Jason Miller Professor Wosnitzer

Media and the Culture of Money May 12, 2012

The Bond Market: Where Do We Begin?

How do you begin to describe the current financial crisis? The first place to start is at the beginning, which is much easier said than done. Where though do you begin? This is not simply a question of pedagogy. Rather, knowing the origin of a crisis provides a path for fixing the problem in the same sense of knowing the root of an illness allows a doctor not just to alleviate the symptoms but to cure the disease. Therefore, we need to attempt to find a clear starting point. There must be a fully coherent narrative to explain the financial crisis of 2008, one that we are still reeling from. Some believe that we should start by exploring the crash of 1987, or with the subprime mortgage crisis that led to the housing burst in 2008. However, as others note, the roots of both of these crises stem from the year of 1970 with the transformation of the US Bond Market. In 1970, the bond market changed into a multi-trillion dollar enterprise with daily trades, bets and counter bets of securities and derivatives. Essentially, bankers and traders began down a long path of trading and betting on monetary products instead of actual monetary transactions. This allowed for increased liquidity i.e. the ability for money to be moved around quickly and translated into cash, long thought to be a sign of prosperity and a key to a successful market, but also brought upon increased risk that could bring down any major economy in a very short time. However, to understand this evolution we need to map the changes to the nature of capital in the United States. Capital, as it was originally conceived in markets were the ability to invest in products, and in businesses. Banks served as middlemen in which people invested money to their own personal benefits because of interests rate, which at the same time, hopefully stimulated the surrounding economy. What began as means to garner investments for starting businesses, or those who wanted to receive loans to buy houses or other expensive objects, changed into a finance industry that moved capital around more than it invested it in practical enterprises. That is to say that instead of trading in money, Wall Street began trading and betting on itself, creating ever more complicated financial instruments and objects to shop around. Wall street ushered in an era of global finance capitalism which over the past 40 years has spread to every corner of the globe and a market moves trillions of dollars in only seconds. In a day, a person can either bet against or with the market in ways that were unknown only 50 years ago, at the speed of information. Now, we need to take a step back and see how this came about. The Bond Exchange formally began in 1792. Before that, the first bonds were issued and sold by soon to be Treasury Secretary, Alexander Hamilton. Bonds, initially, were used to fund the American Revolution. These bonds not only provided valuable income to a people in dire need of funds for the war, but implicitly provided trust in the emerging government. People would only buy a bond from a government if they assumed that the government could pay them back. Consequently bonds represented a sense of trust in the American government. During the great Industrial Revolution, corporate bonds became quite popular especially Railroad Company bonds. Until 1970, bondholders “clipped interest coupons," held bonds to maturity and rarely traded in the secondary market. This created a lower state of risk throughout the market. However, subsequent inflation, high interest rates and large government deficits began to change the philosophy and willingness to take risks in long term fixed rate bond ownership. Prior to