In Thrall to the Iron Fist


Is there anything uglier in life than someone who admires and lusts for power? Well, there might be. Hairless cats are rather ugly. But when it comes to human beings, fawning over centralised authority is about as repulsive as it comes. More on Paul Keating in a moment.

But first we should mention a cause for concern. There was not much consensus at the Vancouver conference about anything. Yet nearly everyone pointed out that bonds appeared to be in a bubble. You could almost call it a consensus.

A consensus on anything is really just a lack of imagination. In markets, when everyone agrees on something, everyone is usually wrong. Another way of looking at it is that if everyone is on the same side of the trade, you should probably be on the other side. But is this the case today with bonds?

Government bond yields in Europe’s northern core (Germany, Denmark, and Switzerland) have dipped into negative real yields recently. That sounds complicated. What it really means is that once you’ve adjusted for inflation, short-term government bonds aren’t paying a real yield.

Why would you loan your money to a government for the privilege of losing a fixed amount of yield? Why settle for getting back 98 cents for every dollar you lend? The only world in which that makes sense is a dangerous financial world. In a dangerous financial world, investors value liquidity and the perception of safety more than the chance to make money.

Conclusion: we live in a dangerous financial world.

But does putting your money in government bonds make you any safer? Well, government bonds are at the core of the world’s financial system. They are considered – rightly or wrongly – the best collateral in the banking system. Governments can always raise taxes to make interest payments on bonds, or print money to pay them off. Until recently, the default risk was low.

When you look at the chart below, it’s hard to believe that bonds are NOT in a bubble. Ten-year yields on US government debt are below two percent. But quite clearly – because they’re not at zero yet – they can go lower. And if the US Federal Reserve intends to suppress interest rates by any means necessary for the next few years, you could see more people flee from the periphery of the world’s financial system to its corrupt and rotten core. Yields could go lower still.


Source: StockCharts

It’s important to remember that the dollar and the fiat money system are the main products of the Federal Reserve and the banks that own it. It is in their interest to perpetuate this system, not destroy it. This system is the source of their political and financial power. They want it to last.

For investors, it would be unwise to underestimate the creativity of the powers that be when trying to keep the game going. ‘Extend and pretend’ is all about pretending the collateral in the banking system (especially government bonds) is good collateral. The goal, from the insider point of view, is to prevent another Lehman Brother’s collapse at all costs.

But that goal – preventing the unintended consequences of a major default of bankruptcy in the financial system – is increasingly at odds with democracy. Just ask Italian Prime Minister Mario Monti. Warning of the ‘psychological dissolution’ of Europe because of tensions over debt and the Euro, Monti said last week, ‘If governments allow themselves to be entirely bound to the decisions of their parliament, without protecting their own freedom to act, a breakup of Europe would be a more probable outcome than deeper integration.’

Well there you have it. Democracy – the accountability of elected governments to the people that elect them – stands directly in the way of deeper political and economic integration in Europe. You couldn’t get a clearer example of how undemocratic and anti-liberty the European project is.

Unfortunately, elites everywhere are in love with the idea of an all-powerful State that’s not accountable to the people. In Monti’s world, governments have, and must protect, their own interests, even at the expense of the governed (peasants, serfs, little people, useful idiots). Monti’s world is Obama’s world, and Paul Keating’s world too.

For example in America, the US Senate turned down new legislation that requires private companies to share information with the government regarding ‘cybersecurity threats’. Remember, everything is done today to protect you from terrorism, including ‘cyber threats’.

Now some people may be all in favour of a Chinese-style Internet in America. But the Senate failed to pass the bill (and yes, we know the bill doesn’t exactly create a Great Firewall of China…but we’d argue it’s in the same spirit…namely an Internet regulated by the Feds). The Legislative branch of the US government respected the wishes of the people. Not so, the Executive Branch. The Hill reports that President Obama may issue an Exceptive Order that would accomplish the bill’s purpose.

President Obama has taken to using the phrase ‘we can’t wait’ in issuing Executive Orders. He’s certainly not the only President to use them. Republican and Democratic presidents alike have used them to by-pass a Congress they failed to persuade in order to change America’s laws and law enforcement. Abuse of executive power is a bi-partisan affair in America.

In fact, you could say that the love of executive power – or the iron fist of coercion through power instead of consent through persuasion – is a human attribute, although neither an attractive nor desirable one. You see it here in Australia too.

In a speech launching Hugh White’s book The China Choice, former Aussie Prime Minister Paul Keating appears to have expressed his admiration for the ‘scale and quality of the Chinese achievement.’ He also seemed to attach the idea that you need freedom to have prosperity.

In a swipe at the US, Keating said, ‘Even President Obama told us during his visit to our Parliament, that ‘prosperity without freedom is just another form of poverty, he said. That remark placed a heavy discount on the success of the Chinese Communist Party in dragging its community from abject poverty.’

Was it the hard work of the Chinese Communist Party that dragged the Chinese people from poverty? Or was it the Chinese people? What is it with this admiration for command and control political and economic systems with Australian public figures? We’ve read similar sentiments from Ross Garnaut and Ken Henry.

