So, how plausible are these scenarios?
"1) Great Depression rerun - trade wars, banking collapse continues, restrictive regulation and legislation crushing enterprise, large government borrowings crowding out productive private sector investment, and so on. What will that do to inflation? It won't be a matter of what the inflation rate will be, it will be a matter of how much *deflation* we have. Inflation could easily be -1% or -2% for the next 10 years under this scenario."
Paul Volcker said the recent collapse was even quicker on a global basis than the Great Depression. In other words, one of the most respected and credible financiers in the world sees at least one sign that *it could be worse* than the 1930s. George Soros has made similar comments, and at least compared the current situation to the 1930s in some respects. A governor of the Bank of England said the UK may be in for a similar decade as Japan in the 1990s. These are not my opinions. They are the observations of influential and respected members of the financial and government elite, people with excellent track records. If they are making comparisons to the 1930s and Japan in the 1990s, then I think no reasonable person could say it is totally implausible that we might have a re-run or at least something close to it.
"2) Long-term stagnation - think Japan 1990s. Less extreme than the first scenario, this would see very low growth over the decade, and inflation could be perhaps in a -1% to +1% range."
Well, this is a lower hurdle than the Depression II scenario. Even more plausible.
"3) Eventual recovery with anaemic growth - here would could postulate a low growth economic with restrictive credit and conservative bank lending, resulting in fairly low inflation in the 0-2% range."
Can anyone really say with honesty that this scenario is implausible? The banking sector is bogged down and won't be lending much anytime soon, and even in 4-5 years they are going to be much more conservative than in the 2000s - either by choice, or because of more regulation, restriction, and oversight. We had lowish inflation in the 2000s during a boom - so 0-2% average inflation in the aftermath of a historic bust seems pretty reasonable.
Let us look at historic examples and see what happened. In the 1930s, US treasury yields went lower all decade and eventually hit a trough of 1.5% in 1941-42 (can't remember the exact date). US Treasuries were the best performing asset during the Depression and if you had invested in 10 year bonds, you would not only have got all your income, you would have made a capital gain too, AND the real price level fell so you made an extra inflation-adjusted gain there too - a triple whammy of profit. Thus if we see a re-run of the 1930s, Treasuries at 3% yields are far from a bubble, not even overvalued, nor even fair valued - rather, they would be *massively undervalued*, and the buy of the decade.
Take the less extreme scenario, a rerun of Japan in the 1990s. In Japan 10 year JGB yields fell from 6-7% (IIRC) and kept falling for 12-14 years, eventually hitting a low of 0.5% in the early 2000s. Once again, you would have made your income (almost risk-free), a huge capital gain, and the price level was fairly stagnant so inflation was not a worry either. JGBs in the early 90s were the best investment asset class in Japan for the next decade.
Note the commonalities - both the 1920s and 1980s Japan had huge stock market and real estate booms, along with easy credit. They than had huge busts as the banking system was frozen up for years under the massive burden of huge real estate debts and commercial loans going soar. Industry was hammered due to the freezing up of credit. Commodity prices tumbled and GDP collapsed rapidly. Sound familiar?
Thus, we have 3 scenarios here, each of which have reasonable plausibility. Even if you don't think they will play out, I don't see how any impartial rational observer can say they are totally implausible. Therefore, Treasuries cannot be a bubble. What's more, under 2 of the scenarios, which have parallels from past real-estate bubble aftermaths, Treasuries would actually be *undervalued* and a good buying opportunity.
I therefore contend that Warren Buffett is totally wrong to describe US Treasuries as a bubble. And to compare it with the absurd excess of the dot.com and real estate boombs, where NO plausible assessment of fundamentals and valuations could come up with a fair value anywhere near peak bubble prices, is an indefensible position.
Either Buffett has no clue about how to value US Treasuries (unlikely), or he has no clue what a bubble is (unlikely), or he just hasn't though this through. The worst you can say about Treasuries is that they are too expensive. But that requires you to forecast a decent level of inflation for the next decade, after a historic bust. In my view that is not the way to bet, but at least it's not an implausible scenario. Describing Treasuries as a bubble requires a belief in 5%+ inflation each year for the next 10 years - when we have a post-bubble bust, economic circumstances that usually result in *deflation*. I see no grounds for holding this belief. Some people cite rising government debt levels in their fears of re-emerging inflation. But look at Japan in the 1990s. Their debt went to over 100% of GDP, yet inflation was non existent. Inflation is not caused by government debt issuance alone. It is caused by credit creation, which needs a healthy expanding banking system, or debasement by a central bank which literally prints money a la Weimar Germany or Zimbabwe. The latter is not going to happen, and the former seems a stretch.
But it doesn't even matter - *you don't have to be a bond bull to dismiss the "bubble" appelation*. All you have to do is see one or two possible scenarios where inflation would be around 1% or lower for the next 10 years on average. That's it.
