The reward for your thrift

Well it’s beginning to get embarrassing for the Brexit doom-mongers. The UK’s unemployment rate hit an 11-year low of 4.9% in July, according to the Office for National Statistics (ONS). There are 31.77 million Britons in the workforce. The workforce participation rate of 74.5% is the highest since the ONS began tracking the number over 40 years ago.

That data is going to make it pretty hard for Bank of England governor Mark Carney to push any more monetary buttons or pull anymore QE levers tomorrow. If the data says it’s not panic stations, you should stop panicking. Besides, now that we have five pound notes that won’t go up in flames in London’s searing and relentless heat (quite pleasant if you ask me) what’s to worry about?

My best bet is Carney checks, like a poker player would who has an average hand but needn’t take any risks. He can see what the Fed does. And then Japan. If the Fed raises rates or the Bank of Japan lowers them, he can either call, raise, or fold when it’s his turn.

The Japanese are the crazy gamblers at the table right now. Like the crazy drunk uncle at the Christmas table, they’re capable of just about anything when it comes to monetary unpredictability. Haruhiko Kuroda’s big moment comes next week when he unveils his “comprehensive review” of BoJ policy. The yen is rising against the dollar, as are long-term Japanese bond yields. What’s Kuroda cooking up?

Ice cream therapy for bonds

The government bond market has collected itself and retreated from a meltdown, the way a child might that has fallen and scratched its knee. There’s always that moment when you’re not sure if the kid, bottom lip trembling, is on the verge of a wailing scream, tears, and a messy nose. Or if everything will be just fine.

“You’re alright. Everything’s fine. Want an ice cream?”

In my experience as an uncle, you can short-circuit the teary meltdown simply by telling the kid they’re going to be okay and promising ice cream. It’s talk therapy with a bit of misdirection presented as an incentive. Central bankers obviously know the trick too.

Bond yields in Spain, Ireland, Germany, France, the Netherlands, Austria, Slovenia and Cyprus all fell yesterday. The “tantrum” I wrote about last week gave way to mild harrumphing. A full-scale meltdown in the sovereign bond market – with skyrocketing interest rates and crashing prices (bond and stock) – remains the worst-case scenario. But it doesn’t look imminent just yet.

Signal-riggers attack cash

Most savers and investors don’t worry about selling government bonds ahead of a once-in-a-lifetime monetary crisis. I think it’s safe to say that, based on the presumption that most ordinary people don’t save for the long run through the bond market – certainly not at today’s rates. But that doesn’t mean you’re safe from the financial authoritarians.

Author and fabled newsletter writer Jim Grant (Grant’s Interest Rate Observer) declared his colours and came out for cash earlier this week in The Wall Street Journal. It was a reply to the Ken Rogoff (The Curse of Cash) article published the week before. Grant captured how negative rates pervert incentives. He wrote:

Negative rates? You rub your eyes and search your memory. You can recall no precedent. And if you consult the latest edition of ‘A History of Interest Rates’ by Sidney Homer and Richard Sylla, you will find none. A recent check with Mr Sylla confirms the impression. Today’s negative bond yields, he says, are the first in the at least 5,000 years.

A positive integer would almost seem inherent in the idea of interest. When most of us want something, we want it now. And if we don’t have the money to buy it now, we borrow. ‘Present goods are, as a rule, worth more than future goods of like kind and number,’ posited the eminent 19th century Austrian theorist Eugen von Bohm-Bawerk. He called this behavioural truism the core of his theory of interest.

The cost of thrift

Then again, because not everyone is equally impatient, some of us are prepared to wait, therefore to lend. Seen in this light, the rate of interest is either the cost of impetuousness or the reward to thrift. In the topsy-turvy world of Mr Rogoff, negative rates would be the reward to impetuousness and the cost of thrift. A small price to pay, he insists, for a quick exit from a deep slump.

Never mind that the slump was created by policy makers trying to prevent the business cycle from doing its work. The work of the business cycle is to correct bad investment decisions and mis-calculated risks with a recession. In Austrian terms, the recession isn’t the disease. It’s the cure.

Once it passes, the patient (the economy) can go back to healthy and robust growth. But by preventing the liquidation of bad debts, by keeping the bad risk-takers (the banks) in business, and by transferring the bad debts from the private sector to the public sector, the policy makers have turned a garden-variety fever into a chronic and debilitating disease.

Every prescription – QE, negative rates, bond buying – kills the economy a little bit more. Grant continues, stressing a point Tim Price made last year when he first released his book The War on Cash:

Interest rates are prices. They impart information. They tell a business whether or not to of cash flows into present-day dollars. Manipulate those prices—as central banks the world over compulsively do—and you distort information, therefore perception and judgement.

The ultra-low rates of recent years have distorted judgement in a bullish fashion… They have… facilitated financial investment. They have inflated projected cash flows and anesthesised perceptions of risk. In so doing, they have raised the present value of financial assets. Wall Street has enjoyed a wonderful bull market.

The trouble is that the Fed has become a hostage to that very bull market. The higher that asset prices fly, the greater the risk of the kind of crash that impels them to new rounds of intervention, new cries for government spending, bigger deficits, more ‘stimulus.’

Grant points out that interest rates in the US, and around the world, are close to zero. Cutting rates will not restore confidence or liquidity in the next crisis. “What,” he asks, “will the mandarins do in the next emergency?”

That’s no mystery

They’ll attack. Most likely on people who have wealth and hoard cash.

If you don’t like the signal markets are sending (higher interest rates) you either try and corrupt it (more bond buying and negative rates) or you do something else. You do “something else” when you can no longer supress the signal. Your next best bet is to prevent people from acting – or taking meaningful action – based on what the signal is telling them.

Retirees have to buy annuities filled with government bonds. Savers are taxed. Cash is discouraged and eventually possession is stigmatised and later punished before being abolished.

That’s the war on cash. It’s not about pretty paper notes. Or pretty plastic notes. It’s about whether your wealth is really yours.

If people can’t get their money out of the financial system – if the definition of money itself changes to favour the debtors and spenders – then the signal of danger has come too late. What you think is yours either won’t be yours – or it will be worth a lot less than you think.

Category: Central Banks