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“Powell Says Fed Policies “Absolutely” Don’t Add To Inequality” -Bloomberg May 2020

The headline above is but one of countless times Fed Chairman Powell and his colleagues confidently said their policies do not result in wealth or income inequality. Their political stature and use of complex economic lingo give weight to their opinions in the media. Nevertheless, a deep examination of the Fed’s practices and their consequences leaves us to think otherwise.

In our opinion, the Fed’s contribution to wealth inequality is significant and grossly misunderstood. We have written articles explaining why QE and low interest rates generally benefit the wealthy and harm the poor. This article backs up those prior arguments with quantitative muscle.

Timely for investors, we also draw some lines between wealth inequality and financial stability and their relationship to monetary policy. We think it is becoming increasingly possible wealth inequality, and in particular, the outsized effect inflation has on the poor, could be the needle to pop many asset bubbles. The other possible needle is the Fed’s wanting for financial stability.

**Due to the importance of monetary policy from economic, societal, and market perspectives we are breaking this article into two. We will share part two next week.

Background

More inflation and financial stability (rising asset prices) are two of the three core tenets backing monetary policy. A strong labor market is the third objective. We focus on inflation in this article and financial stability in part II.

In our article Two Percent for the One Percent, we explain why inflation is detrimental to the poor, while rising asset prices (financial stability) primarily benefit the wealthy. The following paragraphs from the article explain:

…click on the above link to read the rest of the article…

The Global Financial End-Game

March 5, 2021

The Global Financial End-Game

The over-indebted, overcapacity global economy an only generate speculative asset bubbles that will implode, destroying the latest round of phantom collateral.

For those seeking a summary, here is the global financial endgame in fourteen points:

1. In the initial “boost phase” of credit expansion, credit-based capital ( i.e. debt-money) pours into expanding production and increasing productivity: new production facilities are built, new machine and software tools are purchased, etc. These investments greatly boost production of goods and services and are thus initially highly profitable.

2. As credit continues to expand, competitors can easily borrow the capital needed to push into every profitable sector. Expanding production leads to overcapacity, falling profit margins and stagnant wages across the entire economy.

Resources (oil, copper, etc.) may command higher prices, raising the input costs of production and the price the consumer pays. These higher prices are negative in that they reduce disposable income while creating no added value.

3. As investing in material production yields diminishing returns, capital flows into financial speculation, i.e. financialization, which generates profits from rapidly expanding credit and leverage that is backed by either phantom collateral or claims against risky counterparties or future productivity.

In other words, financialization is untethered from the real economy of producing goods and services.

4. Initially, financialization generates enormous profits as credit and leverage are extended first to the creditworthy borrowers and then to marginal borrowers.

5. The rapid expansion of credit and leverage far outpace the expansion of productive assets. Fast-expanding debt-money (i.e. borrowed money) must chase a limited pool of productive assets/income streams, inflating asset bubbles.

6. These asset bubbles create phantom collateral which is then leveraged into even greater credit expansion. The housing bubble and home-equity extraction are prime examples of these dynamic.

…click on the above link to read the rest of the article…

Have You Noticed How Push-Back Against Powell-Fed’s Actions Is Getting Louder in the Mainstream Media, from NPR to CNBC?

September 11, 2020

Have You Noticed How Push-Back Against Powell-Fed’s Actions Is Getting Louder in the Mainstream Media, from NPR to CNBC?

Still a lot of fawning coverage, but big dissenters are now given prominent spots, and loaded questions are used to politely hammer Powell into telling obvious nonsense.

This is an interesting turn of events, in a world of Fed-fawning mainstream media. In one version, the push-back takes the form of loaded questions about asset bubbles and wealth inequality caused by the Fed’s asset purchases.

Fed Chair Jerome Powell then answers, following what looks like a script because these loaded questions are now being thrown at him regularly. He admits that the Fed’s policies have increased asset prices, then says the Fed as a matter of policy doesn’t comment on asset prices, and hence cannot comment on asset bubbles, but then assiduously denies that this increased wealth of the asset holders, which he admits the Fed has engineered, widened the wealth inequality to the majority of Americans who hold no or nearly no assets, and who got shafted by the Fed. It’s like getting pushed on live TV into saying that, yes, indeed, two plus two equals three!

