On Sunday, JCG’s will trade once more. There are few interesting developments:
Interactive Brokers eliminated day-trade margin (usually 25% or overnight initial though IB generally prefers 50% of initial)
Variation Margin Calls will have till the next business day to be settled if new cash is being posted.
Undoubtedly, IB, as usual is ahead of the curve, GoldmanTAX is only too happy to take their house risk to 500 to 1 rather than the current 400 to 1 and at the same time blow up their customers…so they are not changing margin requirements just yet. However, IB is ahead of the curve and this is an ominous omen. IB was well ahead of the curve in 2008 eliminating intraday margin for all equity futures prior to the collapse. They also, often run conservative initial and maintenance margin marks resulting in higher equity requirements than the exchanges when they feel like it is warranted.
Pertaining to futures traders who have been holding JGB positions may have entered into a variation margin violations:
accounts that dropped below maintenance margin intraday, this infraction would require them to post the equity to their account if only an intraday infraction occurred and the account will required to be brought to full initial margin compliance…by liquidations by the close of the session of new equity by sometime early the next day
accounts that closed below maintenance margin and is now required to post initial margin collateral. Generally, an account must close contracts prior to close of trading if new equity will not be posted. If new equity will be posted, they will have some time, as in the next day to wire funds. If new equity is promised but net recieved a trading account will likely go into restricted status and liquidations will occur.
If variation margin calls are not met then the broker has the liberty to close contracts to bring the account into compliance…you can bet that when you lose nearly 6 months of gains in the JGB futures in a few minutes, there will be variation margin violations and there will be people scrambling to post equity…when the JGB go lower for this and other reasons then those calls will only get bigger. Similar situations happened in Silver when it gapped from 50 to 40…and triggered stops and margin selling for pyramided positions…it did not take long for accounts to go into a debit equity state…and pressure account to within days be forcibly selling silver in the upper 20’s as i recall. I am imagining that this will likely be on the docket for many Japanese futures products and other financial instruments.
Though it may seem easy to relegate these issues to a the few futures traders that are out there, this is NOT correct, the traders of these type of futures are most often institutions and banks…many of whom are now sitting with large margin risks and need to start thinking about where they are going to find new collateral.
On the scale of whacky, crazy, insane and just because of that, “possible”, since central bankers and certain economists must clearly be insane…please read in amazement:
Sometimes you can learn the lessons of history too well. Today’s top central bankers formed their ideas about monetary policy from the inflation of the 1970s and the recessions that followed. The slump that began in 2008 is different, and calls those ideas into doubt. As a result, a consensus that was almost unquestioned five years ago -- that central banks should be shielded from politics and given a simple mandate to keep inflation low -- may be breaking down. What might replace it isn’t clear.
The upheaval caused by the recent recession challenged monetary orthodoxies in at least one very specific way. In ordinary circumstances, central banks control demand through short-term interest rates. What happens when they lower interest rates and demand is still anemic?
Once rates are close to zero, monetary policy has to look for other ways to stimulate demand. That’s where quantitative easing comes in. As the recession dragged on, central banks bought long-dated government bonds and other securities to press down on longer-term interest rates directly.
The “zero lower bound” unsettles the old thinking partly because it demands untested innovations such as QE, but also because it attacks the earlier consensus head on. The logic of monetary policy under current conditions may call for a spell of deliberately higher inflation -- higher, that is, than the inflation target the central bank has previously committed itself to.
Dreaded Inflation
The details get complicated, but the basic reasoning is straightforward. Although nominal interest rates can’t fall to less than nothing, real (inflation-adjusted) interest rates can. To push real short-term interest rates as low as it deems necessary, a central bank merely has to achieve a sufficiently high rate of inflation. (A nominal interest rate of 3 percent is a real rate of 3 percent if prices are expected to be stable, but a real rate of only 1 percent if inflation is expected to be 2 percent.)
In fact, the central bank only has to promise to raise inflation and be believed -- that’s enough to change real rates. This is a promise a central bank, and only a central bank, is in a position to make.
Could it therefore make sense for the Federal Reserve to promise, say, three years of 4 percent inflation as a way to drive real short-term interest rates lower? Theoretically, it turns out, the answer is yes. Yet the idea fills most central bankers, raised on the consensus forged in the 1980s, with dread.
The dread is understandable. If higher inflation becomes entrenched, bringing it down again may require a policy-induced recession. Any central banker will tell you that anchoring inflation expectations is vital for economic stability. Few want to be suspected of even considering a controlled dose of higher inflation -- in fact many would say there is no such thing.
