It’s been a while since I last wrote for my blog. I haven’t run out of ideas. But, after weeks of reading all day long, I think I am short of brand new ones. Reading others reminds you to remain humble, because ynever
All of a sudden it does look like the scenario has changed. By now, most economists with a decent professional level are admitting to the fact that easy money is toxic, and cannot solve it all. Keynesians and neo-classics are allowing for defeat in private. The keynesian sect is already “out” in upper circles. Word will get to financial advisors and the masses before long. Pondering “ad nauseam” the economic atrocities being perpetrated daily by our central bank -and keynesian acolytes- does not generate any incremental added value. And, honest to God, I do not experience any pleasure kicking Keynesians hard, especially when they are in a weak position (about time!).
Finally, some “uncommon sense” is creeping in. Stanley Fisher is talking about market stability as a policy target time and again. Even “the maestro” openly allows for the fact that the Fed is painted into an increasingly narrow corner. Kuroda is, as I write this, very outspoken about the “enough is enough” paradigm when evaluating the exchange rate for the Yen. They are, naturally, allowing for defeat half-heartedly, and with the usual caveats, when not outright excuses. “We had to do it”, “we gained some extra time”, and other similar cover ups. Dudley or Williams are cautiously following the same track.
Bernanke and Krugman are, as was to be expected, the living exception. They will “die-hard”. And astonishingly enough Dragui has also become a “QE-aholic”. Stating the obvious: he surely thinks a lot of himself. And he is not even argentinian (argentino)! You know the adage: if you buy them at fair value and sell them for what they think of themselves, it’s the trade of a lifetime. My wife says converts are the worst. Dragui was late to QE-nomics, and now …
Focusing on the big picture, I think it is hopeless to brood the huge and long reaching consequences of our economic mistakes of the last two decades (with a Grammy in store for “Bernanke-Krugman” duo performance over the last five). That is how history has always been written, and will be written over and over again. We all pay for the mistakes of others. New mistakes will be made, and we shall have to cope with the after-effects. Nothing new under the sun (idiocy has not affected sunlight up to now).
At this point we are all together in this, whether we like it or not. Easy debt, and easy money, have created a massive leverage of the world economy that will have to be melted down one way or another. Adding 57 trillion extra debt (Mckinsey estimate) over the last five years, saved time, but, made matters worse. ZIRP and NIRP made debt sustainable, lowering its cost artificially, but side effects are getting worse by the day. Not to mention the impending risk of precarious and unsustainable bubbles in equity and bonds worldwide. Growing money and debt “ad infinitum” was never a viable strategy. The world, like Scranton (Pennsylvania), is broke. Stating the obvious once again.
The minute we stop printing, and “nirping”, it is “game over”. We don’t even need to tilt the pinball machine. Institutional infrastructure will have to be overhauled, and Shumpeterian creative destruction will have to reallocate sectorial weightings. Financial and public sectors have to be markedly streamlined, construction and automobile less so (depending on the country), and new sectors will have to pick up the tab for job and added value creation. Nothing that can be done fast and easy. And all the painkillers we can produce are not powerful enough for the social hardship that is inevitably coming. It will seem like an eternity before we get out of this -if we manage not to fight out of it.
We Austrians and naysayers were right all along, and by now markets are pitching two-and four-seam fastballs and curveballs with nasty spins, while CB’s are increasingly sweating when gripping the bat. So, at this point, it’s not about repeatedly reminding everybody “I told you so”, but trying to find out how to survive what in all certainty is coming: the pervasive global hangover.
As we increasingly move from deflationary to inflationary signals within monthly time frames, and listed bonds, commodities or energy increase their volatility spasmodically (past volatility, not the CB manipulated implied one), Stanley Fisher wants to place a huge poster in Wall Street declaring the party over. He is desperate to do so.
When 10y Bund yields can move up and down eighty basis points in just six months, something funny is going on (talk about stating the obvious!). Not to forget the fabulous Shanghai casino set up by the “wise” Chinese rulers.
I have no words to describe what’s going on there. Maybe these two next images speak for themselves. Thinking strategic, maybe they want to take advantage of Las Vegas’ water shortage and become the new reference for casinos. Macau is also “out”. Aren’t these really interesting times we are living?
Fed related small talk has it that, by now, most of the relevant thinkers at the Fed are also quietly concerned. A one-off 50 bps interest rise would act as a margin call for NIRP and ZIRP seemingly endless speculative activity. ¿Will they do it?
Not only financial stability is an important and pressing matter. Moreover, cost inflation is timidly showing up. Now that we were all sure demand inflation was down and out (me included), here comes cost inflation. And it uses two channels. It is a fact that broadening labor shortages of skilled workers are pressuring salaries for supervisors and specialized employees (five years later, most of the unemployed have become obsolete as a work force).
Piling up on the previous reality, the overwhelming evidence is that salaries are sitting on their lowest bounds for the sustainability of the workers. You have to keep them alive if you want to squeeze some extra money out of them -and allow them to become indebted once again. Salaries have reached the point where, no matter the bargaining position of the employer, employees will not take less (they can’t).
