Democratic strategist, James Carvell was once asked if he could be reincarnated as the most powerful person in the world he responded that he would rather come back as the bond market. The bond market, the sum of all of the issuing and trading of commercial bonds and government bonds, involves many times more money than do equity markets, usually called stock market. The media try make the equity markets, usually the New York Stock Exchange, as the barometer of the US and World Economy and it is simply not the case.
Bond markets are by far the most important source of capital and it is more sober and deliberative and much less prone to despair or euphoria, collectively called "animal spirits." They tell us a great deal about where the economy, a firm and government policy is at the moment, the bond market gives far more insights into the future than the stock markets and it has many stories and commentaries of US economic and political history.
The most notable example of bond markets telling the tales from the past is what its yields from the Great Depression tell us. Interest rates (and by extension bond yields) are largely a result of the availability of capital, idle money, relative to the demand for it. As a result interest rates tend to move in concert over time and risk and expected rewards cause certain rates to always be higher than another type of rate at a given moment in time, corporate bonds almost always have a higher interest rate than government issued debt. Any chart that shows the movement of interest rates over the last hundred years will demonstrate this point, with one extremely large deviation.
In the 1930's, there was genuine fear that Franklin Delano Roosevelt would engage in wholesale nationalization of the economy or many sectors of it. Obviously bond holders in those nationalized firms would not be paid back the money they lent those firms in the form of buying their bonds. As a result, by the mid 1930's, corporate bonds interest rates soared, graphically the line representing corporate bonds deviated from all of the other types of debt's interest rates in that same period. Roosevelt, had a great deal of political power but he could not control the bond market, he could not control the market that has served as an accurate barometer of the realities of the business climate at the moment.
There was a similar instance (which was what probably caused James Carvell to make his observation) of the bond market asserting its power over a president. President Clinton, was forced to change his policy course early in his Presidency when he was briefed on markets, government debt and bond market interest rates. Bill Clinton had gran left wing dreams but had to curtail them because he is a brilliant man and pragmatist (although he did not initially take to the news of the bond market well and is said to have proclaimed "you mean to tell me that what I can and cannot do is up to some @#%# bond traders in New York?").
It looks like unlike FDR or Bill Clinton, President Obama is refusing to bow to reality and the inescapable existence of constraints. He has managed to raise interest rates on government debt, especially long term debt as well as on corporate bonds, that have a large unionized payroll. His reckless spending, which will be, as measured by share of GDP (the most relevant measure of government debt), a multiple of the worse peace time budget deficit (which was in 1983 under Ronald Reagan although that was because he had cut tax rates and increased defense spending and as result eventually had economic growth, job creation and higher tax revenues to show for the former and the Berlin Wall in Rubble as result of the latter). The fact that reckless spending by a government will make buying up its bonds more risky and, all things being equal, cause an increase in the interest rate is pretty straight forward.
What is more complex and perhaps even more telling is how the bankruptcy of Chrysler and the treatment of bond holders has effected the bond market. Because president Obama owed several favors to the UAW as well as virtually all labor unions, he forced the bond holders in Chrysler to accept virtually nothing under his bankruptcy plan. The bond holders lent that car company money at fairly low interest rates only because they knew that if Chrysler goes bankrupt, their bonds will give them legal priority in recovering at least a large portion of what they were owed. The UAW gets almost everything, at the expense of the bond holders.
The result of all of this is that prospective bond holder, in companies with a powerful union presence, want higher interest rates because it is assumed that they will legally be in the back of the line if a firm should go bankrupt. This effect will likely not be very great in extremely solid companies that are at no risk of insolvency in the years to come. What it will do is make capital more expensive for all other firms. If bond holders believe that they will receive nothing if a firm fails and the unions get everything that is left over, interest rates will have to become very high for all but the most rock solid firms. The increased risk plus inflation plus the coming crowding out effect of so much public debt that is going to soon flood the debt market will make borrowing money costly.
Thanks to a reckless budget and a lawless approach to the handling of a firm that fails, the Obama administration is going to make money much more difficult to raise in the future. This is especially ironic because Obama, the senator and the president, were strong supporters of the bailout and whatever else they believed would get the financial system back in to good health. He said the world would end if certain banks were allowed to fail, what he is now doing is much worse, he is removing the very conditions that are necessary to allow capital to flow at all.
No king, emperor or president has been able to defeat certain mundane but salient aspects of economic life and in this case, Larry Summers, Austan Goolsbee and other economic advisor to the president should tell him that when it comes to taking on the bond market, "No You Can't."
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