Michael Bond: When I started reading Doug’s article below titled “Uncertainty”, my thoughts were that investors have replaced “market uncertainty” with central bank monetary “certainty”. Meaning the worse the real economy gets the more likely the Fed will flood the financial markets with money. And any attempt of the markets to revert to reality will be suppressed with interventions.
Doug gets to this concept too and more eloquently than I do, but I have to add that it has taken ever-larger interventions to hold the financial bubbles together and at some point something breaks. He also points out that China has the same problem today, but with fewer tools. And no central bank has experience in dealing with ponzi financial systems that do not work in reverse.
Instead of excerpting full paragraphs, I am pulling my favorite thoughts from his article for pondering:
It’s unethical to impose years of negative real returns upon savers, coercing them into the securities markets.
Having a small group of central bankers manipulating market yields is the antithesis of free market capitalism.
Trillions of new “money” pumped directly into the securities markets is pernicious inflationism and a deleterious redistribution of wealth.
Non-crisis, open-ended QE changed everything.
It’s an extraordinary paradox: the bond market’s disregard for inflation risk reinforces Bubble excess while increasing the likelihood inflationary pressures attaining self-reinforcing momentum.
I have posited that the great vulnerability of contemporary finance is that it doesn’t work in reverse.
by Doug Noland
We shouldn’t read too much into one month of weak Chinese Credit data. July’s growth in Aggregate Financing (system Credit) slumped to $164 billion, almost 40% below estimates, and down from June’s booming $566 billion – to the slowest expansion since covid crisis February 2020. July can be a seasonally weak month for lending, following a typical end-of-quarter surge. Analysts are downplaying the significance of July’s slowdown, expecting a seasonal pick up and a boost from last month’s reduction in bank reserve requirements.
We should, however, also consider Beijing’s newfound resolve in implementing a comprehensive reform agenda. It’s certainly not lost on Chinese officials that their runaway Credit expansion poses the greatest risk to China’s financial, economic and social stability. Still, they recognize market sensitivity to all developments impactful to financial conditions – especially now that significant cracks have surfaced in Chinese Credit. So, Beijing will move cautiously and without transparency. Moreover, they will play into the market perception that Beijing has everything under control. I would expect a tightening cycle to unfold with corresponding lower reserve requirements, interest rate cuts and PBOC liquidity injections.
From the perspective of a determined Beijing, coupled with heightened Credit stress, July’s weak data is likely sending a warning. New Loans dropped to $167 billion, about half June’s $327 billion, and the weakest reading since October 2020. But at $2.135 TN, year-to-date Loan growth is running 5.8% ahead of 2020 and 29% ahead of comparable 2019. Loans were up 12.3% year-over-year, 26.9% in two years and 83% in five years.
Corporate Loan growth dropped to $67 billion, the weakest reading since October, and only a fraction of June’s $224 billion. At $1.358 TN, year-to-date Corporate lending is running 2.6% below 2020, but 34% ahead of comparable 2019. Corporate Loans expanded 11.3% over the past year, 25.5% over two years, 39% over three and 67% over five years.
The Consumer lending slowdown is perhaps the most intriguing aspect of July data. Mortgage borrowing dominates Consumer Loans. And while it doesn’t garner the same media attention as stock market-impactful reform measures, Beijing has moved aggressively to rein in mortgage lending excess. At $62 billion, Consumer Loan growth was less than half of June’s to the lowest level since February 2020’s covid-related contraction.
Again, we don’t want to read too much into a single month. But we should at least contemplate the possibility that Beijing’s determined effort to rein in apartment Bubble excess is finally making some headway. A sustained lending slowdown would presage a downturn in transactions and apartment prices, unleashing a problematic downside to historic Credit, asset and economic Bubbles. There is great Uncertainty associated with Chinese officials, citizens, bankers, and corporate managements having no experience with the downside of Credit and asset Bubbles. Such a prospect would explain sanguine Treasury and global bond markets in the face of non-transitory inflationary pressures.
Markets are said to hate Uncertainty. Yet stock prices rise to unprecedented heights in the face of myriad extraordinary uncertainties. The current course of experimental monetary inflation and fiscal stimulus creates epic Uncertainty. The course of China’s historic Bubble is similarly unsettled. The geopolitical backdrop points to alarming instability. Yet global climate change poses the greatest threat to all aspects of human life, starting with economic, social, political and geopolitical stability.
Market analysts have been trumpeting phenomenal earnings growth. Cut rates to zero, throw in Trillions of monetary stimulus, and then add Trillions more of fiscal spending – and the upshot will be one spectacular – if unsustainable – profits bonanza. But what type of a multiple would a sensible analyst place on currently inflated corporate earnings? What discount rate would one apply to future earnings streams when contemplating reasonable valuation? A really low rate, factoring in the likelihood of years of near zero short-term funding rates (and associated low bond yields)? Or instead, a relatively high discount rate, reflecting today’s unprecedented backdrop and associated uncertainties? The Crowd answers the former; I say the latter.
