When it comes to overpriced government bonds, we thought we had seen it all. But last week’s $1bn Iraqi bond sale seemed “to define the very idea of a credit bubble”, says Marcus Ashworth on Bloomberg.com. The five-year paper Iraq sold, offering a yield of 6.75%, was seven times oversubscribed, reflecting the desperate hunt for yield among global bond investors. The launch follows Argentina’s sale of 100-year debt and Greece’s return to the debt market despite its ongoing bailout.
Iraq has agreed a $5.4bn bailout with the International Monetary Fund and the government is acknowledged to be trying to clamp down on pubic spending. And the bond is partly an oil play given Baghdad’s membership of oil-cartel Opec. Nonetheless, it is still in the middle of a civil war. The return hardly seems to begin to compensate for the huge risk.
A few days before Iraq’s sale, former US Federal Reserve chairman Alan Greenspan, who famously caused the equity bubbles of the 1990s and 2000s, popped up to point out that bonds were in a bubble. Real interest rates were far too low, he said, and the danger is that long-term interest rates could rise quickly amid an increase in inflation. Higher interest rates will be a nasty surprise to stockmarkets used to endless stimulus from central banks. Greenspan foresees soggy growth accompanying the rise in inflation: 1970s-style stagflation.
He isn’t alone. The stagflation scenario has been widely touted as a possible end to this post-crisis upswing. The key point to remember on the tenth anniversary of the start of the crisis – 9 August 2007, when BNP Paribas froze three funds damaged by subprime losses – is that however this phase of growth ends, it’s unlikely to be pleasant. Some worry that given the massive debt load the world is carrying, a spike in inflation – possibly caused by unexpectedly fast growth – and rising interest rates will cause another collapse. And now there’s nothing left in the “fiscal or monetary locker to throw” at the next downturn or crisis, says Jeremy Warner in The Daily Telegraph.
Alternatively, if inflation doesn’t emerge, the distortions caused by years of loose monetary policy will simply get worse, sowing the seeds of a bigger crisis later as asset prices enter the stratosphere. Greenspan’s warning is a timely reminder that central bankers’ endless money-printing and zero-rates policies have painted us into a corner. Enjoy your summer, says Warner. “Winter won’t be long in coming.”