THE “KEYNESIAN END POINT”?

Kyle Bass, Managing Partner of Hayman Capital, had an interesting interview on CNBC earlier today.  Bass is a great thinker and I’ve generally been a big fan of his commentary (particularly his ideas on regulation), but he seems to make the same fatal flaw with regards to sovereign debt that many of the defaultistas and hyperinflationists are making.  In discussing Japan Bass keeps referring to the fact that a debt restructuring is right around the corner.  This is essentially the old “bond vigilante” argument that people have been making in Japan for two decades and have been recently making here in the USA.

He compares Japan to the European sovereigns without recognizing that the monetary systems are entirely different.  Like the USA, Japan is not experiencing the “Keynesian end point”.  You would think that 20 years of this failed argument would have silenced it completely, but people still fail to understand that a nation with monetary sovereignty that is the supplier of currency in a floating exchange rate system never has a problem funding itself.  In fact, contrary to popular opinion, the funding mechanism is the currency supplier itself.  Such a system is not unlike an alchemist who simply makes gold from essentially thin air.  To be specific, in the USA the government is always able to harness its banking system to procure funds.  This is how the system is designed.  Therefore, the idea of the “Keynesian end point” based on a necessity to fund ones self via bond markets is inapplicable to these systems.*

The only solvency risk to such a nation is the risk of inflation (or hyperinflation) or currency collapse and that clearly isn’t a risk in Japan at present.  This whole outlook leads Bass to believe that stocks are impossible to own in the current environment and while I agree with him that the problems in Europe are substantial I believe he is making a huge error in his thinking on Japan:

* The story of a sovereign currency issuer is more complex than this simplification and is explained in more detail in my paper “Understanding the Modern Monetary System” which can be found here.