This thinking is counterproductive. Modern central banks pay lip service to the idea of transparency and insist they want their actions to be better understood. When it comes to discussing the trade-off between inflation and a more rapid recovery, they prefer to look away.
Lately, however, this reluctance has collided with the inescapable reality that, with all the advanced economies growing so slowly, maintaining or increasing monetary stimulus through QE is necessary. At the same time, central banks know that doing QE while promising to keep inflation very low is partly self-defeating.
New Framework
Which brings us to the important question: As part of a new monetary-policy framework, can central banks openly aim for a therapeutic spell of higher-than-target inflation while containing the danger that the treatment would go too far?
The answer’s unclear, and the central banks’ unwillingness to confront the issue squarely isn’t helping the discussion. Our view is that a new target, tied to nominal incomes or to the level of future prices rather than the rate of inflation, could serve this purpose. (For a more thorough examination of this idea, see this accompanying essay.)
There are good reasons to fear inflation. But no one should be so afraid that the subject can’t even be discussed.
BURNanke was clearly hoping for a good excuse to double QE so he could one up ABE - jobs number certainly was as good as any…too bad QE is dead, unmarketable and finished. Ben has to deal with insolvent US banks and bank runs…Funny, I thought BAC as in such good health that they were authorzed to buy their own shares back and pay dividends…YEAH RIGHT BEN!
Japanese Bonds are reflecting the enormous divergence between the buying of everything and anything that BOJ today…Nikkei closed up 6.8% however, this is not the corollary for where the index should be given the expenditure of energy and pure destructive power from the BOJ…It should be much much higher given the massive buying BOJ have been doing - not just a 1.128 extention. The insanity of central bankers just does not stop…Paul Krugman seems to be about to get a taste of the results his rediculous theories…as Tokyo Stock Exchange halts JGB futures trade twice after drop!!!
Are BURNanke and GreenSPIN watching?...as JGB’s trade like CL futures…Months of EASING up in smoke in a few hours! Sell off supposedly triggered by one large bank…perhaps that bank is in trouble, BOJ is in trouble if it can't fix it NOW...if margin calls are triggering this then there is a possible cascade more to come…banks with these positions in carry trades will be feeling big time pain unless BOJ gets it back under control.
“If what they’re doing gets something started, they may not be able to stop it” - Soros
“Big question is whether BOJ will be able to smoothly exit from this policy program w/o destabilizing JGB market & financial system” - BNP
TOKYO, April 5 | Fri Apr 5, 2013 12:47am EDT(Reuters) - Yields on benchmark 10-year Japanese government bonds rebounded sharply from record lows on Friday as investors locked in gains a day after the Bank of Japan unveiled sweeping monetary stimulus to revive the economy.
The 10-year yield climbed 18 basis points to 0.615 percent in the afternoon session after dropping as much as 12 basis points in the morning to a record low of 0.315 percent.
Ten-year JGB futures dropped 2.49 points to 143.55 on the day to a near two-month low. They hit a record high of 146.41 in morning trade.
I want to make it clear that this is an automated signal and the criteria allows for some variability, however, as you can see on the above chart has only triggered now 4 times in 7 years…I believe the VIX was essentially flat today and the dollar ended the day flat…but we got another trigger here…because everything was relatively strong against other securities it would usually be relatively weak against.
To look at bond, though this has already been posted…here is a very important chart…thing DO look like they are about to get very interesting…especially when and if that bull flag breaks to the upside for the 30 year...
McDonald’s burger flipping and order clerking…that’s just great!
Youth unemployment is at 11.5 per cent, giving McDonald's the leverage of demanding Bachelors degrees for register/order clerks. Next its Masters for Supervisors and Doctorates and MBA’s for store managers...
This post is probably going to end up pulling a bunch of pieces together and I will likely be adding to it over the next few days - as there are a lot of components to pull together.
Run for cover…or cover for the run?
I think the answer to that question depends on the actor…If you are a normal person I would say “RUN FOR COVER” if you are the FED or the ECB, I would say “Cover for the run”…and that appears to be exactly what they are doing…I find it truly disconcerting and troubling that on the day the news flow from North Korea ramps up, the FED is quietly talking about winding down QE towards the end of the year and suggesting to do it in $10 billion increments. I am quite aware that the FED is now preoccupied with the covert bank run that is currently threatening the financial system. Certainly, it would be highly convenient to look for anything that could be used for cover and potentially distract people from the on-going cataclysm that is bellowing.
