We have the central bankers money printing ways to thank for rising stock prices. They certainly are not rising because of the declining corporate earnings or a global industrial recession. The Fed has dictated the price of financial assets via interest rate repression since the great financial crisis.
Corporations are borrowing cheap to buy their own stocks back today since they have no incentive to invest in future production and services or fund their pensions. The imbalance in the declining supply of stocks to this buyback demand of stocks has temporarily sent stocks to the moon.
The Federal Reserve tools are not designed for the economy, they are designed for the financial system. I hope you can understand how ridiculous the Fed Chairman’s recent statement really is. He tells us this while pumping $108 billion into the repo market (the banks’ bank):
“It is essential that we at the Fed use our tools to make sure that we do not permit an unhealthy downward drift in inflation expectations and inflation.” – Fed Chairman Jerome Powell
God-forbid consumer prices only rise 1.5% next year, what a travesty that would be. For the last ten years the Fed’s favorite inflation gauge has run the majority of the time between 1% and 2%. Their target was 2%, but when we hit that they quickly adjusted the target higher.
The truth is they created a massive global credit bubble that can not stand rising interest rates. Reference last December market crash, Fed’s capitulation and now massive interventions into the markets.
I completely agree that another financial crisis will not be good for the economy. But flooding the financial markets with money created out-of-thin-air will lead to worse outcomes in the long run. Try bailing the people out next time and not the corrupt financial culture.
If we replace “consumer inflation” as implied in Jerome’s statement with “financial assets asset” it all makes sense. The central banks are now reacting to the pierced global credit bubble and not driving anything. They fear a “downward drift” in financial asset prices. It would be “unhealthy” for debt laden balance sheets of corporations and nations.
But there are some long term side effects to this policy. The Fed is now pumping liquidity (money printed out of thin air) into the financial system at over double the rate of QE1 -3. Something has got them spooked.
They could have developed monetary tools to bypass the now much larger too-big-to-fail banks to keep money flowing to the economy. Some of which are failing again (Duetsche Bank trading 95% below its 2007 high). But they did not.
Note: Deutsche Bank’s (DB) equity value is one third of one percent (.003) of the value of the$49 trillion in derivatives it is on the hook for (nominal value). DB has lost money 3 out of the last 4 years. DB is the probable issue in the repo market and the Fed is trying to plug this black hole.
So what’s wrong with low interest rates?
Nothing if they come about in un-manipulated ways. Does anyone think a free market would set interest rates below expected inflation rates let alone negative interest rates. The central banks have repressed interest rates since the financial crisis hoping to repair balance sheets from the last bubble.
Simply put, this has been a transfer of wealth from savers to debtors and speculators. This is a distortion of the price of money has led to less investment in the economy and more wealth extraction and more leveraged balance sheets.
Corporations have burned upwards of 5 trillion dollars on buying their own stock back on the open markets this market cycle. In 2019, cash spent on buybacks exceeded corporate cash flow for the first time. Over half of the buybacks were financed. Over half of the SP500 companies bonds are one notch above junk status.
Pensions that were 100% funded 10 years ago are now running 70% funded. This is what happens when interest rates on pension-safe investments run 2.5% below normal levels for a decade. Do the simple math.
And no, buying a home is not cheaper with lower interest rates. People buy monthly payments. Lower interest rates simply allowed home prices (part financial assets) to go up – still the same house, the same standard of living, same monthly payment on new loans, but a higher sales price for now.
The New False Narratives
With unemployment low and inflation hitting their target the central bankers are making up other false narratives so they can print and repress away.
In Europe, the new head banker (a lawyer) wants the central bank to fight global warming – I kid you not. In America, the man put in charge of bailing out the wall street banks in 2008 wants the Fed to fix “inequality” they created with their current policies.
Let’s not forget that after the financial crisis the federal reserve fought attempts to stand up an independent consumer financial protection agency. Why?
Because the Fed and their bank owners have been using the consumers to bail themselves out. Their ongoing argument is that they will help consumers by creating more jobs with repressed interest rates. Just don’t look at the statistics.
Imagine the conflict if the US President’s cabinet included a Secretary of Pensions in charge of protecting pensions (as the UK has) from our banker friendly Treasury Secretaries – all former wall street bankers.
Much of the billionaire class is screaming about socialism although what I hear from people is the simple desire for a more social capitalist system like we had before the 90s where the gains of the nation are shared with the workers and don’t all go to the top .1%.
Which brings me to my title – the Fed’s Socialism
What we have had since the 1990s is Financial Socialism. Where the means of production is money creation, and the distribution system of the cheap money and bailouts has been shared with the financial elite after crisis – the overwhelming owners of financial assets. Those holding stocks think they are along for the ride, but that is not how it works in the end.
Forgive my rant. But when I hear the Fed talk about their concern for inflation expectations, inequality, and now global warming it gets me going. It’s their way of avoiding the truth.
The markets are not free today my friends, but that does not mean they will remain under control. So many indications are signaling danger, but that is why the Fed is pumping billions into the financial markets today. These things are correlated.
I call them pre-bailouts – money pumping every time the financial markets falter. It’s worked so far, but I expect something to break either monetarily or politically that can not be papered over.
These things make allocation timing decisions difficult. Risk is high – risk of large moves in either direction.
Often melt ups occur before the melt downs.
Invest aware, invest safe.
TSP & Vanguard Smart Investor helps investors make more informed decisions.