Maybe we have latent American sensibilities that become offended when we read an Australian tell Australians that we must all accept China’s economic rise, even if it means accepting China’s authoritarian government. But Keating seems to say as much. He said yesterday:

‘All of us in the debate in Australia believe Asia will be a safer and better place with the continued engagement of the US in the region. And with our trade preponderantly in North Asia and the greater part of that with China, there is every reason to support the development of a cooperative structure between the US and China in the Pacific. And this must mean recognising China’s prerogatives as a great power and the legitimacy of its government.

‘If we are pressed into the notion only democratic governments are legitimate, our future is limited to action within some confederation of democracies.

‘Critics of China are quick to invoke human rights and values as though the human condition had not improved dramatically across the Chinese landscape. The seemingly perpetual invocation of this mantra attributes no moral value to the scale and quality of the Chinese achievement.’

The Communist Party of China deserves absolutely no credit for the ‘moral value and quality of the Chinese achievement.’ The Chinese people deserve all the credit. China has grown and prospered because it unlocked the power of human potential. Liberal political orders recognise that it’s individual enterprise that creates value and improves the quality of life in a community.

Illiberal political orders act as parasites and predators on enterprise and liberty. This is why people in love with power can’t help but fawn over illiberal orders. They are invariably impressed with the power of the State to coerce individual behaviour in the service of an elite agenda. But economic liberty and political liberty are two sides of the same coin.

We’re probably getting ourselves all worked up over nothing, though. The fact that Keating is comfortable telling Australia to turn its back on two centuries of a successful liberal political order based on the rule of law and accept Chinese ascendancy for economic reasons (the iron fist of China was forged with Pilbara ore) is probably like the Treasury bond bubble. It indicates a trend that’s ready for a reversal.

In fact, at the ground level, the inherent contradictions of an economic system not based on profit and the efficient use of capital are already showing up. Forbes reports that more Chinese companies are reporting losses and profit declines. This is exactly the point Greg Canavan makes in his China Bust report.

Still, isn’t this an odd time for anyone to defend a liberal political order? After all, it isn’t doing so flash now itself. Europe’s a mess. And the United States finds itself stuck to a fiscal tar baby from which there’s no obvious escape. Should we be throwing stones at China’s political system when we are knee deep in the shattered glass of our own?

Of course we should! Our job is to throw stones and see what shatters.

The Western economic system has failed for the same reason the Chinese system will fail – it’s no longer free and liberal. It’s based on unsound money and a faulty belief in the power of centralised planning over individual human action. Australia doesn’t have to choose between the US and China. It should choose its own system based on sound money, political liberty, free markets, the rule of law, and low taxes.

But Australia’s own political system – and the love affair all the major parties have with power and authority – is a totally separate subject. For today, we’d warn investors to beware. The bubble in bonds represents a bubble in the belief of the nation State to be a force for moral good in the world.

Belief always dies hard. And not before throwing a few haymakers with an iron fist. Make sure you duck.


Dan Denning
for The Daily Reckoning Australia

From the Archives…

As Draghi Drags the European Crisis On
03-08-2012 – Nick Hubble

China’s Economy – How the Devil is in the Detail
02-08-2012 – Greg Canavan

The Greatest Interest Rate Fix featuring… Mario Draghi and Friends
01-08-2012 – Bill Bonner

What the Credit Boom Left Behind
31-07-2012 – Greg Canavan

The Australian Economy: A Case Study in Weirdness
30-07-2012 – Greg Canavan

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.

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3 Comments on "In Thrall to the Iron Fist"

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Ben K
Ben K
4 years 2 months ago
To claim that the western economic system failed because it was not liberal enough to me smacks of double-think. The forces at work in the lead-up to the 2008 crash are now well documented, and “not being liberal” enough definitely seems to be on the ‘problem’ rather than the ‘solution’ side of things. I’m a libertarian myself, but it is clear that the assumptions like efficient markets and rational actors are similar to the assumptions physicists make in many of their calculations – ie they are leaky abstractions that can provide insight as a model, but are often false. The… Read more »
4 years 2 months ago
Many suffered for western liberalism indulging 19th century romanticism in the 20th century. Utopianism is an evil beast and we see the head of it above. Sovereignty and self determination must remain rights conferred upon China in narrative. The US founding fathers were minded to light the world with their torch and ideas but most were aware of the dangers of their romantic inclination. , their ideas. The majority and all the better ones among them were non interventionist in inclination and set about convincing the American nation that it’s domestic lead was sufficient to see them compete both economically… Read more »
4 years 2 months ago

Keating will always bow and scrape to the Chinese because he is nothing but a subservient pekingnese lapdog.
The Chinese economy still has several serious issues to face that will set a limit to thier power, just as the US has limitations. This idea, as spouted by subservient, toadying lapdogs, that ‘China will rule the world’ is rediculous. China, like Japan, will ultimatly come undone by demography and dwindling oil supplies…and no amount of barking by poodles like Keating will change that fact.

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