Journal Highlights: Roads I Have Traveled ... Transition Journal Excerpt # 5

Note: While recalling the experiences included in the 1986 Transition Journal and my early financial work in Brazil, I am persuaded to take a little “bird walk” and relate some of the things I learned in Brazil to what we are experiencing right now in our economic situation in the US. What are the implications of International Debt for Equity Swaps regarding the trillions of dollars of US international debt that we owe?

One of the problems we have in the U.S. stems from how we think about treasury bills and bonds. It is very convenient to play games with semantics when it comes to debt instruments. The media financial reporters tell us that “it was a very successful day in the sale of treasury bills and bonds.” That day the sales of T Bills and bonds set new records. We all cheer because it sounds like the government has been able to sell some of the fine products that they manufacture to domestic and foreign buyers and they have now successfully sold those items and have brought profitable revenues into our coffers. Wrong.  

Every T-bill or bond is an I.O.U. that has to be paid back . . . with interest. We just went further into debt when we sold the bond! So what happens when the borrower cannot repay the debt? Like in any other debtor relationship, the holder of the I.O.U. must look to the collateral that backed up or guaranteed that debt instrument. In my Brazilian experience in the 1980s, when the sovereign government could not pay back the U.S. banks with money it got sticky, because the U.S. bank regulators would not allow them to take foreign assets to satisfy the delinquency. It had to be money.  

So, the debt swap was initiated whereby Brazilian businessmen, who had financial statements strong enough to qualify, bought the debt instrument from the U.S. banks at a discount by signing a new note and assuming the Brazilian government’s I.O.U. position. Then the businessmen went to the Brazilian government and dictated which sovereign Brazilian assets they would take to redeem their I.O.U.s. The debt swap exchanged real sovereign Brazilian assets, like government buildings, raw land, prepaid port fees, transportation and communication rights, to satisfy the old debt.  

I raise this phenomenon here for consideration because of our own country’s unfathomable debt in the amount of multiplied trillions of dollars. Our I.O.U.s are held now by entities and governments like China that have no qualms about taking U.S. sovereign assets to satisfy delinquent sovereign debts. Our U.S. Treasury admits our collateral problem in the bond market. One consideration, as a temporary cure, is issuing ultra long dated bonds (more than 30 years) to fulfill collateral needs. The repo market is broken due to massive collateral shortages. There are pressures now to explain the causes for an increase recently in the “fail-to-deliver” aspect of the U.S. government debt market.  

Historically, without collateral to fund repo, there is no repo. Without repo there is no leveraged positioning in financial markets, and there is really nothing to maintain even the slightest exuberance in the stock market.  

Another alternative as to what to do with questionable I.O.U.s seems to be unfolding in the case of China’s Anbang Group’s pursuit of buying Starwood Hotels and Resorts. The deal would make the Chinese group the largest hotel chain in the world with 5,500 individual properties and more than 1.1 million rooms, including the Sheraton, Westin, and Regis hotels. How could any lender resist taking U.S. government, guaranteed promissory instruments as collateral to secure the funding of such international groups purchasing United States’ icon assets? I am curious at the possibility of the American family pulling up at the entrance of Yellowstone Park and needing to pay in Chinese currency or Chinese debit card for entrance.  

But these creative alternatives seem more plausible for the American constituents to accept than simply having foreign delinquent bond holders come in and possess large amounts of U.S. mineral rights, national lands, and nationally held assets that presently serve as sovereign collateral.  

So much for my concerned musings sparked by my memorable days in Brazil  

Next Week: Back to the Transition Journal

© Dr. James W. Jackson   

Permissions granted by Winston-Crown Publishing House