Not few smart people from main street are baffled: most investors not only calmly assume negative interest rates for their investments, but also seem to enjoy playing the Central Bank controlled “common knowledge game”. I am frequently asked: why is it that investors, both individuals and institutions, calmly accept NIRP or ZIRP? How come investors seem to be willing to buy either negative yielders, when they play it safe, or equities or high yielders, when they want to go for income? What’s more, they don’t look like being particularly stressed about it. Nobody senses the danger embedded in actual pricing. ¿Does that make sense?
It’s a very good question. You know it is, when you understand the extraordinary relevance of the issue, and you are nevertheless unable to provide a short, sharp reply. In order to find one, it may be time to switch out of economics (it offers no rational answers for this conduct), and take a look instead at both sociology and psychiatry. The observable fact is that rational investors are an endangered species. They seem to share the fate of the black Rhino. ¿Why?
Something is amiss in my long and elaborate reasoning. This crazy monetary and fiscal environment goes on and on with no signs of an end. Worse yet: it has been approved and consented by a majority of the population. And validated by institutional investors. There has to be a deep human reason for the market to blindly follow the CB leader “du jour”.
Much like in the Nazi Germany with Hitler, most of the population and investors are not in the Central Bank/keynesian groupthink game. But following the leader is the easiest way out of their personal conundrum. Individual thinkers have a tough time, and the Gestapo might single them out. It’s best to go with the flow.
Nothing new. When the time comes, humanity is seldom brave to stand up against wrongdoing. The Spanish medieval inquisition court is a case in point: people looked the other way. We are still there nowadays. Think of the standard witness behaviour in rape scenes in the NY underground! We have to invest in real education for the population: everywhere!
I was unable to see this. I thought people would not take any more lies at some point. I was wrong. We all get things wrong, Bernanke being the living exception of course, but nonetheless, my ego has to put up with it. Thankfully, when humbled by human behaviour, and conceding error, it does help it to see my shortcoming pale, when put in contrast with Eugene Fama’s EMH (efficient market hypothesis). This quote shows his degree of conviction in his theory:
I don’t know what a credit bubble means. I don’t even know what a bubble means. These words have become popular. I don’t think they have any meaning.
I couldn’t disagree more. Markets can only be efficient, and the price generated optimal, when economic actors are buying and selling rationally, in full knowledge and understanding of all the relevant information. This is not realistic. Where’s the rationality to be found in a buyer of French debt at negative yields? He is just following the obvious course, the one that inflicts him less pain in the very short, inmediate term. We all expect too much of rational behaviour, and that doesn’t help our investment performance. We have to allow for ignorance, herding, misunderstanding, and central bank rigging. That makes investing a very difficult science to master.
I am happy to be no worse off than Eugene Fama, because he is a Nobel Prize winner, and I am not. Anyway, nobels are not what they were before Krugman. That was obviously a turning point. In any event, insufficient frameworks, even if they compare favourably with the glorious EMH, are totally useless (like an incomplete econometric model). So I have to try to improve that. Behavioural economics is a must in a macro model for the world, more so in a speculative, financial market driven, 100 trillion global economy. With seniority, you get to understand that things are the way they are, not how they should be, or how we want them to be.
The revised situation makes me conclude that, regardless of my disdain for the average IQ of our population and investors, they are not dumb either. They are wishfully hoping for the best, while accepting actual economic policy worldwide: We have had only some well confined, and minor, outbreaks of protest in the developed world. You do get the odd teenager frightening superMario in his press conference (he may not be that brave after all), and you may have a couple of young girls singing in Russia trying to molest Mr. Putin. But surely that is only a small reaction to what’s going on. The population seems to be taking the GFC in, surprisingly coolly. They go with the flow, the herd, and their penchant for wishful thinking . It makes life easier for them.
Consequently, timing the end of this free unlimited money creation environment is going to be linked to crowd behaviour, herd stampede rituals and signals, together with a touch of psychiatry. We can comfortably shelve both fundamental and macro factors.
Once you get investors to buy French bonds with a negative yield, increasingly awkward or discouraging pricing of assets is unlikely to cause them to panic. Once you buy a two year bond with a negative yield, it is easy to reach further out the curve for increased duration, inducing further negative yields. Bond vigilantes have grown overweight, and addicted to the best Spanish habits: the “siesta” and the “fiesta”. Life doesn’t make any sense without them. Of course, if you enjoy them all too often, your job doesn’t get done properly. You can’t have it all.
It amazes me how vulnerable to politics (lies), or fairy tales, we humans are. The best lie is undoubtedly telling somebody what he desperately wants to hear. The Catholic Church offered eternal life, after Christ’s resurrection in three days, and the Princeton sect offers deficit financed payments of the welfare state, combined with zero interest to help sustain the debt mountain in the world balance sheet. Both are wonderful beliefs. I wish I could assume them, but my own cognitive dissonance problematic gets in the way.