This happened many times, most notably during the July 29 FOMC press conference when a Bloomberg reporter pushed Powell on that (transcript of my podcast on the Fed’s role in wealth inequality); and during the interview with NPR which aired on September 4, when he was pushed on both, asset bubbles and wealth inequality.

In another version, the push-back in the mainstream media takes more accusatory forms expressed with exasperation and dotted with exclamation marks.

In early August, notable push-backers were former president of the New York Fed William Dudley and Bloomberg News which carried and promoted his editorial.

…click on the above link to read the rest of the article…

What a Relief that the U.S. and Global Economies Are Booming

September 13, 2019

What a Relief that the U.S. and Global Economies Are Booming

Doing more of what’s failed for ten years will finally fail spectacularly..It was a huge relief to see the charts of the Baltic Dry Index (BDI) and the U.S. retail sector ETF (RTH): both have soared to the moon, signaling that both the U.S. and global economies are booming: the BDI is widely regarded as a proxy for global shipping, which is a proxy for global trade and economic activity.

Amazon is 18% of the RTH basket of retail stocks, but the rest are conventional bricks and mortar chains with online sales: Walmart, Home Depot, Lowes, Costco, CVS, etc.The American consumer must be ready, willing and able to spend freely since the retail sector is hitting new heights.

OK, now let’s change channels from soaring market valuations to the real-world economy. What planet are buyers of BDI and RTH on? Maybe the shipping and retail sectors are incredibly robust on Sirius B, but here on Planet Earth the global economy is weakening, trade is stagnating, shipping is in recession, and retail sales and profits are stagnating.

Lumping all American households in one basket gives a false signal of financial health. If we look at averages, debt levels are reasonable, incomes are notching higher and so expectations of rising household debt and spending are reasonable.

But this radically distorts reality: only the top 10% are creditworthy and have rising incomes; the bottom 90% are over-indebted, poor credit risks and their income is stagnant and/or precarious.

The top 10% of households–a mere 12 million households–are also precarious, as much of their wealth and income is based on insanely overvalued asset bubbles in stocks, bonds and real estate. The wealth effect fuels their free-spending ways (recall that the top 10% collect roughly half of all income and account for almost half of all consumer spending).

…click on the above link to read the rest of the article…

The Fed and Asset Bubbles

September 14, 2018

THE FED AND ASSET BUBBLES

In his speech on April 7 2010 at the Economic Club of New York the President of the New York Fed, William Dudley argued that asset bubbles pose a serious threat to real economic activity.

The New York Fed chief is of the view that the US central bank should develop effective tools to counter this menace.

According to Dudley, it should be the role of the Fed to stop the expansion of the bubble whilst it is still in the making.

By an asset bubble, I mean price increases (or declines) that become unmoored from fundamental valuations.^[1]

Dudley is of the view that the way people trade also generates bubbles. On this, he suggests that,

Bubbles may simply emerge from the way market participant’s process information and trade. In many carefully controlled experiments in which the intrinsic value of the asset could be determined with certainty, participants still bid prices up far above fundamental valuations, with the bubbles being followed by sharp declines in prices.^[2]

Furthermore, Dudley is of the view that,

A bubble is difficult to discern and, second, each bubble has unique characteristics. This implies that a rules-based approach to bubbles is likely to be ineffective and that tackling bubbles to diminish their potential to destabilize the financial system requires judgment.^[3]

In conclusion, the New York Fed President has suggested,

Let me underscore the challenge that central bankers face in combating asset price bubbles. Doing so effectively requires us to be successful in both identifying the incipient bubble and in developing and implementing a response that will limit bubble growth and avert a destructive asset price crash. This is not easy because asset bubbles are hard to recognize in real time and each asset bubble is different. However, these challenges cannot be an excuse for inaction.^[4]

The Fed and bubbles – is there any relation?