Technicals & Sentiment:
Bears and Bulls:
The state of the markets is perpelxing. We have weekly and monthly charts with little or no divergence. We have bears and bulls alike suggesting the market will only pullback and then rush to new highs…none of them have any real basis for this other than “a central banker will buy”. We have 16 year old stock pickers blabbering about in the media. We have David Tepper suggesting that a totally bankrupt “America IS on the verge of greatness”. We have a country where the top 500 companies in the S&P have less than $40 billion in cash because they are so addicted to BURNanke’s drugs that they simply must borrow so they can buy their own stock and render management stock options in the money.
I beg to differ.
Japan with public debt estimated to reach 245% of GDP, seems to allowing Shinzo Abe's government to just attempt to inflate this debt away…interesting to see how that idea goes.
Bonds:
US Treasury bonds continue to highs and seem ready for a larger move...
Commodities:
We have consumable commodities that have been weak to absolutely crashing for quite a while now. From corn to lumber to wheat to copper to soybeans its just weak, weak and weaker for quite some time. This diverges significantly from the arbitraty behavior of people who seem to think of equities as the new BitCoin and safer than a bank store of purchasing power.
Precious Metals:
Gold and Silver have been in huge downtrends for a long time now. Since GLD became the biggest ETF of them all GLD has done nothing but retrace…now EVERYONE sees the triangle seeting up and is betting that instability and banking problems will drive Gold and Silver to new highs. They would be wrong, in my opinon. When SPY became the biggest ETF ever and of them all that was in the year 2000…after that event SPY has spent the last 13 years doing nothing and had some gargantuan declines in the process. Moreover there are other factors that suggest that the declines in Gold and Silver are just barely started and that this non rally state for them will go on for many years.
Fundamentally, Gold and Silver do not function as money because they are NOT transactional. They rather function as collateral. Collateral most often held by institutions and banks. If you happen to be in the midst of a demand for deposits (bank run) the most easily liquidated collateral on your balance sheet will be liquidated first. The reason that Gold and Silver have been in long drawn out downtrends it that they were so overly hyped (again due to our sanitation services skilled BURNanke) and EVERYONE got in…hence the GLD becoming the biggest ETF of all EVER.
There are other considerations regarding gold and silver aswell that could limit the next few years potential if the bank runs were to promulgate, in my opinion. One of the biggest ones is the need for people who have withdrawn money from the banking system and in their distrust turned to other stores of value (Stocks, Bonds and Precious Metals) only to find consistent liquidation suppressing prices and buying power, will reach a point where they too could need to liquidate their precious metals to pay bills, buy clothes and pay for life’s necessities. This would no doubt continue the cycle of pressure on precious metals. Though all this sounds like “How could it happen” all that is required is an imploding banking system and distrust of institutions to create the exact opposite effect as expected for Gold and Silver. Until Gold and Silver become transactional there is no real alternative…people will need to convert them into something else in order to use them.
FreeMarket Currencies...BitCoin:
I think BitCoin is NOT a bubble in thevery BIG picture and can see it going up 10x from here over and extended time and as it matures on its sure to be volatile path…there are many reasons, which I will get into as I ammend this post and add charts. But as it seems for just about any investment these days, you will need seatbelts and airbags. People need free market money and they need transactable money…BitCoin is just one of the type of free market money that will be developed. It will be very volatile, but it will be a free market. I think people will end up chosing free market over government manipulated. I also, think that we will most definately need to see competing free market money…which will ultimately include sovereign currencies. I also think that the FED will be so busy dealing with trying to prop up their antiquated debt money system that they will not effectively be able to suppress people from allocating their buying power in ways they feel enable them to function.
As indicated, please keep coming back to this post as I will be updating and adding to it for a few days.
This is a great interview with Charles Hugh Smith…
I do not agree with the idea’s of hyper inflation being a real risk and I don’t think that central banks will be successful in monetary inflation. I do not think that the FED has the political cover or support to increase its balancesheet by 10x. The ECB is making painfully obvious what happens when you run out of options that you can sell or obfuscate. Look at what is happening in the markets, Gold and Silver, which are defacto reserves for money used by banks and central banks alike, they are dropping like rocks? Why? DEFLATION.
