Credo quia absurdum (I believe because it is absurd).
– Tertullian
You can’t make this stuff up.
– Unknown
BALTIMORE, MARYLAND – Stocks went nowhere on Monday. Congress and the White House didn’t get anywhere, either, in their attempts to resolve the shutdown impasse.
With 10 inches of snow on the ground, nowhere seemed like the right place to go. And nowhere is where most people end up anyway.
But our aim is to go somewhere – into the future. We want to see what happens there. And we begin by wondering how we get there.
Mega-Myth
The mega-myth of the Bubble Epoch is that we can go anywhere we want – thanks to the genius of quasi-federal employees.
It must be true, people say, because it is so implausible. You can’t make stuff like that up.
The idea is that Congress and the White House skillfully adjust fiscal policy (deficits or surpluses) to offset the bipolar tendencies of capitalism. Free markets always go up and down. The feds want to make them go in one direction only – up.
So as soon as a shadow falls on the financial world, the feds rush in with mood-stabilizers… in the familiar form of more money and credit.
The Fed, meanwhile, has a more ancient approach. Its Federal Open Market Committee (FOMC) members put on their black, hooded vestments and gather in the temple on the corner of 20th and Constitution Avenue. There, they turn to Jupiter: “Just give me some kind of sign.”
In Rome, the augurs were priests tasked with interpreting the will of the gods based on birds, dogs, thunder, or “ominous events.” Today, prophecies are based on fake “data” – compiled by the feds themselves.
At least the priests in Rome didn’t cheat on the signals!
Big One
But every age has its busted dreams and failed myths… ideas so apparently absurd, you can’t make them up!
In Washington today, there’s a shutdown and a showdown. The shutdown has idled many of the number crunchers on whom the Fed says it depends. But the showdown is going strong.
Mr. Trump wants to get rid of Mr. Powell. Mr. Powell would undoubtedly like to get rid of Mr. Trump.
Mr. Trump has the power of the bully pulpit and can possibly drive Mr. Powell from the Fed. Mr. Powell, on the other hand, has the power to raise interest rates… and possibly drive Mr. Trump from the White House.
But our guess is this: Neither of them has the power to drive Mr. Market anywhere. In the end, we go where he wants us to go.
The feds can influence markets – to an extent… and for a while. But it’s always Mr. Market who has the last laugh. And we think he’s getting ready for a big one.
Long Trend
The post-1971 paper dollar (with no fixed connection to gold) has survived seven Fed chairmen and nine U.S. presidents.
It has weathered the inflation of the 1970s… the Crash of 1987… the dot-com bubble of the 1990s… the housing-always-goes-up fantasy of 2007… and the 10-year zero-rate recovery.
But it still hasn’t survived an entire credit cycle; which is to say, in the long contest between man and markets, Mr. Market is still undefeated.
Debt markets move in long cycles. The last full cycle began with a bottom in yields (a high for bond prices) after World War II. Thereafter, interest rates rose for the next 35 years, reaching a cyclical high in 1980, when you would have been lucky to get a mortgage rate under 18%.
The market didn’t return to where it began – with interest rates down in the gutter again – until July 2016, with a yield on the 10-year U.S. Treasury of 1.38% and mortgage rates of 3.5%. Thus, the whole cycle took 70 years.
It was in the middle of this cycle – in 1971 – that today’s dollar appeared; and it was an imposter.
People had learned by bitter experience that they couldn’t trust bankers or politicians with their money. The dollar needed to be calibrated in something they couldn’t fiddle – gold. Otherwise, its custodians would find the temptation to “print more money” irresistible.
People always prefer the downhill run when they’re sledding, not the uphill climb; more money is always preferable to less money.
Here at the Diary, we are not particularly good at auguring. But even we saw the dark storm clouds gathering that August evening in 1971. We knew there would be trouble.
That is, of course, what has happened. The feds “printed” money – beaucoup money. The monetary base of the U.S. in 1970 was less than $100 billion.
Today, it is made up of $3.4 trillion worth of various debt instruments – mostly IOUs from the world’s biggest debtor, the U.S. government. The bankers couldn’t say no.
But so far, so good.
If the system can avoid any serious incidents between now and when the full cycle runs its course – until about 2040 – we will be happy to sing its praises.
We doubt we will have to.
First, because we doubt the dollar will still be here in its present form. And second, because we might not be, either.
Predictable Problem
Having encouraged the world to borrow – with low rates, EZ money, and rising asset prices – the feds now face the predictable problem.
They funded the boom of the last 30 years with debt – which increased, year after year, 2-4 times faster than the GDP needed to pay it.
And what now? How can they keep the expansion going without adding even more debt? And what happens when the price of government bonds falls (as interest rates rise)?
What happens is this: The economy goes into a depression. Real rates go over 10%. Businesses fail. Stocks get cut in half (the Dow already seems to have topped out – in October 2018).
Think people are unhappy now? You ain’t seen nuthin’ yet!
And the feds? Will they ask themselves why they ever believed anything so vain, foolish, and preposterous? Will they be able to stand firm and tall, like Paul Volcker in 1982… waiting for Mr. Market to do his work?
They’ve built their reputations, power, and fortunes on a myth… an absurd, cockamamie dream.
What will they do, Trump and Powell, when it turns into a nightmare?
Let’s look at it tomorrow…
Regards,
Bill
Category: Geopolitics