…click on the above link to read the rest of the article…

Blame the Fed — Not Investors — For Asset Bubbles

September 12, 2018

Blame the Fed — Not Investors — For Asset Bubbles

In his speech on April 7 2010 at the Economic Club of New York the President of the New York Fed, William Dudley argued that asset bubbles pose a serious threat to real economic activity.

The New York Fed chief is of the view that the US central bank should develop effective tools to counter this menace.

According to Dudley, it should be the role of the Fed to stop the expansion of the bubble while it is still in the making.

By an asset bubble, I mean price increases (or declines) that become unmoored from fundamental valuations. 1

Dudley is of the view that the way people trade also generates bubbles. On this, he suggests that,

Bubbles may simply emerge from the way market participant’s process information and trade. In many carefully controlled experiments in which the intrinsic value of the asset could be determined with certainty, participants still bid prices up far above fundamental valuations, with the bubbles being followed by sharp declines in prices.

Furthermore, Dudley is of the view that,

A bubble is difficult to discern and, second, each bubble has unique characteristics. This implies that a rules-based approach to bubbles is likely to be ineffective and that tackling bubbles to diminish their potential to destabilize the financial system requires judgment.

In conclusion, the New York Fed President has suggested,

Let me underscore the challenge that central bankers face in combating asset price bubbles. Doing so effectively requires us to be successful in both identifying the incipient bubble and in developing and implementing a response that will limit bubble growth and avert a destructive asset price crash. This is not easy because asset bubbles are hard to recognize in real time and each asset bubble is different. However, these challenges cannot be an excuse for inaction.

…click on the above link to read the rest of the article…

What Just Changed?

February 12, 2018

What Just Changed?

The illusion that risk can be limited delivered three asset bubbles in less than 20 years.

Has anything actually changed in the past two weeks? The conventional bullish answer is no, nothing’s changed; the global economy is growing virtually everywhere, inflation is near-zero, credit is abundant, commodities will remain cheap for the foreseeable future, assets are not in bubbles, and the global financial system is in a state of sustainable wonderfulness.

As for that spot of bother, the recent 10% decline in stocks: ho-hum, nothing to see here, just a typical “healthy correction” in a never-ending bull market, the result of flawed volatility instruments and too many punters picking up dimes in front of the steamroller.

Now that’s winding up, we can get back to “creating wealth” by buying assets–$2 million homes in Seattle that were $500,000 homes a few years ago, stocks, bonds, private islands, offshore wealth funds, bat guano, you name it. Just borrow whatever you need to borrow to buy more.

(But don’t buy bitcoin. No no no, a thousand times no. It is going to zero, Goldman Sachs guaranteed it.)

Ahem. And then there’s reality: something has changed, something important.What changed? The endlessly compelling notion that risk has magically vanished as the result of financial sorcery is now in doubt. If risk hasn’t been made to disappear, and even worse, can’t be corralled into a shortable instrument like VIX, then–gasp–every asset and instrument might actually be exposed to some risk.

As I’ve noted many times here, risk cannot be made to disappear; it can only be transferred onto others or off-loaded into the financial system itself. Risk can be cloaked or masked, and indeed, that is the beating heart of financial alchemy: we can eliminate risk by hedging via exotic instruments.

…click on the above link to read the rest of the article…

Why the Financial System Will Break: You Can’t “Normalize” Markets that Depend on Extreme Monetary Stimulus

January 3, 2018

Why the Financial System Will Break: You Can’t “Normalize” Markets that Depend on Extreme Monetary Stimulus

Central banks are now trapped.

In a nutshell, central banks are promising to “normalize” their monetary policy extremes in 2018. Nice, but there’s a problem: you can’t “normalize” markets that are now entirely dependent on extremes of monetary stimulus. Attempts to “normalize” will break the markets and the financial system.

Let’s start with the core dynamic of the global economy and nosebleed-valuation markets: credit.

Modern finance has many complex moving parts, and this complexity masks its inner simplicity.

Let’s break down the core dynamics of the current financial system.