I’ve witnessed scores of spectacular booms and busts during my career. I’ve witnessed nothing comparable to China’s Bubble. The world should be panicky. Instead, there is near absolute faith in the Beijing meritocracy.
Late-eighties “decade of greed” excesses were incredible – until they were completely overshadowed by the “roaring nineties”. I thought 1999 was a once-in-a-career experience. The 2008 mortgage finance Bubble collapse destroyed the myth that Washington had everything under control. Yet we’re now into the 13th year of the global government finance Bubble. Especially since the pandemic crisis response, manic excess has gone off the rails. The world should be panicky. Instead, it’s all business as usual, with near absolute faith in the power of central bank QE.
It’s unethical to impose years of negative real returns upon savers, coercing them into the securities markets. Having a small group of central bankers manipulating market yields is the antithesis of free market capitalism. And the longer zero rates and artificially low market yields are imposed, the more extreme the underlying market, financial and economic structural maladjustment. Injecting Trillions of new “money” directly into the securities markets is pernicious inflationism and a deleterious redistribution of wealth. Yet, to the markets, none of that matters. What matters tremendously is that the Federal Reserve sticks with policies to inflate stock, bond and home prices.
I have posited that the great vulnerability of contemporary finance is that it doesn’t work in reverse. It appears miraculous, so long as finance is expanding and asset prices are inflating. Markets are these days content to disregard myriad risks because of confidence in the Fed’s willingness and capacity to sustain the monetary boom. Non-crisis, open-ended QE changed everything.
Inflation today poses a huge risk. A sustained inflationary surge would force the Fed to withdraw stimulus, ending the illusion of never-ending central bank market support. Historic Bubbles would lose their foundations. To this point, Federal Reserve officials have been able to assert “transitory.” The Fed would be in a precarious situation if inflation angst was stoking bond market instability. But the bond market is underpinned by open-ended QE and prospects for faltering Bubbles and resulting Trillions of additional Fed purchases.
It’s an extraordinary paradox: the bond market’s disregard for inflation risk reinforces Bubble excess while increasing the likelihood inflationary pressures attaining self-reinforcing momentum. Inflation complacency rests on the simple assumption that previous inflation dynamics will be sustained well into the future. Yet there is a confluence of unprecedented developments that point to a new paradigm. We have never witnessed such sustained monetary inflation, both at home and abroad. At the same time, fiscal deficit spending is unprecedented in a peacetime environment. Monetary stimulus literally opened the fiscal stimulus floodgates, with the combination in the process of creating the tightest labor market in decades.
Meanwhile, there’s global climate change. Similar to other major risks, markets today instinctively view climate change as one more development that guarantees the Fed and global central bankers will sustain monetary stimulus indefinitely.
August 11 – Associated Press (Nicholas K. Geranios): “The wheat harvest on Marci Green’s farm doesn’t usually begin until late August, but a severe drought stunted this year’s crop and her crews finished harvesting last week because she didn’t want what had grown so far to shrivel and die in the heat. It’s the same story across the wheat country of eastern Washington state, a vast expanse of seemingly endless stretches of flatlands with rolling hills along its edges that produces the nation’s fourth largest wheat crop. It’s been devastated by a drought the National Weather Service has classified as ‘exceptional’ and the worst since 1977. ‘This is definitely the worst crop year we have had since we started farming 35 years ago,’ said Green, whose family is the sixth generation on the same farming land just south of the city of Spokane.”
Washington’s stunted wheat crop is but one example. California farmers pulling out almond trees. Farmers in California, Oregon, Utah and elsewhere are being hit with water restrictions, as half the country suffers drought conditions. Reservoirs are running dry. From New York to California, there are calls to conserve electricity.
A Friday Reuters headline: “’Once in 100 Years’ Drought Seen Affecting Argentine Grains Exports Into 2022.” Last week from Bloomberg: “The Argentine River That Carries Soybeans to World Is Drying Up.” And this week: “Sugar Soars as Crops in World’s Top Producer Brazil Hit by Frosts.” And today from CNN: “Get Used to Surging Food Prices: Extreme Weather is Here to Stay.”
The “inflation is transitory” assertion completely disregards the possibility that climate change could wreak havoc on food production, harvesting and transportation. Beyond farming, it will impact production, supply chains and inventory management. Prepare for myriad disruptions in key facets of economic development. Life as we’ve known it could change profoundly, with inconceivable effects on many prices and market structures. Of course, manic markets will ignore such risks until they get hit over the head by them. This long, hot summer makes it seem as if that day is approaching.
Original Post 14 August 2021
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Categories: Doug Noland