under which the issuer — the Federal Government — owes the holders — banks, corporations, companies, businesses and other institutions or organisations — a debt and, depending on the terms of the bond, is obliged to pay them interest (the coupon) and/or repay the principal at a later date, otherwise known as ‘the maturity date’.

In a nutshell: Bonds are IOUs issued by the federal government, with a promise to repay borrowed money at a fixed rate of interest, at a specified time in the future.

Because they are government guaranteed, bonds are considered one of the most secure investments companies can make. As a result, corporations, banks and businesses use bonds to manage their risk. The money-market is the market for securities which last for less than a year. The capital market is the market for securities which last for more than a year. Bonds are far more significant than notes.

Bonds are often discussed as having a face value of $100, although of course they are traded in millions of dollars. The face value and the coupon rate of interest determine how much interest is paid on them in terms of cash. So a 5% coupon rate of interest means $2.50 is paid every six months per $100 of face value (or, ‘par value’). This stated rate of interest is not the rate of interest you get on your investment in a bond, however. That depends on the price you pay for the bond. If you pay a price which is above $100 (if the bond is trading at a premium), this market rate of interest is below the coupon rate, because you have had to pay so much for the bond. If the bond is trading at a discount to par, the market rate of interest is above the coupon rate, since the bond was cheap to buy. The market rate of interest is also called the ‘yield to maturity’ on the bond.

Normally, bonds are initially issued with a coupon rate close to the current market value on bonds with that maturity, (or ‘term’). But the coupon and the par value are fixed over time, once the bond is issued, while the price of a bond and its market rate (or ’yield’) vary inversely. If bond prices rise, the yield to maturity on them falls, and vice versa.

In America, government bonds are in US dollars. In the UK, pounds, in Australia, AUD dollars and so on. (This applies to all governments who issue their own currency, otherwise known as ‘monetary sovereigns’). If the central bank chooses to do so, it can fix the yield on bonds by trading them in. If it buys bonds, yields will be driven down, and base money will be created, for example. The Bank of Japan is doing this now, and that is why Japanese ten-year bond yields are approximately zero.

But what if one country borrows from another country?

Critics like to argue that governments like the US are left in debt to countries like China, because they run budget deficits, and can lead to an eventual crisis. This claim, I’m afraid, is also incorrect. Instead, it is China which chooses to save US dollars, and the safest way to hold those US dollars is to buy the bonds issued by the US government. The US government doesn’t need them to do this. It doesn’t even really need to issue the bonds…

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