How could we be getting deflation of Gold and Silver? Well, its because there are bank runs going on all over the world right now and banks are selling gold and silver reserves out of dire need. It is known that central banks and banks like precious metals to be cheap, thereofre, the central banks have aimed to get inflationary assets up…during bank runs, one would think people would normally run to Gold and Silver…however, they are clearly opting for different forms of buying power because of the liquidation of Gold and Silver to cover bank obligations…People, therefore, are turning to stocks, real-estate and instruments such as the dollar and bitcoin. At this point, any assets that must rely on Bank functionality are dead in the water - so stocks and real estate are at VERY VERY high risk as these "banks runs" progress and people chase transactional and storable purchasing power. FYI they are already happening in the US…we just can’t see them in the news yet.
Regardless, of my hugely different views about what the central banks are capable of selling the public or politicians and doing, this interview has a ton of great content and is worth serious attention:
Lets face it, Cyprus can not happen here. BURNanke himself eliminated that concern with his obfuscation regarding 2008 and the FDIC in his last Tea and Cookies with Steve LIESman event two weeks ago. But lets just do some very simple analysis to try to get a picture of who knows what and what knows whom…
As part of its examination, the Fed is looking at institutions’ own stress-testing to see why they came up with different results. Officials projected a $32.3bn loss at JPMorgan in the hypothetical scenario compared with the bank’s own projection of a loss of just $200m.
Lets just face it, if one person says something is worth 10 cents and another says its worth $1.5 million there clearly is something suspect.
Opinion 1: Now if we put in perspective the particular intelligence that thinks JPM could lose $32.3 billion of its $250 billionish in reserve capital happens to be one that missed the housing bubble, does not understand just how badly they have destroyed the economy and markets with QE and has gotten nearly every financial projection wrong for the last 20 years…that could be interesting. Now, this particular intelligence is usually underestimating anything that it does not like and over estimating anything that its fond of…and they think JPM can lose $32.3 billion?
Logic would have it that a second opinion might be necessary, therefore, we turn to the intelligence with the greatest knowledge of derivatives, modelling and financial engineering that there is.
Opinion 2: They project a maximum loss of $200 million of reserve capital. HMMMMM. Might this particular organization be doing an optimistic self assessment? If you guessed “Yes” you would be correct. They are…but their models for VAR varied by 10’s of billions in losses versus imaginary profits and when implemented the head of CIO failed to do a simple regression analysis to see how the new modelling looked as per the last 10 years of historical trading that they had actually done…they did not even look back 1 year. This company estimated losses at 1 billion, then 2 billion then 3 billion then waited and suggested they would double again in the London Whale saga... yet this company thinks they will only lose $200 million in the self assessment of their stress readiness.
THIS IS NOT GOOD.
The opinions above are lousy and both done by self interested parties, the FED for opinion 1 and JPM for opinion 2. If the Fed thinks JPM could lose $32 billion we should increase that estimate to at least $120 billion. This, however, would decimate the reserves that JPM needs to support the demand deposits by its customers…of which there are 2.7 trillion.
So, clearly they would not have sufficient funds to handle withdrawals, moreover, there is no way they have sufficient funds NOW in my view. Right now, if every customer at JPM were to demand their deposit, they might get 12 cents on the dollar based on their simple reserves to deposits…however, given the above demonstration of inability, we need to take into account all the rotten assets, bad assumptions, bad calculations, bad models and bad securities that they hold but do not reflect. Additionally, we need to take into account the $79 trillion of derivatives that JPM would need to unwind. The process of unwinding those securities would likely ellicit losses in the trillions from spread alone - which would, therefore, award its valued customers with ZERO cents on the dollar above the FDIC guarantee…which would likely be paid out over many years.
Cyprus is here already. It is in the US. Ben BURNanke does not even attempt to deny this but rather to obfuscate…and its living in the biggest and supposedly “Too Big To Fail-est” institutions which clearly have very troubling analysis and mathematics deficiencies. The question is simply “When?”
More importanbtly, however, where’s the "best modelling award" panel…they should be generously offering awards to all these institutions any minute now.
The Asian crisis was triggered by a little country called “Thailand” which, according to the World Bank, had a GDP at the time that was less than Iran, Peru, Tunisia, and Fiji. In ’97 Cyprus’ GDP was nearly eight times the size of Thailand. The impulse is to disard Cyprus as to small and too insignifcant…reminder: Black Swans start small when people fail to, prepare, notice or demonstrate proper concern. Award time...
The Federal Reserve releases data on the assets and liabilities of commercial banks every Friday. The most current figures, covering the first full week of 2013, show the largest one-week withdrawals since the Sept. 11, 2001, attacks. Even when seasonally adjusted, the level drops to $52.8 billion—still the third-highest amount on record, and one for which bank experts and analysts were reluctant to give a definitive explanation.
