The financial crisis has not finished surprising us by its paradoxical
dimensions.
Among them, the least is not the behavior of the central banks: they spend
their time asking Governments to reduce their debts, while doing everything
to facilitate their indebtedness, with interest rates that are too low and
all conceivable mechanisms. So much so that, at first sight, the more the
States debts increases, the more their interest charges will decline, at
least in appearance.
Thus, the service of the public debt of the 27 countries of the European
Union, which accounted for € 343Md in 2008, represented at the end of 2009,
only 310Md €, although the debt of these countries grew by almost 20%. The
debt service on that date represented 2.6% of GDP in the region and about
11% of tax revenues. Apparently, very little, indeed. The phenomenon has
increased in recent months. And the rise in long-term rate, is very
significant, (3.8% for TBond at 10 years and 2, 2% for STIPS (treasury
inflation protected bonds) has less and less impact on the debt servicing of
governments, because they borrow more and more for the short term.
This can satisfy everyone: governments borrow easily, pay low interest rate
and are not required to make savings, taxpayers are not required to pay more
taxes and those who lend money to states are increasing the value of their
securities. One can understand this behavior: why reduce your debt when you
can borrow virtually free? Why raise interest rates if the risk is not
inflation but depression? In reality, it is extremely dangerous.
On the one hand, it merely pushes countries to go further into debt and not
adjust any of their underlying problems. On the other hand, this calculation
is misleading because we must add in reality the payroll tax, that is to
say, interest on social security liability and pensions of the state
employees which constitute a genuine service of a real public debt service.
The total service then reaches 890Md € or 43.0% of the revenues, far above
what any commercial bank will accept to loan to a regular bank client. And
which becomes extremely sensitive to changes in interest rates.
Overall, the drop in interest rates works like a slipknot. A silk knot. But
a slipknot. If inflation rises, or if the risk of State bankruptcy
increases, interest charges will increase for states and create conditions
for a huge disaster for taxpayers and investors. It will be bankruptcy.
The markets know that and already plan for a bankruptcy to come in many
European states. Without yet drawing the consequence in terms of interest
rates.
The solution would be to anticipate higher inflation and not condition
interest rates of the Government loans to another thing but the
sustainability of the debt In the long-term. Then we might finally see that
the cost of debt is much higher than previously believed. And it is urgent
to raise rates.
But as everyone thinks that the present moment is more important than the
long term, and nobody wants to suffer the pain of withdrawal, of course,
nothing will be done.