So much for that Keynesian stimulus notion (emphasis in the original)
With everyone focused on the 5th anniversary of the Lehman failure, we are taking a quick look at how the world's developed (G7) nations have fared since 2008, and just what the cost to restore "stability" has been. In a nutshell: the G7 have added around $18tn of consolidated debt to a record $140 trillion, relative to only $1tn of nominal GDP activity and nearly $5tn of G7 central bank balance sheet expansion (Fed+BoJ+BoE+ECB). In other words, over the past five years in the developed world, it took $18 dollars of debt (of which 28% was provided by central banks) to generate $1 of growth. For all talk of "deleveraging" G7 consolidated debt has been at a record high 440% for the past four years.
The theory of stimulus -- taking money out of the productive economy, where it is spent based on the information of hundreds of millions of people as to the relative value of millions of potential investments, and handing it to the government to spend based on political calculus -- never made a lick of sense to me. I guess I would have assumed the multiplier in the short term was fractional but at least close to one, indicating in the short run that if we borrow and dump the money into the economy we would get some short-term growth, only to have to pay the piper later. But we are not even seeing this.
I have been a stock market bear for some months now. I don't really think the US economy is going to double dip on its own, but I felt like Europe and Asia would bring us down. Well, I simply underestimated both the Fed's and the ECB's willingness to goose financial assets. If the Fed and ECB are going to inflate our way out of, uh, whatever it is we are in, then I certainly don't want to be holding bonds, particularly at these absurdly low interest rates. Stocks are not as good of an inflation hedge as some hard assets, but they are a hell of a lot better than most bonds. I'm certainly not going to buy back in the current euphoric highs, but I am giving up on trying to predict that market based on fundamentals. It seems that fundamentals are a suckers game, and you better not be timing the market unless you have an inside line to government policy, because that seems to be what drives the train.
PS- I wish Milton Friedman were still around. QE was as much his idea as anyone else's. I wonder what he would have thought of the results, or of this particular implementation.
Folks on the Left prefer public institutions over private ones because they percieve them as more "fair." But the power of lawmaking and police and prisons allows public institutions to be far more abusive than private entities could ever be. We spent months and years torturing ourselves about accounting abuses at Enron, but these are trivial compared the accounting shenanigans state institutions engage in every day.
Or consider this, from Europe, particularly the first bit
“In the event of default (i) any non-official bond holder is junior to all official creditors and (ii) the issuer reserves the right to change law as needed to negate any rights of the nonofficial bond holder.
“We should not underestimate the damage these steps have inflicted on Europe’s €8.4 trillion sovereign bond markets. For example, the Italian government has issued bonds with a face value of over €1.6 trillion. The groups holding these bonds are banks, pension funds, insurance companies, and Italian households. These investors bought them as safe, low-return instruments that could be used to hedge liabilities and provide for future income needs. It was once hard to imagine these could ever be restructured or default.
“Now, however, it is clear they are not safe. They have default risk, and their ultimate value is subject to the political constraint and subjective decisions by a collective of individuals in the Italian government and society, the ECB, the European Union, and the International Monetary Fund (IMF). An investor buying an Italian bond today needs to forecast an immediate, complex process that has been evolving in unpredictable ways. Investors naturally want a high return in order to bear these risks.
“Investors must also weigh carefully the costs and benefits to them of official intervention. Each time official creditors provide loans or buy bonds, the nonofficial holders become more subordinated, because official creditors including the IMF, ECB, and now the European Union continue to claim preferential status.”
This is not to say that bondholders in private entities don't get crammed down in a refinancing or bankruptcy. But here we are talking about differential treatment of holders of the exact same class, even issue, of securities.
As I predicted, the various highly touted European debt and currency interventions last month did squat. This is no surprise. The basic plan currently is to have the ECB give essentially 0% loans to banks with the implied provision that they use the money to buy sovereign debt. Eventually there are provisions for austerity, but I wrote that I don't think it's possible these will be effective. It's a bit unclear where this magic money of the ECB is coming from - either they are printing money (which they refuse to own up to because the Germans fear money printing even more than Soviet tanks in the Fulda Gap) or there is some kind of leverage circle-jerk game going where the ECB is effectively leveraging deposits and a few scraps of funding to the moon.
At this point, short of some fiscal austerity which simply is not going to happen, I can't see how the answer is anything but printing and devaluation. Either the ECB prints, spreading the cost of inflation to all counties on the Euro, or Greece/Spain/Italy exit the Euro and then print for themselves.
The exercise last month, as well as the months before that, are essentially mass hypnosis spectacles, engineered to try to get the markets to forget the underlying fundamentals. And the amazing part is it sort of works, from two days to two weeks. It reminds me of nothing so much as the final chapters of Atlas Shrugged where officials do crazy stuff to put off the reckoning even one more day.
Disclosure: I have never, ever been successful at market timing investments or playing individual stocks, so I generally don't. But the last few months I have had fun shorting European banks and financial assets on the happy-hypnosis news days and covering once everyone wakes up. About the only time in my life I have made actual trading profits.
Thought problem: I wish I understood the incentives facing European banks. It seems like right now to be almost a reverse cartel, where the cartel holds tightly because there is a large punishment for cheating. Specifically, any large bank that jumps off the merry-go-round described above likely starts the whole thing collapsing and does in its own balance sheet (along with everyone else's). The problem is that every day they hang on, the stakes get higher and their balance sheets get stuffed with more of this crap. Ironically, everyone would have been better getting off a year ago and taking the reckoning then, and certainly everyone would be better taking the hit now rather than later, but no one is willing to jump off. One added element that makes the game interesting is that the first bank to jump off likely earns the ire of the central bankers, perhaps making that bank the one bank that is not bailed out when everything crashes. It's a little like the bidding game where the highest bidder wins but the two highest bidders have to pay. Anyone want to equate this with a defined economics game please do so in the comments.
Today, US markets are rallying strongly (Dow up 400 points or so at the moment) on news of coordinated central bank action that, that .... that what? It looks to me like the US and European banks are merely building up liquidity in preparation for potential bank runs. I would have considered this bad news, kind of like news we just went to DEFCON 2, but for some reason the market is rallying (though there was also an ADP report saying hiring was way up last month, which is certainly good news).
As I wrote yesterday, there only appear to be 3 solutions to the European debt crisis and this is not one of them. If I am right and patterns hold, the markets will wake up in a day or two and say, "wait, there is still trillions of Euros of deteriorating sovereign debt sitting on bank balance sheets with 40:1 leverage ratios" and fall back. I am thrilled that our economy shows signs of life and I know that corporate profits have been good, but I don't see any way a European debt crash won't have substantial negative effects on the US. If I am wrong, the market will continue up, up and away and you should stop ever listening to me because I clearly don't understand squat.
Update: Yesterday I posited that real solutions were going to be a combination of 1) default/haircut 2) Make someone else pay back the debt and 3) print money. I have heard it argued this morning that today's announcement may be evidence of #2 (ie, US taxpayers will bail them out) or more likely #3 (since the ECB can't print money, but the Fed seems to be doing a lot of it, lets get the Fed to print more money for the Europeans .... I don't understand the mechanics well enough to pinpoint who would bear the inflationary consequences of this, but betting on the US to be the world's patsy is never a bad bet).