Rushing Toward the Limits

“It’s the end of the great debt cycle,” says hedge fund manager Ray Dalio of Bridgewater Associates, taking the words out of our mouth. Bond fund manager Bill Gross adds context:

 

In the past 20 to 30 years, credit has grown to such an extreme globally that debt levels and the ability to service that debt are at risk. […] Why doesn’t the debt supercycle keep expanding? Because there are limits.

 

Neither Mr. Dalio nor Mr. Gross nor we know precisely where those limits are. But the Europeans and the Japanese are rushing toward them.

 

3635983541_b568ca6216_z

Photo credit: William Stark

 

A Poke in the Eye for Lenders

In Europe, bond yields are lower than they’ve ever been. Between $2 trillion and $3 trillion in sovereign and corporate bonds now trade at negative nominal yields. We don’t need to tell you that it is unnatural and perverse for lenders to accept a poke in the eye for giving up their valuable savings.

But that’s just part of the perversity of the present system – no real savings are involved. The money never existed in the first place. Getting a negative yield seems almost appropriate, if nevertheless incomprehensible. Today, banks create “money” from thin air, in the form of new deposits, when they make loans.

As our friend Richard Duncan explains in his book The New Depression: The Breakdown of the Paper Money Economy, by the turn of the new millennium the reserve requirement – whereby banks are forced to hold some cash or gold in reserve against new loans – was so low that it played “practically no role whatsoever in constraining credit creation.”

That means as long as banks meet regulators’ capital adequacy requirements, they can create as much new money (loans) as they want. No risk of mining accidents. No need for anyone to sweat or strain. No self-discipline or forbearance required. Savers can eat their cake. And borrowers can have it too.

 

TMS-2 vs. bank reserves, linearMr. Duncan is correct about the fact that so-called “reserve requirements” have been utterly meaningless to the expansion of the credit and money supply. Reserves only rose sharply after the 2008 crisis, as a balance sheet item created by QE. QE also vastly increased the money supply (more than doubling it between early 2008 and early 2015) when banks temporarily slowed down their inflationary lending – click to enlarge.

 

Doomed Public Finances

Economists who still have their wits about them – if there are any left – are baffled. The lowest bond yields in history… and along comes the European Central Bank with a plan to drive them lower by way of €1.1 trillion ($1.2 trillion) of QE. What is the sense of it?

No one can say. Rather, no one wants to admit that the real motive is to relieve banks of their bad debt. Banks bought the debt of bankrupt European governments. Everybody knows there is no way governments will pay it back. Fortunately, when central banks buy government debt, it is effectively canceled – forgotten forever. So, the ECB helpfully exchanges this bad debt for new bank reserves before the public catches on.

Over in Japan the government has been running budget deficits for 25 years – funded largely by Japanese “salary-men” who think they are saving money for their retirements. What a disappointment it will be when they discover that the money was not saved at all, but spent by their government.

And now, Tokyo’s debts have grown so large that 43% of tax receipts are required just to service its debt, to say nothing of the amounts needed for current and future deficits. You can imagine how far you’d get if you tried this at home. Try living on 57% of what you earn (the rest goes to pay your creditors)… while still spending more than your income. See how long that would last…

The Japanese are too polite to mention it, but their public finances are doomed. And it can only be a matter of months – okay, maybe years – before the entire Ponzi scheme blows up.

 

Public debt to GDP ratiosGross government debt to GDP ratios of selected future insolvency cases – click to enlarge.

 

Tokyo … Then Harare

Since 2009, we’ve been saying that our itinerary was likely “Tokyo… then Harare.”

By that, we meant that we were probably going to experience a Japan-like deflationary slump… and then a Zimbabwe-like hyperinflation.

We are now in year six of that slumpy, lumpy, bumpy ride. The US economy has been growing, but it is the weakest postwar “recovery” on record. And what little growth we saw was in asset prices. And it was bought with about $4 trillion in central bank stimulus. Few people realize it, but this also retarded real economic growth.