The Core Dynamic of the “Recovery” and Asset Bubbles: Credit

Credit is the foundation of the current financial system, for credit enables consumers to bring consumption forward, that is, buy more stuff today than they could buy with the cash they have on hand, in exchange for promising to pay principal and interest with their future income.

Credit also enables speculators to buy more assets than they otherwise could were they limited to cash on hand.

Buying goods, services and assets with credit appears to be a good thing: consumers get to enjoy more stuff without having to scrimp and save up income, and investors/speculators can reap more income from owning more assets.

But all goods/services and assets are not equal, and all credit is not equal.

There is an opportunity cost to any loan (i.e. credit), as the income that will be devoted to paying principal and interest in the future could have been devoted to some other use or investment.

So borrowing money to purchase a product or an asset now means foregoing some future purchase.

…click on the above link to read the rest of the article…

What Causes Asset Bubbles?

December 13, 2017

What Causes Asset Bubbles?

As we showed yesterday, the price of bitcoin has finally surpassed “Tulips” in the global bubble race.

Overnight the former Bridgewater analysts Howard Wang and Robert Wu, who make up Convoy Investments, released their thoughts on what happens next… and most importantly, what causes asset bubbles…

When we see a dramatic rise in asset prices, there is often an internal struggle between the two types of investors within us.

The first is the value investor, “is this investment getting too expensive?”

The second is the momentum investor, “am I missing out on a trend?”

I believe the balance of these two approaches, both within ourselves and across a market, ultimately determines the propensity for bubble-like behavior. When there is a new or rapidly evolving market, our conviction in the value investor can weaken and the momentum investor can take over. Other markets that structurally lack a basis for valuation are even more susceptible to momentum swings because the main indicator of future value is the market’s perception of recent value. In this commentary, I quantify the balance of value vs. momentum in a market to explore how that tug of war can result in incredible asset bubbles.

The balance of value vs. momentum determines a market’s serial correlation

I believe the outcome of the tug of war between value and momentum in any market can be largely captured by a statistical measure called serial correlation – how likely is the recent past to determine the near future? A value of -1 means future returns are the exact opposite of recent past returns, a value of 0 means they are independent of each other, and a value of 1 means recent past returns are perfectly predictive future returns. After a dramatic price change, value investing would generally expect a reversion to the mean, suggesting a negative serial correlation.

…click on the above link to read the rest of the article…

Eric Peters: “This Is The Nightmare Scenario For The Next Fed Chair”

October 15, 2017

Eric Peters: “This Is The Nightmare Scenario For The Next Fed Chair”

While we will have much more to share from the latest weekend letter by One River’s Eric Peters shortly, we found the following section on inflation vs asset bubbles – a topic which BofA’s Michael Hartnett has been focusing extensively on in the past year and which serves as the basis for the “Icarus Rally” – particularly notable as it explains all of today’s comments from Janet Yellen and other central bankers, discussing why it is only a matter of time before inflation returns, as the alternative, as Peters’ explains, is a world in which yields simply refuse to go up, leading to a nightmare scenario for the next Fed chair, who will be forced to pop the world’s biggest asset bubble.

Excerpted from the latest weekend notes by One River CIO, Eric Peters:

“Why are we not experiencing deflation?” he asked. “How can the top five stocks in the Nasdaq reduce US GDP but we feel better off?” he asked. “Why are Americans buying no more cars today than in 1978 when our population is 100mm higher?” he asked. “Why compare today to a world of combustion engines when we have so many more interesting things to do without moving an inch?” he asked.

“And why do central banks create endless bubbles to restore an inflation rate from that ancient time?” he asked. “Why is that not the right question?”

“Global profits are rising, unemployment is falling, growth is up, wages too,” said the strategist.

“Yet bond yields seem unable to jump.” US 10yr bond yields are 2.27%, Germany 0.40%, Japan 0.05%. “The cyclical surprise is that the Phillips curve finally kicks in, just as everyone gives in.” US unemployment is 4.2%, a 17yr low. Germany 3.6%, a 37yr low. Japan 2.8%, a 23yr low. “And the biggest structural surprise is that technology has rendered wage inflation a phenomenon for the history books.”

