Bill Gross, founder of Pimco, has been wrong about hyperinflation for some years now. Nevertheless, his columns seem to be good enough a read for the financial folks, as his recent article in the FT proves. Gross is warning investors to not invest into sovereign bonds of the euro zone members because …
The dirty little secret that sovereign debt issuing nations need to remember most of all is that credit and maturity extension is based upon trust. After all, “credere” is a Latin word meaning just that. After trust has been lost due to half-baked policy measures; after credit agencies belatedly have recognised embedded costs of debt that can no longer insure solvency; after marginal investors have been flushed from the system to what appear to be safer return of principal havens; and after policy makers finally appreciate the fragility of their rigged fiscal and monetary system; after all of that – there is no coming home, there is no going back in the water.
What is perhaps at this point in time not so amazing is that Gross is wrong again. The dirty little secret that sovereign debt issuing nations need to remember most of all is that a central bank must fulfill the lender of last resort function if it wants bonds denominated in the currency it issues to be valuable. To put it differently: no risk, all fun. With this in mind, even children will be allowed into the pool again. However, the new rules must say that the central bank watches out for all the children and that it drives out all the (loan) sharks that have been attracted by those high interest rates.
Of course, this would only stabilize the European economy. However, this time would be different: now the ECB could buy time to let politicians do something useful, which is figuring out how to turn around the macroeconomic imbalances and then how to create a euro zone which works better than the one we have, hopefully so that the next recession does not turn into a depression for some of the members.