"1) Great Depression rerun - trade wars, banking collapse continues, restrictive regulation and legislation crushing enterprise, large government borrowings crowding out productive private sector investment, and so on. What will that do to inflation? It won't be a matter of what the inflation rate will be, it will be a matter of how much *deflation* we have. Inflation could easily be -1% or -2% for the next 10 years under this scenario."
Paul Volcker said the recent collapse was even quicker on a global basis than the Great Depression. In other words, one of the most respected and credible financiers in the world sees at least one sign that *it could be worse* than the 1930s. George Soros has made similar comments, and at least compared the current situation to the 1930s in some respects. A governor of the Bank of England said the UK may be in for a similar decade as Japan in the 1990s. These are not my opinions. They are the observations of influential and respected members of the financial and government elite, people with excellent track records. If they are making comparisons to the 1930s and Japan in the 1990s, then I think no reasonable person could say it is totally implausible that we might have a re-run or at least something close to it.
"2) Long-term stagnation - think Japan 1990s. Less extreme than the first scenario, this would see very low growth over the decade, and inflation could be perhaps in a -1% to +1% range."
Well, this is a lower hurdle than the Depression II scenario. Even more plausible.
"3) Eventual recovery with anaemic growth - here would could postulate a low growth economic with restrictive credit and conservative bank lending, resulting in fairly low inflation in the 0-2% range."
Can anyone really say with honesty that this scenario is implausible? The banking sector is bogged down and won't be lending much anytime soon, and even in 4-5 years they are going to be much more conservative than in the 2000s - either by choice, or because of more regulation, restriction, and oversight. We had lowish inflation in the 2000s during a boom - so 0-2% average inflation in the aftermath of a historic bust seems pretty reasonable.
Let us look at historic examples and see what happened. In the 1930s, US treasury yields went lower all decade and eventually hit a trough of 1.5% in 1941-42 (can't remember the exact date). US Treasuries were the best performing asset during the Depression and if you had invested in 10 year bonds, you would not only have got all your income, you would have made a capital gain too, AND the real price level fell so you made an extra inflation-adjusted gain there too - a triple whammy of profit. Thus if we see a re-run of the 1930s, Treasuries at 3% yields are far from a bubble, not even overvalued, nor even fair valued - rather, they would be *massively undervalued*, and the buy of the decade.
Take the less extreme scenario, a rerun of Japan in the 1990s. In Japan 10 year JGB yields fell from 6-7% (IIRC) and kept falling for 12-14 years, eventually hitting a low of 0.5% in the early 2000s. Once again, you would have made your income (almost risk-free), a huge capital gain, and the price level was fairly stagnant so inflation was not a worry either. JGBs in the early 90s were the best investment asset class in Japan for the next decade.
Note the commonalities - both the 1920s and 1980s Japan had huge stock market and real estate booms, along with easy credit. They than had huge busts as the banking system was frozen up for years under the massive burden of huge real estate debts and commercial loans going soar. Industry was hammered due to the freezing up of credit. Commodity prices tumbled and GDP collapsed rapidly. Sound familiar?
Thus, we have 3 scenarios here, each of which have reasonable plausibility. Even if you don't think they will play out, I don't see how any impartial rational observer can say they are totally implausible. Therefore, Treasuries cannot be a bubble. What's more, under 2 of the scenarios, which have parallels from past real-estate bubble aftermaths, Treasuries would actually be *undervalued* and a good buying opportunity.
I therefore contend that Warren Buffett is totally wrong to describe US Treasuries as a bubble. And to compare it with the absurd excess of the dot.com and real estate boombs, where NO plausible assessment of fundamentals and valuations could come up with a fair value anywhere near peak bubble prices, is an indefensible position.
Either Buffett has no clue about how to value US Treasuries (unlikely), or he has no clue what a bubble is (unlikely), or he just hasn't though this through. The worst you can say about Treasuries is that they are too expensive. But that requires you to forecast a decent level of inflation for the next decade, after a historic bust. In my view that is not the way to bet, but at least it's not an implausible scenario. Describing Treasuries as a bubble requires a belief in 5%+ inflation each year for the next 10 years - when we have a post-bubble bust, economic circumstances that usually result in *deflation*. I see no grounds for holding this belief. Some people cite rising government debt levels in their fears of re-emerging inflation. But look at Japan in the 1990s. Their debt went to over 100% of GDP, yet inflation was non existent. Inflation is not caused by government debt issuance alone. It is caused by credit creation, which needs a healthy expanding banking system, or debasement by a central bank which literally prints money a la Weimar Germany or Zimbabwe. The latter is not going to happen, and the former seems a stretch.
But it doesn't even matter - *you don't have to be a bond bull to dismiss the "bubble" appelation*. All you have to do is see one or two possible scenarios where inflation would be around 1% or lower for the next 10 years on average. That's it.