Debt weaponization

While we continue to watch our leaders debate in Davos, the global financial system is moving rapidly, particularly the debt. The long end of the Japanese curve has been in a price discovery mission that has pushed yields up rapidly, to the point where the government has either intervened or threatened to intervene. For the 30 year JGB, yields touched 3.85% and then were pushed down to the current 3.67%. The move does not look like much, but these bonds have a duration of 20 years aprox. For every 1% increase in yield, an investor would lose 20%. That’s why there is so much concern that big institutional investors could potentially sell US treasuries to compensate the losses originated from JGBs. Now, in the U.S., as you can see in the chart below, 26% of the treasury debt matures in less than 1 year. Mr Bessent bet seems to be to decrease the cost of debt by having a big portion in short term bills that would reprice down as official rates go down. That’s why the next Fed chairman is so key for this administration. That person needs to find a way to de decrease rates without creating inflation, allowing the cost of debt to go down. But decreasing rates while keeping high levels of debt is bad for the dollar, which is still holding the fort, but it’s under a lot of pressure from the debt, the deficit and the willingness of other big economies to get out of the petrodollar system, diversifying into gold. The current system was created in Bretton Woods (New Hampshire) 82 years ago, and modified by Nixon when he broke the gold standard in 1971. It is being challenged now form the inside, by Americans who think the system is so strong and so entrenched in the global system that nothing can break it, and from the outside, where big trade counterparts like China are no longer willing to keep sustaining the privilege of having a reserve currency, when the US is imposing sanctions and using force to keep its status as a hegemon. The important wars these days may not be the military ones, but the currency and the technological ones. And debt can be weaponized.

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