Is it Time to Manipulate the Debt for the Greater Good?

We got into this mess through financial engineering and manipulation for individual profit. Maybe it's time we considered some more manipulation, this time for the benefit of everyone and not a greedy few.

Markets have remained in a virtual standstill throughout the past week, with money seemingly left out of the game, sat on the side-lines, waiting for clarification, either way, as to whether the Spanish will eventually ask for bailout for the sovereign, having already applying for one for the banking sector.

In fact, the only people who are throwing cash at the markets at the moment are the central banks, with the Bank of England the next "on deck" and expected to inject another £50bn into the UK economy at its November meeting.

This would take the Bank's holding of UK debt to £425bn so far and questions are now arising as to what they, plus those other central banks that have engaged in similar policies (Federal Reserve, Bank of Japan and to a lesser extent the ECB), will do with these holdings of debt once they mature.

Quantitative easing involves the purchasing of debt which at some point must be paid back to the bondholder. The difference in QE is that the government is the issuer and the buyer; it pays itself interest and would, in theory, pay back the principal as well.

The economic argument that is becoming en vogue at the moment is a very neat way of potentially dealing with these huge debts. And it basically boils down to cancelling it.

The government would simply not elect to take the principal when it came for value with the central bank taking a "loss". When you take into account the amounts of debt we're talking about here, the argument moves from being an elegant one to being a downright tempting option.

The Bank of England holds around 25% of the gilts in issuance at the moment; billions that sit on the debt levels of the UK and therefore billions that could be lifted from the debt/GDP ratio and allow the government to relax its austerity push. As I said, tempting.

The problem is once again what we warned of last week; the threat of inflation. Bonds are an investment product and investment into those bonds needs money that would otherwise be spent on consumption; the monetisation of these bonds reverses this, leaves more money to be spent elsewhere, by governments or you and me driving up inflation.

Given that the recent comments from central bankers were more about avoiding deflation than being worried about inflation in the long term, this novel suggestion might become more than just an idea and could legitimately be pursued as a solution.

We got into this mess through financial engineering and manipulation for individual profit. Maybe it's time we considered some more manipulation, this time for the benefit of everyone and not a greedy few.

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