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There has been a lot of talk here recently about negative nominal yields on bonds.

I take a slightly different view and predict that returns will be negative even if nominal yields are positive.

Borrowing heavily from the 21 August 2010 post at this blog, heavily indebted nations only have 6 ways to deal with debt as they will never be able to afford to redeed their debts:

1. Repudiate. A default will make it difficult to access markets for a long time. It will also destroy bondholder wealth.

2. Reschedule. Makes further access to markets difficult. Bonholders will suffer from a loss in value on their holdings. This seems to be the approach recently being favoured by the Germans for the PIIGS.

3. Refinance. There are no new pools of capital available. There are some capacities of the state (the ability to tax for example) which might be possible to monetise at great risk to future sovereignty. A really unlikely way out of this mess.

4. Redeem. For some nations, the level of debt is so high that it is beyond the tax generating capacity of the economy to repay debt.

5. Repress. Force yields very low or negative. This is the express aim of QE1, QE2 ..... QEn and ZIRP.

6. Redenominate. Try to inflate away the debt. Again, this is the express aim of QE1, QE2 ..... QEn and ZIRP and was clearly laid out by Bernanke / Bernanke and Gertler in economics journals 10 to 15 years ago.

The way that I see it is that 1 to 4 are effectively Austrian based solutions to deal with the problem which will result in a large loss of bonholder wealth generating negative portfolio returns and deflation after the debt boom.

5 and 6 are Krugman solutions which will result in negative portfolio returns in real and possibly nominal terms along with eventual higher inflation.

The bottom line is that bondholders are in a deep mess. They are going to suffer from negative total returns in real terms no matter what borrowers do.

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Nice post that seems to sum it up. I agree with you.

But what worries me is that there was no need for the debts to be sovereign. Since when did the world decide that debts can never be extinguished?

Why have we allowed the extinguishable private sector debt to be transferred to the backs of the sovereigns/people?

Instead we should be talking about corporations being resolved, not countries defaulting on their debts.


Can we not have another option? Push the debts back to the corporations from where they originated?

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  • 433 Brexit, House prices and Summer 2020

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      • down 5% +
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