…click on the above link to read the rest of the article…

Algeria Officially Launches Helicopter Money Amid Sliding Oil Revenue, Budget Crisis

September 17, 2017

Algeria Officially Launches Helicopter Money Amid Sliding Oil Revenue, Budget Crisis

One year ago, the imminent arrival of helicopter money among endless discussions of pervasive lowflation was all the rage within high-finance policy circles. Then, everything changed as if on a dime, and in recent months the dominant topic has been global coordinated tightening – and in some cases even revisions to central bank mandates and the lowering of inflation targets – perhaps as a result of central banks’ realization that monetizing debt by central banks leads to bad outcomes, not to mention global asset bubbles.

But not everywhere.

On Sunday, Algeria’s prime minister unveiled a plan to plug the country’s budget deficit as the the OPEC member state looks to offset lower oil revenue by directly borrowing from the central bank, while avoiding international debt markets. In other words, direct monetization of debt, which bypasses commercial banks as a monetary intermediate, and is better known as “helicopter money.”

According to Bloomberg, the five-year plan presented by Prime Minister Ahmed Ouyahia aims to balance the budget by 2022, and reverse a deficit that ballooned with the plunge in global crude prices, which also cut foreign reserves by nearly half.

“If we turn to external debt, as the IMF suggests, we will need to borrow $20 billion a year to repay the deficit and within four years we will be unable to repay the debt,” Ouyahia said. “This is what made the government look at non-traditional financing.”

With domestic debt currently around 20 percent of gross domestic product, Algeria has room to take on additional borrowing, the IMF has said. Earlier this month, the cabinet authorized the central bank to lend money to the Treasury to narrow the deficit. Businesses and importers would stand to benefit from a cash injection from the regulator, but analysts say the plan has risks.

…click on the above link to read the rest of the article…

The Trouble with Asset Bubbles: If You Stop Pumping, They Pop

September 5, 2017

The Trouble with Asset Bubbles: If You Stop Pumping, They Pop

The idea that authorities can massage their pumping to keep asset bubbles inflated at a permanently high plateau is currently being tested.

The trouble with inflating asset bubbles is that you have to keep inflating them or they pop. Unfortunately for the bubble-blowing central banks, asset bubbles are a double-bind: you cannot inflate assets forever. At some unpredictable point, the risk and moral hazard that are part and parcel of all asset bubbles trigger an avalanche of selling that pops the bubble.

This is another facet of The Fed’s Double-Bind: if you stop pumping asset bubbles, they pop as participants realize the music has stopped, and if you keep pumping them, they expand to super-nova criticality and implode.

There are several dynamics at play in this double-bind.

1. The process of inflating a bubble (for example, the current bubbles in stocks and real estate) requires pushing investors and speculators alike into risky asset classes. This puts the market at increasing risk as everyone is pushed to one side of the boat.

2. Those on the other side of the boat (i.e. shorts) are slowly but surely eradicated as the pumping keeps inflating the bubble. When the bubble finally bursts, there are no shorts left to cover, i.e. buy stocks at lower prices to reap their profits.

3. As the bubble continues to expand, the money available to enter the market and keep prices rising declines. The very success of the pumping process strips the markets of new sources of new money, leading to a point where normal selling exceeds new-money buying and the bubble collapses.

…click on the above link to read the rest of the article…

BofA: Even The Bubbles Are Becoming More “Bubbly” Thanks To Central Banks

September 5, 2017

BofA: Even The Bubbles Are Becoming More “Bubbly” Thanks To Central Banks

Back in June, Citi’s credit strategist Hans Lorenzen pointed out that while QE had failed to spark inflation across the broader economy, it had achieved something else: “the principal transmission channel to the real economy has been… lifting asset prices.” That however has required continuous CB balance sheet growth, and with the Fed, ECB and BOJ all poised to “renormalize” over the next year, the global monetary impulse is set to turn negative in the coming year. Meanwhile, as financial markets scramble to maximize every last ounce of what central bank impulse remains, we get such bubbles as London real estate, bitcoin and vintage cars, or as Citi puts it: “the wealth effect is stretching farther and farther afield.”