Hint…this is NOT april fools… How much cash was withdrawn after seeing the JPM Whale spectacle last month or Cyprus? If people have continued to withdraw at an accelerated rate for the other 12 weeks this year...Jamie DEMON, Lloyd BlankFIEND and BEN are going to have some difficulty with their portfolio’s...
Of course the Federal Reserve does not want to talk about this…this is called a cash shortage and loss of confidence in "Three Card Monte" qualifying as banking, QE qualifying as capitalism/employment enhancement and a "sanitation services" guy with a degree running the charade…
I wonder just how much money was withdrawn, also likely for "some unknown reason" from Banco Santander, Unicredit, Society General, Dexia or “Three Card Monte" de Peschi in Italy…I am guessing we will find out soon…Apparently, depositors don’t really like leverage hungry derivatives junkies with a regulator who will not think twice about running roughshod over them…these institutions might need to start coming up with some redundancy plans soon…
Here is a list of the top 50 banks that need to be watched…and closely:
That’s all that’s left of what our financial system is based on. Over belief in central bankers to overcome everything and anything. This is most definitely NOT the case, as evidenced by the ECB and the FED’s failure in Europe.
Situation Normal all F**ed Up…
Cyprus was a slow motion train wreck facilitated by the FED and ECB encouragement for EURO banks and institutions to take advantage of central bank liquidity and to take risk buying very risky bonds. Withdrawals from Cyprus banks hit critical mass and the ECB, given a litany of new and larger calamities that are coming up fast, decided it could no longer support its own charade, whereby lots and lots of economies pretend to be solvent because ECB says they are and find out they are not when ECB says that they are not.
During this time, it seems pretty clear that just about any asset other than a European bank deposit is a better risk - given that you can easily lose 70 to 90% in a bank. This apparently has had the effect of levitating the US equity markets despite significant declines in most every commodity market. It also, supported the dollar which is certainly counter the equity rally in the US. However, what is happening now is the collapse of other much large banks than the Cyprus institutions…the grace period offered by the symbolism of the Cyprus adventure will not be afforded for a bank in the top 100 as per assets. This is what is happening in Italy right now and when the bank run starts there in earnest, which seems imminent, there will not be sufficient sovereign capital to back up the bank and there will be a very real risk of a cascade of bank insolvencies and sovereign defaults. This will not result in the outcome of people being afforded the luxury of picking up bonds and other assets in the US (the least of the dirty shirts) or time to make adjustments. Instead, it will result in assets being liquidated here and everywhere with great gravitas as the over leverage, over belief and over optimism explodes into the one thing people are forgetting - over risk. Freefallin, Freefallin should not be confused with buying as its dip’in. Believe it or not…
When you find out that your financial institution has no money, it will not happen in such a way that you have time to go calmly to the bank and request a withdrawal…it will happen on a holiday weekend, when you have no real alternatives and insufficient time to get in front of it…the Fed and ECB have setup all the elements required to accomplish the same as this but in a far bigger fashion and there will not likely be time for all the margined up investors and buy the dippers to make the smooth transition they may be imagining.
Deutsche Bank's Joe LaVorgna thinks GDP may have grown by as much as 4 percent in Q1. - April Fools - but its really true, he believes that.
BURNanke is looking a new job that he’s qulaified for…sanitation engineering possibly? But that’s true too…damned shame I can’t come up with some good April Fool’s - so here’s some pictures of one:
The Dow Jones and Standard & Poor’s 500 indexes reached record highs on Thursday, having completely erased the losses since the stock market’s last peak, in 2007. But instead of cheering, we should be very afraid.
Over the last 13 years, the stock market has twice crashed and touched off a recession: American households lost $5 trillion in the 2000 dot-com bust and more than $7 trillion in the 2007 housing crash. Sooner or later — within a few years, I predict — this latest Wall Street bubble, inflated by an egregious flood of phony money from the Federal Reserve rather than real economic gains, will explode, too.
Since the S.&P. 500 first reached its current level, in March 2000, the mad money printers at the Federal Reserve have expanded their balance sheet sixfold (to $3.2 trillion from $500 billion). Yet during that stretch, economic output has grown by an average of 1.7 percent a year (the slowest since the Civil War); real business investment has crawled forward at only 0.8 percent per year; and the payroll job count has crept up at a negligible 0.1 percent annually. Real median family income growth has dropped 8 percent, and the number of full-time middle class jobs, 6 percent. The real net worth of the “bottom” 90 percent has dropped by one-fourth. The number of food stamp and disability aid recipients has more than doubled, to 59 million, about one in five Americans.
