The burning question for the sovereign bondholders today seems to be: Can Greece and Italy pay us back? In reality, that’s a wrong question to ask (they can’t). The real question for a bondholder should be: Can countries such as France and Great Britain pay us back?
American economist Hyman Minsky distinguished between three types of finance:
– an organisation is in hedge finance group if it’s anticipated income is more than sufficient to pay both the interest and scheduled reduction in its debtedness
– an organisation is in speculative finance group if its anticipated income is sufficient to pay the interest on its indebtedness, however, the organisation must use cash from new loans to repay the matured loan
– an organisation is in Ponzi finance group if its anticipated income is smaller than the amount needed to pay all the interest on its indebtedness on the scheduled due dates, so the organisation must either increase its indebtedness or sell some assets to get the cash to these payments.
Most of the eurozone countries as well as other big developed economies (United States, Great Britain) are clearly in the Ponzi finance group. The question that sovereign bond issuers ask themselves should be: “Can we pay it back?” Unfortunately, this is really the last thing on their mind right now. The major question they ask themselves is “Can we raise more debt?”. Everything that is going on right now (for example letting Greece to default de facto but not de jure) is just about making sure that there would be more credit available. It is like maxxing out your credit card at the end of each period and then, looking for a new card with bigger limit (instead of figuring out how to pay the balance).
Things are not getting any better. There is a huge amount of debt the countries hold that you cannot see in the balance sheet: the retirement duties. Considering the aging population and decreases in family sizes it is just not possible to see where the money to pay those pensions will come from. Also, as the number of retired people increases, the pension payments increase and the pension funds are much less likely to keep buying the sovereign bonds in the amounts they do at the moment. In addition to that, in some countries (France, Estonia) some parties are still playing on populist promises of decreasing the retirement age or increasing the pensions.
As for now, banks, retirement funds and other investors will keep on buying the sovereign bonds. Their hope is that there will be indeed a “greater fool” buying the next round of bonds, or maybe there will be a miracle which enables the bond issuers to pay the debt themselves. It is easier to pretend than to face the reality, after all.