Cartoon(s) of the Week:
Quote of the Week:
“Interest rates are to asset values what gravity is too apples.”
Warren Buffett
Today is an important day for those in finance. It is also a very important day for you.
Do you want in on a secret?
Ready?
Today is a very important day for your pocketbook even if you don’t know it yet.
It is Jackson Hole day. The day the Federal Reserve Governors meet in the Grand Tetons, in the middle of heaven on earth, to preach and distribute their “wisdom” to the world.
Who cares what these old geezers have to say, you might think.
Au contraire mon frère my friends. When you are the puppet, you always want to know and understand what the Puppeteer is doing.
The Puppeteers of your Money
The big elephant in the room today in Jackson Hole Wyoming is inflation and how the federal reserve, and other central banks around the world, really whiffed on their job.
The Federal Reserve, as we talked about HERE, has what we call a dual mandate.
This means they have two jobs and only two jobs. To help bring our economy to full employment and to control prices (IE: minimal inflation).
As we all know and have felt, inflation is at a 40-year high.
At the same time, the employment market is the best it has been in 50 years.
So if we know they have only two jobs, and one of those is the best it has been and the other is the worst it has been in half a century, which one do you think they will focus on?
That is right. Inflation. The Fed is going to do everything in its power to get inflation lower as fast as possible. And that means trouble for you and your perceived “net worth”.
The Wealth Effect
In the past, when we had data points like we see today on the economy, 12 members of the Federal Reserve would get excited. They would outline a path they can do to prevent our economy from getting off its tracks.
Usually, this involves cutting interest rates and/or buying assets in the market.
By cutting interest rates, they make money cheaper for you.
By buying assets in the market, they force you to take more risks. When no one can get a CD or money market yielding above zero at a bank, you are forced to make a decision. A decision to buy something else. Usually a riskier asset. Usually stocks or real estate. And when everyone buys the same stuff, the prices of that stuff move higher. This makes you feel richer and gives you the illusion you can go out and buy more. This is called the “positive wealth effect”.
75% of our economic growth today is you buying crap. And to make you buy more crap, the puppeteers generate the “positive wealth effect.”
Today is different. Economic indicators are moving lower. The markets have turned or are turning lower, making you feel stressed. The price of goods has been going higher. The wealth effect is in reverse.
But because of inflation, the Federal Reserve is stuck, not able to do what they have done for over 30 years, which is to kick in the positive wealth effect loop.
As a result, we are in a very scary situation at the moment.
In the graph below, you can see a chart of 21-country leading indicators from around the world (green line). Up is good, down is bad. We are cratering at the moment.
The line has not been this low since the COVID shutdown, and before that, since the Great Financial Crisis of 2008.
But now look at the blue line. It is still rising at record levels. The blue line is central banks policies. Basically, when it goes up, it’s a negative wealth effect loop. When it goes down, it’s a positive wealth effect loop. Notice the last two times the green line was down like this. Look at the blue line. It was moving down as well. But this time is different.
We are pushing a negative wealth effect on you right at the same time economic growth leading indicators are showing the worst of the downturn may still be ahead.
This is bad.
Economic growth is cratering. Inflation is still persistently high. And the odds of the Fed doing too much to fight inflation, in the face of economic stress dramatically increases the risk of a big major negative event happening.
“When rates go up, things blow up.” - Old Wall Street Saying
Banks, Debt, and Bubbles
The Boomer Generation has an addiction
When they became adults in the late 1970s and early 1980s, we were a country in transition. The Woodstock generation was taking over for what we call the silent generation or as Dan Rather said the “Greatest Generation”.
The Greatest Generation was not so great to their kids. They were stuffy. Too stuck in tradition and did not understand the new world we lived in. The greatest generation believed in a government for the people, by the people. The boomers had their doubts.
As a result, like most generations, they rebelled.
After the disastrous decade of the 1970s, which started with kids coming home in body bags each day from Vietnam and ended with record high inflation and an economic recession, the second in less than 10 years, change was needed.
To fight this, new economic viewpoints were put into place. First was the supply-side economic plan by Ronald Regan. The “trickle down effect.”
Regan made the biggest tax cut in history. He cut the top tax bracket from 70% down to 50%. This generated economic growth on the back of a wall of debt.