So the Main Street economy is failing while Washington is piling a soaring debt burden on our descendants, unable to rein in either the warfare state or the welfare state or raise the taxes needed to pay the nation’s bills. By default, the Fed has resorted to a radical, uncharted spree of money printing. But the flood of liquidity, instead of spurring banks to lend and corporations to spend, has stayed trapped in the canyons of Wall Street, where it is inflating yet another unsustainable bubble.
When it bursts, there will be no new round of bailouts like the ones the banks got in 2008. Instead, America will descend into an era of zero-sum austerity and virulent political conflict, extinguishing even today’s feeble remnants of economic growth.
THIS dyspeptic prospect results from the fact that we are now state-wrecked. With only brief interruptions, we’ve had eight decades of increasingly frenetic fiscal and monetary policy activism intended to counter the cyclical bumps and grinds of the free market and its purported tendency to underproduce jobs and economic output. The toll has been heavy.
As the federal government and its central-bank sidekick, the Fed, have groped for one goal after another — smoothing out the business cycle, minimizing inflation and unemployment at the same time, rolling out a giant social insurance blanket, promoting homeownership, subsidizing medical care, propping up old industries (agriculture, automobiles) and fostering new ones (“clean” energy, biotechnology) and, above all, bailing out Wall Street — they have now succumbed to overload, overreach and outside capture by powerful interests. The modern Keynesian state is broke, paralyzed and mired in empty ritual incantations about stimulating “demand,” even as it fosters a mutant crony capitalism that periodically lavishes the top 1 percent with speculative windfalls.
The culprits are bipartisan, though you’d never guess that from the blather that passes for political discourse these days. The state-wreck originated in 1933, when Franklin D. Roosevelt opted for fiat money (currency not fundamentally backed by gold), economic nationalism and capitalist cartels in agriculture and industry.
Under the exigencies of World War II (which did far more to end the Depression than the New Deal did), the state got hugely bloated, but remarkably, the bloat was put into brief remission during a midcentury golden era of sound money and fiscal rectitude with Dwight D. Eisenhower in the White House and William McChesney Martin Jr. at the Fed.
Then came Lyndon B. Johnson’s “guns and butter” excesses, which were intensified over one perfidious weekend at Camp David, Md., in 1971, when Richard M. Nixon essentially defaulted on the nation’s debt obligations by finally ending the convertibility of gold to the dollar. That one act — arguably a sin graver than Watergate — meant the end of national financial discipline and the start of a four-decade spree during which we have lived high on the hog, running a cumulative $8 trillion current-account deficit. In effect, America underwent an internal leveraged buyout, raising our ratio of total debt (public and private) to economic output to about 3.6 from its historic level of about 1.6. Hence the $30 trillion in excess debt (more than half the total debt, $56 trillion) that hangs over the American economy today.
This explosion of borrowing was the stepchild of the floating-money contraption deposited in the Nixon White House by Milton Friedman, the supposed hero of free-market economics who in fact sowed the seed for a never-ending expansion of the money supply. The Fed, which celebrates its centenary this year, fueled a roaring inflation in goods and commodities during the 1970s that was brought under control only by the iron resolve of Paul A. Volcker, its chairman from 1979 to 1987.
Under his successor, the lapsed hero Alan Greenspan, the Fed dropped Friedman’s penurious rules for monetary expansion, keeping interest rates too low for too long and flooding Wall Street with freshly minted cash. What became known as the “Greenspan put” — the implicit assumption that the Fed would step in if asset prices dropped, as they did after the 1987 stock-market crash — was reinforced by the Fed’s unforgivable 1998 bailout of the hedge fund Long-Term Capital Management.
That Mr. Greenspan’s loose monetary policies didn’t set off inflation was only because domestic prices for goods and labor were crushed by the huge flow of imports from the factories of Asia. By offshoring America’s tradable-goods sector, the Fed kept the Consumer Price Index contained, but also permitted the excess liquidity to foster a roaring inflation in financial assets. Mr. Greenspan’s pandering incited the greatest equity boom in history, with the stock market rising fivefold between the 1987 crash and the 2000 dot-com bust.
