I share the views of the world of:
Richard Koo, Paul Krugman, Mark Thoma, etc., w.r.t.:
the unique, persistent nature of balance sheet recessions, as distinct from normal cyclical recessions; the need for more government intervention to get unemployment down; the liquidity trap, which causes normal transmission channels of monetary easing, which normally induce housing-led recoveries, to be no better than pushing on a string; and, therefore, the primacy of fiscal policy to fill the gap in aggregate demand in order to achieve the objectives of reducing unemployment and increasing inflation; but, in the absence of sufficient fiscal policy, the necessity for further monetary policy easing, however non-traditional and (in-)effective that may be;
Irving Fisher, Steve Keen, Gary Shilling, Van Hoisington and Lacy Hunt, David Rosenberg, Felix Zulauf, Ray Dalio, Albert Edwards, etc., w.r.t.:
the huge excess of unsustainable debt growth built up over two decades, and the concomitant excessive spending, represented enormous pulling-forward of aggregate demand, which ultimately must be paid for with future savings from income and therefore lower future demand in the same scale as past excess consumption; that that process of debt accumulation appeared to be sustainable not due to income growth but due to the chimera of wealth enhancement due to elusive/temporary asset-price appreciation in the housing market; the credit expansion created excess claims to underlying real wealth; once the asset-price bubble burst, i.e. the Minksy moment, the resultant debt-deflation dynamics, including the paradox of thrift, deleveraging, declining money multipliers and monetary velocity, deflation of broadest measures of effective money supply, which, contrary to the views of many traditional economists, critically includes credit (which dwarves traditional measures of money supply, like M2) (i.e. deflation is a decrease in money and credit relative to available goods and services); and resultant disinflation of wage and price levels; in this deleveraging, disinflationary, low-growth environment, there's no evidence that the secular bull market in bonds has expired, as the phenomenon of lower yields for the last 25 years has been consistent with declining rates of nominal GDP growth, which persists --- i.e. yields have yet to see their lows
Kenneth Rogoff and Carmen Reinhart, et al, w.r.t.:
the costliness of economic recessions that are coupled with financial crises, both in terms of share of GDP and recovery time, particularly given the hits to the consumer due to the debt burden mentioned above and the housing recession; that recovery is extended until the debt overhang is absolved or resolved
Chris Whalen, Josh Rosner, Janet Tavakoli, William Black, John Hussman, etc., w.r.t:
the disastrous policy of rescuing the banks rather than rescuing the banking system, i.e. following the failed Japanese model rather than the successful Nordic model of responding to a financial crisis; that fundamentally nothing that caused the credit crisis has gone away or improved (and in fact have gotten worse when it comes to commercial real estate), only that the inherent problems on bank balance sheets have been glossed over or hidden from public view but remain there (e.g. all of the nation's banks jointly earned $22billion in Q2, thanks largely to reducing reserves against losses by $27billion compared to a year earlier), making the banks into zombie banks and effectively nationalizing the whole mortgage market, but without having done anything to help homeowners with mortgages, the root of the problem; and that without proper debt restructuring (haircuts, debt-for-equity swaps, etc.), the problem will persist and fester; the government's notion that re-capitalizing the banks would result in a multiplier effect (each dollar of capital injected into banks by the government would result in $8 of new lending to families!) proclaimed by Obama was either naive idiocy or duplicitous crony capitalism; that extend-and-pretend merely postpones the necessary adjustments and extends the adjustment period
Joseph Stiglitz, Paul Krugman, Simon Johnson, Paul Volcker, Robert Reich, Mervyn King, William Black, Dean Baker, etc etc etc, w.r.t:
the TBTF banks are not TBTF; until they are broken up and until the paper-ponzi-pushing egomaniac CEOs of those TBTFs lose their sway over policy via their lapdogs, policy-makers will stick with their failed strategies, to the detriment of the economy; the financial sector of the economy is a tax on the productive sectors of the economy
Meredith Whitney and Chris Whalen w.r.t:
the likelihood of states and municipalities defaulting on their debt
Gary Shilling w.r.t.:
the housing recession is not over; house prices remain too high based on price-to-income and price-to-rent metrics, and will fall further thanks to high vacancy rates, tight credit, nonexistent income growth, high unemployment, poor supply-demand dynamics, fraud-closure problems, shadow inventory; reduced housing construction has not yet compensated for too-long a period of over-building, etc.
