C&B Notes

“Safe Assets” Trump Sound Logic

In a tortured argument, some economists and market participants are contending that budget surpluses in the ‘90’s were a negative for the U.S. because they diminished the supply of Treasuries as a safe haven asset. The flawed logic goes that with fewer Treasuries to buy, investors were forced to search for other, less “safe” assets.  Starting with macroeconomic rationale over microeconomic reasoning leads to all sorts of distortions in logic.

America’s budget deficits are often described by economists as a problem.  In the markets right now, they look more like a solution.  Even investors who worry about President Donald Trump’s loose fiscal policy are finding other things that worry them more.  From China’s credit bulge to the European slowdown, warning signs are flashing globally.  At home, the economy’s expansion is about to set records for longevity — a reminder that it won’t last forever.  When that kind of foreboding takes hold, it translates into demand for safe assets. And Trump is supplying them — at a pace of about $1 trillion a year, matching the projected shortfalls in the U.S. budget.

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Some analysts see it differently, pointing out that investor demand for safe assets drove a lot of the financial innovation that blew up in 2008. In other words, if there’d been more government debt back then, there would have been less need for exotic and unstable securities engineered to look like they were just as solid as Treasuries.

“It’s an argument a lot of people made for why the financial crisis was so severe, and the recovery after was so slow — because there was a lack of safe assets,’’ said J.W. Mason, a fellow at the Roosevelt Institute in New York who focuses on the history and politics of American debt.  “When the government spends money and borrows money, it’s creating safe assets.  That’s the thing that’s being missed.’’

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