Soon Americans stopped saving and consumed everything they earned and all they could borrow. The Asians, burned by their own 1997 financial crisis, were happy to oblige us. They — China and Japan above all — accumulated huge dollar reserves, transforming their central banks into a string of monetary roach motels where sovereign debt goes in but never comes out. We’ve been living on borrowed time — and spending Asians’ borrowed dimes.
This dynamic reinforced the Reaganite shibboleth that “deficits don’t matter” and the fact that nearly $5 trillion of the nation’s $12 trillion in “publicly held” debt is actually sequestered in the vaults of central banks. The destruction of fiscal rectitude under Ronald Reagan — one reason I resigned as his budget chief in 1985 — was the greatest of his many dramatic acts. It created a template for the Republicans’ utter abandonment of the balanced-budget policies of Calvin Coolidge and allowed George W. Bush to dive into the deep end, bankrupting the nation through two misbegotten and unfinanced wars, a giant expansion of Medicare and a tax-cutting spree for the wealthy that turned K Street lobbyists into the de facto office of national tax policy. In effect, the G.O.P. embraced Keynesianism — for the wealthy.
The explosion of the housing market, abetted by phony credit ratings, securitization shenanigans and willful malpractice by mortgage lenders, originators and brokers, has been well documented. Less known is the balance-sheet explosion among the top 10 Wall Street banks during the eight years ending in 2008. Though their tiny sliver of equity capital hardly grew, their dependence on unstable “hot money” soared as the regulatory harness the Glass-Steagall Act had wisely imposed during the Depression was totally dismantled.
Within weeks of the Lehman Brothers bankruptcy in September 2008, Washington, with Wall Street’s gun to its head, propped up the remnants of this financial mess in a panic-stricken melee of bailouts and money-printing that is the single most shameful chapter in American financial history.
There was never a remote threat of a Great Depression 2.0 or of a financial nuclear winter, contrary to the dire warnings of Ben S. Bernanke, the Fed chairman since 2006. The Great Fear — manifested by the stock market plunge when the House voted down the TARP bailout before caving and passing it — was purely another Wall Street concoction. Had President Bush and his Goldman Sachs adviser (a k a Treasury Secretary) Henry M. Paulson Jr. stood firm, the crisis would have burned out on its own and meted out to speculators the losses they so richly deserved. The Main Street banking system was never in serious jeopardy, ATMs were not going dark and the money market industry was not imploding.
Instead, the White House, Congress and the Fed, under Mr. Bush and then President Obama, made a series of desperate, reckless maneuvers that were not only unnecessary but ruinous. The auto bailouts, for example, simply shifted jobs around — particularly to the aging, electorally vital Rust Belt — rather than saving them. The “green energy” component of Mr. Obama’s stimulus was mainly a nearly $1 billion giveaway to crony capitalists, like the venture capitalist John Doerr and the self-proclaimed outer-space visionary Elon Musk, to make new toys for the affluent.
Less than 5 percent of the $800 billion Obama stimulus went to the truly needy for food stamps, earned-income tax credits and other forms of poverty relief. The preponderant share ended up in money dumps to state and local governments, pork-barrel infrastructure projects, business tax loopholes and indiscriminate middle-class tax cuts. The Democratic Keynesians, as intellectually bankrupt as their Republican counterparts (though less hypocritical), had no solution beyond handing out borrowed money to consumers, hoping they would buy a lawn mower, a flat-screen TV or, at least, dinner at Red Lobster.
But even Mr. Obama’s hopelessly glib policies could not match the audacity of the Fed, which dropped interest rates to zero and then digitally printed new money at the astounding rate of $600 million per hour. Fast-money speculators have been “purchasing” giant piles of Treasury debt and mortgage-backed securities, almost entirely by using short-term overnight money borrowed at essentially zero cost, thanks to the Fed. Uncle Ben has lined their pockets.
If and when the Fed — which now promises to get unemployment below 6.5 percent as long as inflation doesn’t exceed 2.5 percent — even hints at shrinking its balance sheet, it will elicit a tidal wave of sell orders, because even a modest drop in bond prices would destroy the arbitrageurs’ profits. Notwithstanding Mr. Bernanke’s assurances about eventually, gradually making a smooth exit, the Fed is domiciled in a monetary prison of its own making.
While the Fed fiddles, Congress burns. Self-titled fiscal hawks like Paul D. Ryan, the chairman of the House Budget Committee, are terrified of telling the truth: that the 10-year deficit is actually $15 trillion to $20 trillion, far larger than the Congressional Budget Office’s estimate of $7 trillion. Its latest forecast, which imagines 16.4 million new jobs in the next decade, compared with only 2.5 million in the last 10 years, is only one of the more extreme examples of Washington’s delusions.
