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Bond Market Vigilantes Again Cheering Deficits

I first used the phrase “deficit cheerleaders” in a column more than two years ago to describe what Wall Street bond traders were really telling Washington, D.C., about the budget.

It was August 2010, and I wrote that, contrary to what some in Washington were saying, the supposedly all-knowing and all-seeing traders formerly known as “bond market vigilantes” absolutely were not insisting that the federal government reduce its red ink and we had to stop saying that they were.

I also wrote that those who were using the bond market as an excuse for spending cuts and tax increases were misreading or — far more likely — misrepresenting the messages actually being sent by the bond traders. 

Based on both the low interest rates of the time and the direct statements they were making, it was clear two years ago that the vigilantes had turned into an increase-the-deficit cheering section. They were letting it be known that they not only wouldn’t criticize those who helped produce deficits but would be rooting for those who helped make them happen. 

In other words, no matter what they might have been saying to the Clinton administration and Congress in the 1990s, the bond market of 2010 actually wanted higher deficits, and the vigilantes had become deficit cheerleaders.

That was about 26 months ago. I mention it now because Wall Street’s deficit cheerleaders made it clear yet again last week that reducing the deficit in the current economic environment is not the right fiscal policy for the United States. 

Actually, the bond market has been saying this for quite some time, but it has been doing it with interest rates that have remained remarkably low despite a series of events that back in the 1990s probably would have driven them higher. This includes funds not flowing from stocks to bonds, the credit rating of the United States being downgraded by one of the major rating agencies because of the budget situation and a more than $2 trillion increase in the amount of federal debt.

In other words, there are ample reasons for bond market vigilantes to express unhappiness with the current budget situation and demanding that the deficit be reduced. 

The only problem is that they’re actually doing just the opposite.

In a series of interviews and research notes last week, representatives of three of Wall Street’s biggest names — Goldman Sachs Group Inc., BlackRock and Oppenheimer & Co. Inc. — indicated that the big deficit reduction that will start on Jan. 1 if the fiscal cliff goes into effect will do serious damage to the U.S. economy, stock prices and investors’ confidence, and they urged that it be avoided. 

In effect, the former bond market vigilantes were saying that the federal budget deficit today is not an economic plague of biblical proportions that will wipe out civilization as we know it. To the contrary, they’re saying the deficit needs to be much higher than it will be under current law.

To a certain extent Wall Street is just getting on the bandwagon that Federal Reserve Chairman Ben Bernanke started driving in February when he first used the phrase “fiscal cliff.” 

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