Ending the party is the “uncommon sense” foregone conclusion. If it were that easy! There are some major drawbacks to ending the party:
1.- Macro figures for the US are weak. Only employment stands out as a supporter of economic expansion. We all know employment is a lagging indicator so now is not the time to raise rates (at least in normal times). Doing so is tantamount to confessing to excessive monetary latitude previously. And the want to save face and make it look like a normal tightening, because they have succeeded in restarting the economy. Unfortunately, and stating the obvious again, CB’s are long pride, “at the market” IQ, and short humility. Maybe, just maybe, the last job figures were providing the FOMC with some air cover for doing so. Looking at the productivity per hour the figures provided imply, data doesn’t make any sense at all unless we are entering an era of productivity decreases. I expect a downward revision after rates are lifted -if that is the case.
2.- The whole equity and bond market (particularly HY) are in a bubble, and even Yellen is cautiously admitting “rich pricing” of assets. Liquidity is as thin as it has been for the last sixty years. Small shocks can be amplified by the liquidity issues. Provoking a market stampede scares them to death. On the other side, they do not want the markets to follow their uptrend further. They are now aware of the risks of mispricing risk, and try desperately not to get more of the same. By now, I have no doubt they are conceptually leaning against strength (and silly short sighted buybacks). But, regardless of their awareness of the perils of overvaluation, they are still digging deeper into the proverbial hole.
3.- The USD value worries Obama and the rest of the pack. He made it clear this last weekend, and anyway it was obvious to all of us who are trading the USD. Currency wars have been steadily spreading, and by now every central banker and their dog are downplaying the value of their currency. Nearly all countries are engaged in this war. It is amazing to see the Australians, the Swedes, the Danes, and even the Monetary Authority of Singapore trying to talk down their currencies. The EURUSD is the object of a tug of war where both sides want to move it their way, but none wants to confess to any mischief.
The stark reality is that there is very little incremental aggregate demand to be found, and currency manipulation is constantly used to move it around. A great scenario. We are now replicating the multinationals behavior. They shop around the different countries for low fiscal, labor and financial costs, and governments now move around shopping for whatever aggregate demand there is left. This is a shopping spree by the wrong actors, for the wrong reasons.
Notably, as an exception to the rule, the Chinese seem stuck with an absurdly overvalued yuan for geopolitical reasons (reserve currency status and all that comes with that particular issue). National pride and geopolitical interest interfere with economic targets there. We would all be better off without flags and national anthems. They seem to be getting in the way of “uncommon sense” all the time.
The rest are mostly happy with a cheap currency. The exceptions to the rule can all be squeezed into the “too much of a good thing” concept. Take the BOJ as finished with the will to devalue the yen above 125 per USD, as the paradigmatic example. Lastly let’s not forget that the ruble, the real, the lira, or the Venezuelan bolivar have distinctive problems of their own, and live their currency value with other priorities in mind. No currency wars for them because they have other priorities. Toilet paper availability comes first (isn’t that right Mr. Maduro?)
4.- The economy is chugging along very near stall speed. In all probability the rate of interest that significantly decreases market instability potential is incompatible with GDP growth floating above that stall speed limit. As they say in Spain it is “Guatemala or Guatepeor”. The proverbial situation between a rock and a hard place. I feel sorry for grandma Janet. A tough call.
The time of reckoning is finally here. ZIRP NIRP and Japanese and European QE together with one last shot at monetary easing in China are, at long last, incompatible with market stability. Central Bankers have to play chess again. Will it be “Sicillian defense” or a “Queen’s gambit”?
In the meantime we have to wait. I still stand by my last outlined trading strategies. No changes. Hold only solid currencies like SGD or SEK, cautious buy (if you can stomach the volatility) in AUD or JPY, non-leveraged moderate longs in USD (the rest are also fiat currencies and are worse off). No Gold: its marginal utility is zero, and I hate zero. US stocks are still the big short we have to play (timing is all but impossible). Strategically beware long bonds. Ten year AUD and SGD nominated bonds are the best option, but markets are increasingly correlated so you have a high beta if global interest rates move up sharply. In two words: “risk off”
As the Beatles once wrote, “in the end the love we take is equal to the love we make (give)”. We “human oldies” have had a great time, but our mistakes are coming back to haunt us. We have generated a lot of waste and inefficiencies and have to give it back.
In other words: we have to pay the piper. We should confront the consequences with high spirits and make the best of the mess we are in. We lived abundance, with easy money and easy credit, for most of our life span, and now we have to give something back.
Maybe this extraordinary adagio by Mozart will help me transmit my feelings right now. The scenery is awesome.
I have been right in my diagnosis, and it hurts to see the outcome. I’d rather have been wrong. Enjoy the good times for as long as they last.
Next moves by CB’s will be crucial, and will determine if we will see a global deflationary, or reflationary, meltdown. They have to move soon.