Both propositions have been a great success. People were told what they wanted to hear: that life was eternal (despite death), and that we can keep on spending our way out of economic depressions -and debt doesn’t matter. In fact, both hypothesis remain to be proved. Religious beliefs cannot be proved by their own nature. And, despite abundant circular reasoning by the different members of the various Central Bank politburos, it remains hypothetical that money printing, credit, and ZIRP/NIRP really saved the day. Time will offer some perspective on this.
I am not saying that easy money is inappropriate, in times of turbulence (like the first semester of 2009). What I do affirm, is that a permanent easy money policy is not proved to improve the chances for an orderly survival of the human species. I am certain that permanent and self-perpetuating money and credit inflation, combined with fiscal profligacy, will only paint us in a narrower corner. I know the jury is still out on that one.
Whatever the outcome, saying, as Bernanke does, that the elderly will compensate their financial repression because ZIRP will stimulate the economy further than it would have been in a natural way, only proves the circularity of his reasoning, and the lack of scientific background of the assertion. But the Princeton sect manual is the favourite narrative of journalists, part time economists, and the inevitable segment of people with a vested interest in the cause.
Thankfully, cognitive dissonance explains it all nicely. Festinger’s theory asseverates that we humans have an inner drive to hold all our attitudes and beliefs in harmony, and avoid disharmony (dissonance). We have a very powerful motive to engage in irrational or maladaptative behaviour, when our cognitions about the world clash. What we struggle to do, when we find ourselves in such an uncomfortable position, is either:
- Change one of the conflicting beliefs. When some kind of reasoning interferes with a long and deeply held belief, such as the durability of our actual (american or not) way of life, we choose to ignore it. Climate change, welfare state survival, or debt sustainability, can’t be questioned because the enter in conflict with an easy life (dolce vita) expectation. The older the individual, the more embedded in our psyche the “business/life as usual” belief is going to be. I’m afraid that is a basic human nature principle. Princeton sect proposals are consistent with long held beliefs, and will always have the upper hand. We Austrians have lost the battle of public opinion even before engaging in actual combat. Nobody wants us to be right.
- Acquire new information that outweighs the dissonant beliefs. The establishment is happy to help with that. Many of you readers are likely to still believe in a free press and in the value of government statistics. For a time I also believed storks delivered babies. When I found out about sex it was, of course, a shock. Data from corporations, governments, analysts, and mass media is cooked. Well cooked, if Chinese. Rare to medium if it’s the US. But cooked anyway. Raw ingredients are the exception. Do not belief a word of all the soothing comments aimed at making you feel better. They are matrix blue pills in disguise.
- Reduce the importance of the dissonant and unwanted cognitions. We all know how to do that. The paradigmatic example is the old saying: “it’s better to live for today than save for tomorrow”. Or “Live today like you will die tomorrow”. Forget the future, only the present counts. Mottos and slogans that induce the population to assume the “spend now and pay later if ever” paradigm.
I opt for this third alternative in order to reduce my cognitive dissonance. Because, yes, unless you are an android, you and I also suffer cognitive dissonance. It generates severe discomfort when you look at debt levels, growing inequality, saber rattling by Putin (Ukraine), Saudi Arabia (Yemen), or the outlook for entitlement growth and population pyramid (see next daily shot chart for Japan).
Keynesians always underwrite the first option. Monetary and fiscal policy in the traditional Keynesian style are the real science, and the rest are marginal players comprising some hedge fund guys, the odd macro thinker, and the doom and gloom naysayers. Assuming this, they make life easier for themselves, and ensure a straightforward non winding path to success in the actual economic profession.
The general public goes for the second one. They are more than happy to take fedspeak, CNBC talk, and government lies and statistics, at face value, even after seeing a different economic reality around them. Dissonance is always solved accepting offical, propaganda backed, brainwashing.
We Austrians, macros, “hedgies” and naysayers (and possibly you reading this) should at least take the third one. Some take none, and suffer Abracurcix’s (An Asterix and Obelix character) pathology. Not a advisable choice.
I can’t change the silly things being done by the CB directory, so am happy with my option. Taking things easy helps me feel better, particularly after spending some clearly irrational money in my sailing boat. Nobody can boast fully rational economic behaviour. Oh yes, and it also helps my “fiestas” and “siestas”!
But the only one belief I cannot make mine, is assume that Princeton sect groupthink will provide the means for prosperity and stability in the long run. For a long time I have felt that the human race is brainless. Now, I can see we are all happy to take on wishful thinking as a habit for a (dissonance free) happy life. It makes sense.
When it comes to myself, my life will likely be harder, but I want my eyes well open till the very end. I cannot fully protect against economic disaster, but I will not be lulled into complacency, even while living the dolce vita as much as I can -for as long as it lasts.