How to Solve the Global Sovereign Debt Crisis, 18th Century Style

It’s becoming ever more difficult to ignore the global sovereign debt crisis. Thanks to the pandemic, many governments are so overindebted they have begun the slide into a self-reinforcing debt spiral. Next comes a choice between default or inflation. And in 2022, bond markets woke up to the risk of both.

In the US, government bonds had their worst crash ever in 2022, despite being the global ‘risk free asset’.

In the UK, government bonds briefly crashed and put the pension system on the brink of a meltdown. At one point, 30-year gilts were down 60% in a matter of months!

In Japan, government bonds are failing to trade for days on end, the Bank of Japan owns more than 100% of some tranches of bonds, and the central bank is pegging down yields to keep the government funded.

Of course, in the end, central bankers always come to the rescue. They fund their governments by creating money to buy bonds. But that becomes ever more difficult once inflation breaks out, which it has.

So, what’ll governments do next?

One surprising answer can be found floating somewhere above your head. But first, I better explain the other two times it was used back in the 18th century…

I told you about the first example in 2020:

Back when the French king was a few years old, the Duke of Orleans was the Regent and a Scotsman named John Law ran the French public finances (into the ground), a similar scheme was attempted.

Back then, France was in fiscal trouble […]

And so John Law came up with a solution. France had acquired the Mississippi Valley in the US. By which I mean that the French government owned the place. And nobody was allowed to trade with it, unless by Royal Assent. Which could be bought.

And that sort of agreement is actually what created the weird and wonderful world of joint stock companies like the ones you own in your pension fund today. Investors got together, formed a company and bought trading rights off the government. Hence the names East India Trading Company and Mississippi Company.

Law’s idea was to sell the trading and mineral rights of Louisiana to such a company. In exchange for that company buying the French national debt. A type of debt for equity swap, if that doesn’t confuse you. The company gets the benefit of being allowed to trade with Louisiana and the French government gets fiscal stability.

To make the scheme work, there had to be a speculative mania which would make Elon Musk blush. There had to be such a clamouring for Mississippi Company shares that it would make the French government debt disappear into the Mississippi Company’s coffers.

And that worked surprisingly well. In ever increasingly creative ways. Until the bubble burst and the Mississippi Bubble managed to ruin both the public and private financial affairs of France – a decent achievement for a bubble.

So, things didn’t work out so well in the end. But, inspired by this disaster, the English promptly created their own version of the scheme to rid the government of its debt, enrich early speculators, and defraud everyone else. We now call it the South Sea Bubble.

Back then, Britain was faced with crippling government debt too. The solution was to create the South Sea Company by an act of parliament. The parliament granted the company a monopoly on trade with certain parts of the Americas, giving it immense value because of the cash flow this promised. The company, in return, bought up a tonne of government debt. In fact, in 1720, the South Sea Company flat out took over the national debt!

The scheme only got weirder from there. But the point was that the government effectively sold an exclusive right to trade with a foreign place to a company, thereby making it immensely valuable. In return, the company took on the government’s financial obligations, effectively cutting the national debt.

No doubt, you’re surprised that two of the most famous financial bubbles were actually political operations to reduce nations’ government debt. So much for greedy free markets…

But the truth is that the schemes took advantage of the speculative fervour you can create in financial markets once the government gets involved. It provided the spark and the kindling. The public was the fuel. And it got burned both times, 300 years ago. And many times since then.

So, what’s the relevance to today?

Well, there aren’t any places left to colonise and sell trading rights to. There isn’t any terra nullius around for the taking, either.

At least…not on Earth.

But what about beyond?

These days, not a week goes by without hearing about space station hotels, asteroids full of metals worth trillions, Moon mining, and space industries. Private company rockets are taking off, carrying government payloads (instead of the other way around). New firms are being formed that promise to launch the first space stations of various types. And some are hitting serious valuations on stock markets.

The private space age is beginning. I wonder if the 18th century solution to too much government debt might make a comeback too.

At the moment, because of obscure treaties made with the likes of the Soviet Union, which didn’t believe in private property at the time, it’s not clear who owns space resources. Nor whether they can be owned, as such. They aren’t just there for the taking, in other words. At least, not legally.

Which is what creates the opportunity. Governments could sell the rights to those resources to companies listed on the stock market. The ownership of asteroids, land on the Moon, orbital paths, and licenses to ‘trade’ with space, for example.

Given the promise of future profits, the companies owning those rights would be immensely valuable, even today. Even if the resources of a particular asteroid were sold at a steep discount today to make up for the fact that they won’t be mined for a few decades, ownership of those resources would still be valuable today. It’s not like US tech stocks will make a profit anytime soon, either.

Governments could sell these rights to companies in exchange for taking on government debt, as the Mississippi Company and South Sea Company did. This would dramatically reduce the total sovereign debt burden and trigger a speculative mania in space resources stocks that secure the trading rights.

What could possibly go wrong?

Until next time,

Nick Hubble Signature

Nickolai Hubble,
Editor, The Daily Reckoning Australia Weekend

The post How to Solve the Global Sovereign Debt Crisis, 18<sup>th</sup> Century Style appeared first on Daily Reckoning Australia.

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