Even a supposedly “bold” measure — linking the cost-of-living adjustment for Social Security payments to a different kind of inflation index — would save just $200 billion over a decade, amounting to hardly 1 percent of the problem. Mr. Ryan’s latest budget shamelessly gives Social Security and Medicare a 10-year pass, notwithstanding that a fair portion of their nearly $19 trillion cost over that decade would go to the affluent elderly. At the same time, his proposal for draconian 30 percent cuts over a decade on the $7 trillion safety net — Medicaid, food stamps and the earned-income tax credit — is another front in the G.O.P.’s war against the 99 percent.
Without any changes, over the next decade or so, the gross federal debt, now nearly $17 trillion, will hurtle toward $30 trillion and soar to 150 percent of gross domestic product from around 105 percent today. Since our constitutional stasis rules out any prospect of a “grand bargain,” the nation’s fiscal collapse will play out incrementally, like a Greek/Cypriot tragedy, in carefully choreographed crises over debt ceilings, continuing resolutions and temporary budgetary patches.
The future is bleak. The greatest construction boom in recorded history — China’s money dump on infrastructure over the last 15 years — is slowing. Brazil, India, Russia, Turkey, South Africa and all the other growing middle-income nations cannot make up for the shortfall in demand. The American machinery of monetary and fiscal stimulus has reached its limits. Japan is sinking into old-age bankruptcy and Europe into welfare-state senescence. The new rulers enthroned in Beijing last year know that after two decades of wild lending, speculation and building, even they will face a day of reckoning, too.
THE state-wreck ahead is a far cry from the “Great Moderation” proclaimed in 2004 by Mr. Bernanke, who predicted that prosperity would be everlasting because the Fed had tamed the business cycle and, as late as March 2007, testified that the impact of the subprime meltdown “seems likely to be contained.” Instead of moderation, what’s at hand is a Great Deformation, arising from a rogue central bank that has abetted the Wall Street casino, crucified savers on a cross of zero interest rates and fueled a global commodity bubble that erodes Main Street living standards through rising food and energy prices — a form of inflation that the Fed fecklessly disregards in calculating inflation.
These policies have brought America to an end-stage metastasis. The way out would be so radical it can’t happen. It would necessitate a sweeping divorce of the state and the market economy. It would require a renunciation of crony capitalism and its first cousin: Keynesian economics in all its forms. The state would need to get out of the business of imperial hubris, economic uplift and social insurance and shift its focus to managing and financing an effective, affordable, means-tested safety net.
All this would require drastic deflation of the realm of politics and the abolition of incumbency itself, because the machinery of the state and the machinery of re-election have become conterminous. Prying them apart would entail sweeping constitutional surgery: amendments to give the president and members of Congress a single six-year term, with no re-election; providing 100 percent public financing for candidates; strictly limiting the duration of campaigns (say, to eight weeks); and prohibiting, for life, lobbying by anyone who has been on a legislative or executive payroll. It would also require overturning Citizens United and mandating that Congress pass a balanced budget, or face an automatic sequester of spending.
It would also require purging the corrosive financialization that has turned the economy into a giant casino since the 1970s. This would mean putting the great Wall Street banks out in the cold to compete as at-risk free enterprises, without access to cheap Fed loans or deposit insurance. Banks would be able to take deposits and make commercial loans, but be banned from trading, underwriting and money management in all its forms.
It would require, finally, benching the Fed’s central planners, and restoring the central bank’s original mission: to provide liquidity in times of crisis but never to buy government debt or try to micromanage the economy. Getting the Fed out of the financial markets is the only way to put free markets and genuine wealth creation back into capitalism.
That, of course, will never happen because there are trillions of dollars of assets, from Shanghai skyscrapers to Fortune 1000 stocks to the latest housing market “recovery,” artificially propped up by the Fed’s interest-rate repression. The United States is broke — fiscally, morally, intellectually — and the Fed has incited a global currency war (Japan just signed up, the Brazilians and Chinese are angry, and the German-dominated euro zone is crumbling) that will soon overwhelm it. When the latest bubble pops, there will be nothing to stop the collapse. If this sounds like advice to get out of the markets and hide out in cash, it is.
David A. Stockman is a former Republican congressman from Michigan, President Ronald Reagan’s budget director from 1981 to 1985 and theauthor, most recently, of “The Great Deformation: The Corruption of Capitalism in America.”
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