You can see that by looking at the difference between what has happened in the financial markets and what has happened in the real economy. Wall Street is as bubbly as ever. But Main Street is still struggling. Real wages and real business investment, for example – things that mark and measure genuine prosperity – are as limp as a Tokyo noodle. Why?

Prosperity depends on savings and capital formation. You have to devote real resources to new output capacity. You have to hire people and find new and better ways of doing things. But business investment has gone down since 2007. Based on fourth-quarter figures from 2007 and 2014 and annualized, $400 billion was invested in business development in 2007 against only $300 billion in 2014.

 

US-Nonfinancial-Companies-Investment-and-Buybacks-600x413Although this chart by Smithers & Co is slightly dated by now, it does get the point across …

 

Borrowing Binge

Meanwhile, businesses borrowed about $3 trillion more. Where did all this money go? It appears to have gone into share buybacks, mergers and acquisitions, bonuses, fees and other speculator payoffs. These things benefit the 1% of the 1% – the insiders who are in on the deals. They do nothing for the real economy, except deprive it of the capital it needs to make real progress.

In 2000, we had a bubble in tech stocks. In 2007, we had bubbles in finance and housing. Now, we have bubbles in corporate bonds ($14 trillion)… securitized auto loans ($20 billion)… and student loans ($1.2 trillion).

Pop … pop … pop – that’s what will happen to these bubbles. And when it does, it will complete our travel to Tokyo. That is when our slumpy ride turns into a terrifying train wreck. Yes, Tokyo deflation before we get to Harare hyperinflation.

 

Zimbabwe-hyperinflationExponential growth in money supply inflation and its effect on prices in Zimbabwe.

Charts by: St. Louis Federal Reserve Research, Bloomberg, Smithers & Co., pixshark
The above article is taken from the Diary of a Rogue Economist originally written for Bonner & Partners. Bill Bonner founded Agora, Inc in 1978. It has since grown into one of the largest independent newsletter publishing companies in the world. He has also written three New York Times bestselling books, Financial Reckoning Day, Empire of Debt and Mobs, Messiahs and Markets.
 

 

Emigrate While You Can... Learn More

 


 

 
 

Dear Readers!

You may have noticed that our so-called “semiannual” funding drive, which started sometime in the summer if memory serves, has seamlessly segued into the winter. In fact, the year is almost over! We assure you this is not merely evidence of our chutzpa; rather, it is indicative of the fact that ad income still needs to be supplemented in order to support upkeep of the site. Naturally, the traditional benefits that can be spontaneously triggered by donations to this site remain operative regardless of the season - ranging from a boost to general well-being/happiness (inter alia featuring improved sleep & appetite), children including you in their songs, up to the likely allotment of privileges in the afterlife, etc., etc., but the Christmas season is probably an especially propitious time to cross our palms with silver. A special thank you to all readers who have already chipped in, your generosity is greatly appreciated. Regardless of that, we are honored by everybody's readership and hope we have managed to add a little value to your life.

   

Bitcoin address: 12vB2LeWQNjWh59tyfWw23ySqJ9kTfJifA

   
 

Your comment:

You must be logged in to post a comment.

Most read in the last 20 days:

