Seems to me the question of are bonds a bubble hangs on two issues.
1) Are we headed for inflation or deflation?
2) How long will our foreign creditors continue to buy our debt?
If we are headed for a period of steep deflation, then treasuries could be a decent investment. At least they won’t lose nominal value. (As opposed to hard assets or stocks which typically lose value in a deflationary environment.) And given that the Govt. can always print dollars at least you know that you’ll get paid when the time comes. Of course that last point also is the main reason that so many think that deflation isn’t an issue, that inflation is the threat. And given Helicopter Ben’s previous statements that he would never allow deflation to take hold, those arguing that inflation will be the issue have a point. But if I had to pick between inflation and deflation, I’d probably pick neither. Ben and Co. will try to print money as fast as it disappears and not any faster. They might not get it exactly right, and it could certainly be rocky, but they’ll probably be in the ball park.
But personally I think the second question is the ringer. If our foreign creditors continue to buy and hold our debt then even if it is a bubble, it won’t pop, so what do we care if it’s a bubble? Of course if our foreign creditors start to balk at buying all the new debt that the government is going to need to float to cover the costs of these bailouts it’s a different picture. At that point, the government might find itself in a really ugly position.
The obvious problem would be that as people stop buying treasuries and the government continues creating them, the interest rates would skyrocket. (I guess that would qualify as the burst bubble, now wouldn’t it) It certainly would be conceivable that that interest rates would skyrocket, the government would still need to print more money to get the economy back on it’s feet.
But my problem is that I’m not smart enough to know which way these things will go. It took all my mental abilities just to figure out what the parameters of the problem are. So, maybe some of you guys who are knowledgable about this could chime in and inform us. Are we going to see massive deflation, or can Ben and Co fend that off? And always the wild card, what will our foreign investors do? Will they keep buying our bonds? Or will they decide at some point enough is enough. If we go into a massive global recession, could china take the trillion in treasuries they have and use that to buy raw materials for their economy?
