Bond Bull Run Shows Modern Monetary Theory May Be New Normal
(Bloomberg) -- Modern Monetary Theory should be anathema to bond investors, with its permissive license on government spending. But some finance luminaries are warming to the once-fringe idea.
The proposition that countries with their own floating currencies can’t run out of money augurs a world of rising public debt, given the MMT mantra to expand fiscal policy if inflation stays low. Over in America, it’s energizing socialists in their call for new trillion-dollar programs.
Right now, investors are paying little heed to swelling national debt amid a blistering bond rally. Benchmark 10-year Treasury yields have been flirting with 2% while the federal-debt-to-GDP ratio holds above 100%. Debt levels in Japan are the highest in the world while yields remain lower than almost everywhere.
It’s all spurring seasoned managers to mull whether MMT offers a smarter guide on the link between fiscal policy and the market, as inflation and bond vigilantes go missing.
“The initial take is ‘Oh my God!’” said Andrew Bosomworth, a money manager at Pimco. “But then again, I go to Japan and I’m struggling to find the inflation, and I’m struggling to find the risk premia priced into government bonds because of this high ongoing public deficit. The initial thoughts about MMT are potentially not fully justified.”
Central banks across the developed world have bought up giant chunks of government bonds, and experimented with interest rates near the effective lower-bound. Yet price pressures predicted by critics never arrived. Meanwhile, monetary officials concede their firepower will be more limited in the next downturn with conventional tools. All that is causing some investors to entertain the once-heretical notion of outright monetary financing.
It’s “inevitable” something like MMT will replace conventional central banking, said billionaire fund manager Ray Dalio in a recent LinkedIn post. New measures bypassing the sale of bonds including “helicopter money” -- giving cash straight to the public -- were options in the new world, he said.
Policy makers and a slew of Wall Street voices fret that the MMT framework has few binding constraints on fiscal policy which targets full employment and inflation, the traditional domain of monetary authorities.
“The whatever-we-can approach to policy, which may involve application of Modern Monetary Theory professing an unlimited capacity to ease fiscal policy if financed by the central bank, won’t be costless,” wrote John Normand, head of cross-asset fundamental strategy at JPMorgan Chase & Co in a note.
Federal Reserve Chair Jerome Powell has described the theory as simply “wrong.” Incoming European Central Bank President Christine Lagarde has issued more mollifying commentary, stating it could “possibly work for a short period of time.” She’s also called on governments to weigh fiscal support in the next slump.
Still, the MMT-friendly idea that many governments gripped by disinflation have ample capacity to spend is one signal investors can divine from markets right now. The stockpile of global bonds with below-zero yields sits near $14 trillion.
“In bonds with negative yields, you could argue that’s a signal there is too much demand for fixed income but also too little supply,” said Eric Stein, a money manager at Eaton Vance in Boston. “Germany should be issuing more debt; they should be having more fiscal spending.”
With Germany’s low debt, that’s one of the easier conclusions to draw. The bigger one -- that standard monetary models hold less water in today’s world -- is something bullish denizens of fixed income are also increasingly coming round to.
“MMT is printing money and buying real things. QE is printing money and buying surreal things,” said Richard McGuire, head of rates strategy at Rabobank. “Whatever the case, it’s always the time to buy safe-haven bonds.”
©2019 Bloomberg L.P.