The boomer generation quickly fell in love with deficits, all in the name of funding growth. Deficits are just when you spend more than you make.
The story went like this: Let’s generate a good time today, and push off paying the bill till tomorrow. If we can have a good enough time now, it will pay for itself tomorrow.
Today, this debt addition has us in the hole by almost $31 TRILLION dollars. That is $244,315 per tax-paying citizen.
In 1947 we held 70% of the world’s gold reserves. Gold was money during that time. We owned all the world’s wealth.
After going off the gold standard, and going into deficits each year, we measured things in debt to GDP.
We went from debt to GDP in 1980 of 34% to today’s reading of 124%!!! ( a higher number is worse)
The only thing I think of when I write this is the fantastic scene in the movie “The Gambler.”
WARNING: GRAPHIC LANGUAGE!!!!!
WARNING: THE CLIP BELOW HAS GRAPHIC LANGUAGE!!!
While the federal government side has really run up the debt, the central bank side has tried to catch up over the last 10 years.
After Volcker tamed inflation and became a hero, he retired on August 11, 1987. His successor, Alan Greenspan, took over.
Within two months, on October 19, 1987, the stock market crashed. Like nothing we have ever seen before. It was down 22% in one day!!!
Investors panicked. The world panicked. Everyone was looking for answers.
The next day the Federal Chairman spoke, just 2-months on the job, and said the following:
“The Federal Reserve, consistent with its responsibilities as the Nation's central bank, affirmed today its readiness to serve as a source of liquidity to support the economic and financial system”
From this one phrase, a new era was born. An era of liquidity, money, and the ever-increasing power of the central bank.
Back to Today
We have a secular growth problem today. This means it has been very difficult for us to grow.
This is not a new problem. It’s one we have seen since the mid-1980s.
Nothing shows this trend more than the graph below.
The yellow faint line moving up and to the right is our debt. The white line and green lines are our GDP per level of debt.
This graph shows that for us to grow, we have to throw more and more debt at the problem.
As Lakshman Achthan, the co-founder of ECRI stated,
“It’s like the red queen effect. In Alice in the Looking Glass, they had to run twice as fast just to stay in the same place.”
After the financial crisis, the federal reserve joined the debt party.
Not only did they push interest rates to 0% but they started to buy bonds and mortgages in the market to push those rates lower, forcing you to buy riskier assets.
Between 2008 and today, they have added almost $9 trillion to their balance sheet
This is in addition to about $16 trillion in deficits from the federal government during the same time.
This was all in the name of growth.
And what do we have to show for it?
Well, now we have 40-year high inflation.
We have asset bubbles popping everywhere.
From Crypto cratering...
To one of the worst 6-month performances for bonds and stocks in history.
The housing market is on the brink of wobbling over.
After a record rise in prices and affordability.
Things are turning down quickly.
This is because the puppeteers decided to rise rates, which pushed mortgage rates significantly higher.
Pushing housing sales lower.
And when we look at leading indicators, which usually foretell the future economic picture, it seems things may get worse before they get better.
So with all this potential negativity on the economic front, what is the puppeteer’s message to you?
That is right. These are “unfortunate” costs to fighting inflation. Inflation caused by them and your government. Inflation caused by their lack of understanding.
That cost is going to be your wealth. Your financial stress. and potentially, maybe your job.
And will most definitely affect those who can least afford it.
But this is the name of the game. The US has faced 48 recessions in its history. It has been only recently we look to debt to solve our recessionary problems.
Once we get to the place where inflation moves lower, probably on the back of a major credit event here or overseas, the Fed will change its tone and again push the use of debt to solve our issues.
People always ask why the Federal Reserve has so much power?
Well when you use debt to solve problems for 30 plus years, pushing the amount of outstanding debt to nosebleed levels, the puppeteers who control the price of debt get more and more power.
At least until the music stops...
Have a great Weekend!!!!
Meet your 2020 pupeteers....
The voting members of the FOMC in 2022 are Chair Jerome Powell and Vice Chair Richard Clarida alongside the remaining Board of Governors, these being Lael Brainard, Michelle Bowman, and Christopher Waller.