Warren Mosler, Marshall Auerback and Randall Wray w.r.t.:
on the fiscal side, that, operationally, government spending is not constrained by revenues, there is no solvency problem for the federal government, or any government that issues its own currency; on the monetary side, that QE is not money printing, it is an asset swap (though the monetary base will increase, and, in this very limited sense QE could be construed as money printing, the monetary base does not constitute a full measure of money, which in aggregate will be unaffected); QE is thus not inflationary; it is functionally equivalent to the government issuing T-bills rather than long bonds; excess reserves do not get lent out; expansion of the monetary base is a
result of increased lending, not a
cause of increased lending; unintended consequences of monetary ease include that ZIRP reduces income for savers, and QE pulls yet more interest income out of the private sector of the economy, neither of which helps the situation; therefore, as per above, I disagree vehemently with the likes of Alan Meltzer who complain that the "enormous increase in bank reserves [caused by QE] will surely bring on severe inflation if allowed to remain" --- though I also disagree with the Fed's notion that it is the paying of interest on reserves that "breaks the link between the quantity of reserves and banks' willingness to lend"
Michael Pettis, w.r.t.:
China's huge trade surplus means that although it accounts for a significant
share of global growth, it does not actually
contribute significantly
to global growth; i.e. its trade surplus means that it absorbs much more demand than it supplies; in fact, China's policy of perpetuating both existing global imbalances and also internal imbalances will make the inevitable adjustment processes that much more difficult and painful; China has been able to maintain high rates of growth by mercantilist export-led growth strategies, which parasitically rely on consumption growth in OECD countries, thereby making the trading partners that China relies on that much weaker (i.e. by appropriating other countries’ demand), and also by continually investing in excess productive capacity (65% of GDP accounted for by fixed-asset investment), which is already well out of line with global demand (akin to the significant over-building in U.S. residential and non-residential construction); massive overinvestment and misallocation of capital seldom ends well; that China is fundamentally not all that dissimilar in nature to Japan circa-1980s (when Japan was considered a miraculous economic success story, and keiretsu were all the rage, as was Japanese innovation and work ethic and MITI-central planning, etc., and when its share of global GDP went from 7% in 1970 to 18% in 1990 --- but has subsequently fallen back to 8%); Chinese consumption growth has been far short of its GDP growth, such that consumption has fallen to just 36% of GDP in 2009, from an already low 46% in 2000, an unhealthily small share of GDP, and is reflective of household income growth, which, while robust by developed country standards, has trailed GDP growth; this internal imbalance will require a period of difficult re-balancing, which, though not necessarily imminent, is inevitable; the question is whether income and consumption growth can exceed GDP growth with that latter being sustained in the prevailing range of 8-10%, which would be inconsistent with historical precedents, or the rebalancing would require GDP growth to fall below household income and consumption growth
Jim Chanos, w.r.t.:
China = Dubai times 1000; China = Enron; China's lending bubble, real estate bubble, stock market bubble, aura bubble
Chanos, Dylan Grice and Peter Gibson, w.r.t.:
every single financial crisis in the last 150 years has been preceded by rampant credit growth; there is a Chinese financial crisis in the making
Marshall Auerback and Albert Edwards w.r.t.:
that beggar-thy-neighbour geopolitics has become the norm, and portend the a potential nasty trade war, particularly given domestic U.S. political considerations and also given China's consistent policy of always doing what's in its own best mercantilist interest; that "Chimerica" has been a chimera; the Fed's attempt to trash the dollar may be motivated by a desire to force the Chinese, who have no wish to revisit the inflation-induced social unrest of 1989, to revalue the yuan sooner rather than later if QE causes commodity and food-price inflation to get out of hand (its unlikely that the Chinese are unaware that food price inflation was a primary contributor to social unrest at the start of the Iranian, Russian and French Revolutions)
Ambrose Evans-Pritchard, w.r.t.:
Europe's "gamble of launching a premature and dysfunctional currency without a central treasury, or debt union, or economic government to back it up, and before the economies, legal systems, wage bargaining practices, productivity growth and interest rate sensitivity, of [the Teutonic] north and [Club Med] south Europe had come anywhere near sustainable convergence, may now backfire horribly" due to its one-size-fits-none arrangements; problems in Ireland and Greece and Portugal cannot be ring-fenced, because Spain will be next in line and it is big enough to bring the whole house of cards down
Dean Baker, Jeremy Grantham, etc., w.r.t.:
the precariousness of the housing market in Canada; that it is naive to believe that "conservative" Canadians could not have bid house prices up much too high just because subprime lending is not endemic here as it was in the U.S., or because mortgages are non non-recourse and mortgage interest payments are not tax-deductible; none of these things changes the fact that most people now own too much home, evidenced by price-to-income, price-to-rent and debt-to-income ratios well above historic norms
John Hussman, etc., w.r.t.:
the over-valued, over-bought, over-bullish stock market, which is discounting far better results than the economy can produce; that market participants were apparently making the assumption in early 2010 that the economy would return to normal as per typical post-war recoveries, implying that profits would return to 2007-"normal" and earnings growth would continue at 1990-2006 rates, allowing for aggressive valuation metrics; that their expectations were quite validly shaken by the Euro debt crisis in the spring and the economic evidence that this recovery would not follow the path of typical recoveries; that the recent bounce back is a sugar-high, under-pinned only by psychology and not fundamentals; and, given prevailing economic and market conditions, is susceptible to a steep drop with little warning