  • The Gold Sector Remains at an Interesting Juncture
      Technical Divergence Successfully Maintained In an update on gold and gold stocks in mid June, we pointed out that a number of interesting divergences had emerged which traditionally represent a heads-up indicating a trend change is close (see: Divergences Emerge for the details). We did so after a big down day in the gold price, which actually helped set up the bullish divergence; this may have felt counter-intuitive, but these set-ups always do. Consider now the updated chart below...
  • Confronting the Dragon with Peter Navarro
      Of No Real Use A young man might go to business school believing he is obtaining some sort of academic training that will enable him to make a comfortable living.  His degree may gain him entry into a large corporation, where he can work his way up to a good income.  This may even put him on the fast track to what he envisions as success.   Don't knock it: Being useless can lead to unexpected career opportunities... [PT]   But his academic training likely won't...
  • Trouble in Paradise
      Impressive Zeal for Faded Ideals Uncompromising independence, rugged individualism, and limitless personal freedom were once essential to the American character.  According to popular American folklore, they still are.  We have some reservations.   Rugged individualists suffer mid-life identity crisis. [PT]   The principles that gave rise to the American character died long ago.  Freedom.  Liberty.  Independence.  Limited representative government. Sound...
  • The United States of Terror
      Bombs Away! Two recent articles* have again demonstrated that the greatest “terrorist” entity on earth are not the bogymen – Russia, China, Iran, North Korea – so often portrayed by Western presstitutes and the American government, but the United States itself!   This is an old cartoon, but still a good one. It perfectly describes the trigger-happy Western political class and the depth of its “thinking”. By happenstance we recently reviewed the Libya intervention...
  • Gold – Macroeconomic Fundamentals Improve
      A Beginning Shift in Gold Fundamentals A previously outright bearish fundamental backdrop for gold has recently become slightly more favorable. Ironically, the arrival of this somewhat more favorable situation was greeted by a pullback in physical demand and a decline in the gold price, after both had defied bearish fundamentals for many months by remaining stubbornly firm.   The eternal popularity contest...   The list of gold fundamentals that have improved is...
  • Capitulation and Currency Pain - Precious Metals Supply and Demand
      Waving the White Flag The price of gold rose two bucks last week, though the price of silver fell 10 cents. We have seen several analyses recently predicting big price drops, in one case by at least $500 in gold by the end of the year. Is this what capitulation looks like? It’s said they don’t ring a bell at the top, but they don’t ring a bell at the bottom either.   The give-up moment arrives... [PT]   We have also seen technical analysis arguing that...
  • Maurice Jackson Interviews Rick Rule – Investing in Natural Resources
      Contrarian Investment Opportunities in Natural Resources Maurice Jackson of Proven and Probable has recently interviewed Sprott U.S. Holdings CEO Rick Rule, a well known specialist and “old hand” in the natural resource space. This is quite a wide-ranging and interesting interview, so we decided to present it to our readers. Below you find a summary and our comments on the main topics discussed, a video/podcast of the interview,  as well as a download link to a PDF file of the...
  • Black Holes for Capital - Precious Metals Supply and Demand
      Race to the Bottom Last week the price of gold fell $17, and that of silver $0.30. Why? We can tell you about the fundamentals. We can show charts of the basis. But we can’t get into the heads of the sellers.   Other people's fiat: in the global race to the bottom, it was recently the turn of emerging market currencies to tank. [PT]   We can say that in the mainstream view, the dollar is rising. The dollar, in their view, is not measured in gold but in rupees in...
  • The True Sport of MAGA
      Chest Bumps One of the more extraordinary things that investors have seen in living memory is unfolding at this precise moment. This goes for business leaders, money managers, veteran Wall Streeters, value investors, 401(k) holders, momentum traders, FX guys, gold bugs, technical gurus, chartists, pork belly speculators, quants, astrologists, Larry Summers, put option sellers, dweebs and geeks, millennial index fund enthusiasts, and everyone in between.   Pork belly speculators...

Support Acting Man

Item Guides

j9TJzzN

The Review Insider

Dog Blow

Austrian Theory and Investment

Archive

350x200

THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

Realtime Charts

 

Gold in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Gold in EUR:

[Most Recent Quotes from www.kitco.com]

 


 

Silver in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Platinum in USD:

[Most Recent Quotes from www.kitco.com]

 


 

USD - Index:

[Most Recent USD from www.kitco.com]

 

Mish Talk

 
Buy Silver Now!
 
Buy Gold Now!
 

Oilprice.com