Three months later, the latest to tackle the issue of central bank bubble creation, is BofA’s Barnaby Martin, who in a note released overnight asks rhetorically “are bubbles becoming more “bubbly”?

Just like Lorenzen, Martin observes the blanket central bank “lower for longer” rates intervention, which leads to “speculative behavior in assets.” Well, technically, Martin hedges by calling it a “risk”, but one look at the chart above and below shows that the bubbles created by central banks are all too real. And as Martin, whose topic is the unprecedented buying spree across credit, notes it’s not just credit markets that are seeing exceptional investor demand at this point in the cycle: so is everything else, or as he puts it:

“As chart 3, over the page shows, asset bubbles seem to be becoming more “bubbly” as time goes by.”

…click on the above link to read the rest of the article…

Will the Crazy Global Debt Bubble Ever End?

May 29, 2017

Will the Crazy Global Debt Bubble Ever End?

There are multiple sources of friction in the Perpetual Motion Money Machine.

We’ve been playing two games to mask insolvency: one is to pay the costs of rampant debt today by borrowing even more from future earnings, and the second is to create wealth out of thin air via asset bubbles.

The two games are connected: asset bubbles require leverage and credit. Prices for homes, stocks, bonds, bat guano futures, etc. can only be pushed to the stratosphere if buyers have access to credit and can borrow to buy more of the bubbling assets.

If credit dries up, asset bubbles pop: no expansion of debt, no asset bubble.

The problem with these games is the debt-asset bubbles don’t actually expand the collateral (real-world productive value) supporting all the debt. Collateral can be a physical asset like a house, but it can also be the ability to earn money to service debt.

Credit card debt, student loan debt, corporate debt, sovereign debt–all these loans are backed not by physical assets but by the ability to service the debt: earnings or tax revenues.

If a company earns $1 million annually, what’s its stock worth? Whether the market values the company at $1 million or $1 billion, the company’s earnings remain the same.

If a government collects $1 trillion in tax revenues, whether it borrows $1 trillion or $100 trillion, the tax revenues remain the same.

If the collateral supporting the debt doesn’t expand with the debt, the borrower’s ability to service debt becomes increasingly fragile. Consider a household that earns $100,000 annually. If it has $100,000 in debt to service, that is a 1-to-1 ratio of earnings and debt. What happens to the risk of default if the household borrows $1 million?

…click on the above link to read the rest of the article…

I was asked: Whatever Happened to Inflation after all this Money-Printing?

December 27, 2015

I was asked: Whatever Happened to Inflation after all this Money-Printing?

So where’s my free lunch?

I was asked once again why all this central-bank “money-printing” along with global zero-interest-rate or even negative-interest-rate policies haven’t caused a big bout of inflation, considering how currencies are getting watered down.

It’s a crucial question that baffled many minds for a while, but now, as this thing has been dragging out for seven years, bouncing from one major central bank to the next, without end in sight, the answer is becoming clearer.

This chart by NBF Economics and Strategy shows the growing pile of assets, expressed in dollars, that the “four big central banks” – Fed, ECB, Bank of Japan, and Bank of England – have heaped on their balance sheets: nearly $11 trillion. This does not include what China is doing. The forecasts for 2016 and 2017 assume that the Fed and the Bank of England will stay away from QE, that the BoJ will add annually ¥80 trillion (with a T) to its pile and the ECB €60 billion, with exchange rates unchanged:

Consumer Price Inflation v. Asset Price Inflation

So this global binge of QE has caused inflation, a lot of it, but not consumerprice inflation. It has caused rampant asset price inflation, with stocks, bonds, real estate, classic cars, art… all skyrocketing over the years.

Just about the only major asset class that didn’t experience gains is the commodities sector. There, prices have collapsed. And we’ll get to that in a moment.

So why has QE caused rampant asset price inflation but little consumer price inflation? Because the money never went to consumers – in form of wages. They would have spent most of it, thus driving up demand that could have created some inflationary pressures in consumer prices. But they never got this money.

…click on the above link to read the rest of the article…

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