without reference, in my own view:
contrary to popular opinion, stocks do NOT generally earn 10% over the long-run; the historical average has been half that
Earnings growth is typically lower than nominal GDP growth; earnings are currently elevated relative to economic growth; analysts are extrapolating historically high profit margins indefinitely into the future
Modest nominal GDP growth prospects (IMHO) portend modest prospective earnings growth
Stock-holders do not ultimately get paid with “operating” earnings, they get paid with total (reported) earnings; the recent convention of focusing on operating earnings is a perversion of proper valuation analysis; furthermore, forward earnings estimates are unreliable indicators of even future operating earnings, much less reported earnings
Forward P/Es are therefore irrelevant; stocks always look cheap on forward P/E basis, and do nothing to forecast returns on a trailing P/E basis, stocks are moderately expensive (P/E of 16.5 vs long-term median of 14.3), but this assumes the last year’s earnings are representative, and it too has been a very unreliable indicator of future returns On a normalized P/E basis, stocks are 40% overvalued (P/E of 23.7 vs historical median of 16.9) Historically, when normalized P/E ratios were as rich as they are currently, 10-year forward price returns have been not much above zero, with significant volatility in the interim
Other thoughts:
the U.S. economy has received the biggest peacetime stimulus it has received in 75 years but it has resulted in nothing more than lacklustre growth; with final sales so weak, even without a further drop in the cyclical sectors of housing or consumer durables, even a modest dip in inventories could be sufficient to send the economy into a double dip; the usual catalysts for self-sustaining growth have been absent in this recovery; debt deleveraging, with no end in sight, has offset fiscal and monetary stimulus, the former of which does have an end in sight, and the latter of which is pushing on a string, while inventory-led growth, which surprised me by persisting in Q3, is nonetheless not sustainable;
C + I + G + X - M
absent income growth or credit growth, consumption growth will be absent;absent signs of demand growth, and with prevailing excess capacity, investment growth will be absent;the waning of fiscal stimulus by itself detracts from growth, and, with political gridlock, the prospect of further stimulus, with the exception of the likely extension of the Bush tax cuts, which are unlikely to have much impact on aggregate demand, is remote;net exports, particularly if the greenback's depreciation persists, is the one component of GDP that seemingly offers much prospect for growth, though to some degree will be provided by lacklustre import growth, which, though a mathematical contributor to growth, would be reflective of weak growth of the first three components (C, I and G); meanwhile, if the European situation worsens, not only will the weaken, but the impact on risk appetites generally would likely cause general US$ appreciation, and, in any case, there’s not much prospect of significant revaluation of the yuan, implying that the largest component of the U.S. trade deficit will be relatively immune to currency impacts
though both the ECRI WLI and Consumer Metrics Institute gauge are not as negative as they were two months ago, they both herald a double dip
ISM new orders minus inventories foreshadows a decline in ISM to well below 50
inflation expectations have historically been highly correlated with the ISM, so when the ISM falls to 45, that would be consistent with inflation expectations falling from 2% to 1%, which would be positive for bond prices
Ben B does not heed own advice -- says Fed does NOT seek inflation above 2%; didn’t he tell Japan to target high inflation in order to convince the public the BoJ really meant to reflate?
Ben Bernanke said to Milton Friedman "you're right, we did it; we won't let it happen again"; but, ironically, it could very well be that QE is the destabilizing force that causes the next crash; if QE-induced commodity and food price inflation force China's hand, prompting it to break its unbridled expansion of credit, which could cause, given that the market's broad-based resurgence of confidence is seemingly predicated on the emerging markets and commodity prices themes, a re-evaluation of global risk appetite, and if higher food and oil and gas prices in the U.S. impose a tax on the consumer that further slows discretionary spending
Fed needs negative real interest rates to reflate --- but with Fed funds constant and inflation falling (particularly the type of inflation that matters from a debt deleveraging perspective, wage inflation), real interest rates are getting less negative over time
state and local governments will continue to act like 50 little Hoovers; is California (or Illinois or New Jersey) any different than Ireland?
inordinately high corporate cash balances exemplify the type of cash hoarding that goes on when monetary velocity declines
to stimulate the economy, the government could increase aid to the unemployed, reduce employers' payroll taxes, allow expensing of investment costs, provide further state aid, invest in infrastructure, or offer income tax cuts; this list of options is in descending order of effectiveness according to the CBO; and yet the first option has already been kaiboshed, and the only option that is politically feasible in the near future, the extension of the Bush tax cuts, will be least effective option
there are falling pressures on each component of M*V = P*Q
the credit crisis was not an issue of liquidity, but one of solvency; liquidity issues have been temporarily "solved" by glossing over the solvency issues, which have not been alleviated (debtors have too much debt relative to the means to repay it; creditors at risk);
the Fed estimates that the shadow banking system was $20 trillion in size at the start of the crisis, relative to the $11 trillion size of the traditional banking system, and has now fallen to $16 trillion, still in excess of the now $13 trillion size of traditional banking
US = Japan2
