by James A. Bacon
Surely we have reached the end of times of apocalyptic lore when the leading Republican candidate for president flapped his arms during a national debate and assured the American people that not only are his hands of respectable size but so is another part of his anatomy. “I guarantee you, there’s no problem,” said the inimitable Donald Trump last night.
Such is the state of the nation that rather than explicate how he proposed to “make America great again” — beyond building a big wall, bringing in “really great” people, and hammering China, Japan and Mexico on trade — Trump felt compelled to assure the public that the size of his genitalia is something the nation can be proud of.
While Trump is grotesque, he taps into a very real malaise across a broad swath of the electorate. The American people know that something is very wrong, and that the elites have rigged the rules of the game to their favor, although they’re really not sure how. Americans are appalled by political correctness, they’re appalled by Wall Street bailouts, and they’re appalled by big money in politics. They are enraged by the loss of jobs, many of them to competitors overseas, and they are demoralized by the increasingly difficult struggle to maintain a middle-class standard of living.
My argument in Bacon’s Rebellion is that much of this malaise can be traced to the failure of core economic institutions. The health care sector, which comprises close to one-fifth of the economy, is plagued by the poorest record of productivity and quality of any economic sector, making the cost of health care increasingly unaffordable for all. Meanwhile, college tuitions have become even more burdensome, blocking a traditional path to a middle-class occupation. Both sectors have become captured by the leading players — hospitals, insurance companies, institutions of higher education — and are run to protect their interests, not the interests of the public. And don’t get me started on dysfunctional land use patterns, also the playground of special interests, which drive up the cost of housing and transportation.
How these complex systems work is poorly understood, so Trump personifies the enemy as illegal immigrants and Chinese factory workers stealing American jobs, while both Democratic candidates personify the enemy as cops killing innocent black men and deploring the United States as institutionally racist.
There is another contributor to this malaise, also poorly understood: monetary policy. I have addressed it periodically in Bacon’s Rebellion, although I only dimly comprehend the dynamics myself and assuredly speak with no authority on the subject. But Bill Gross, head of Janus Capital Group and one of the leading bond investors in the world, does understand it. And I will let him do my talking for me.
In the current issue of his monthly newsletter, Gross writes the following:
Our global, credit based economic system appears to be in the process of devolving from a production oriented model to one which recycles finance for the benefit of financiers. Making money on money seems to be the system’s flickering objective. Our global financed-based economy is becoming increasingly dormant, not because people don’t want to work or technology isn’t producing better things, but because finance itself is burning out like our future Sun.
What readers should know is that the global economy has been powered by credit – its expansion in the U.S. alone since the early 1970’s has been 58 fold – that is, we now have $58 trillion of official credit outstanding whereas in 1970 we only had $1 trillion. Staggering, is it not? But now, this expansion appears to be reaching an ending of sorts, at least in its current form. Private sector savers are growing leery of debt piled upon debt and government regulators have begun to build fences against further rampant creation. In addition, the return offered on savings/investment whether it be on deposit at a bank, in Treasuries/ Bunds, or at extremely low equity risk premiums, is inadequate relative to historical as well as mathematically defined durational risk. The negative interest rates dominating 40% of the Euroland bond market and now migrating to Japan like a Zika like contagion, are an enigma to almost all global investors. Why would someone lend money to a borrower with the certainty of getting less money back at a future date? …
Negative yields threaten bank profit margins as yield curves flatten worldwide and bank NIM’s (net interest rate margins) narrow. The recent collapse in worldwide bank stock prices can be explained not so much by potential defaults in the energy/commodity complex, as by investor recognition that banks are now not only being more tightly regulated, but that future ROE’s will be much akin to a utility stock. …
In addition to banks, business models with long term liabilities that depend on 7-8% future returns from risk assets are themselves at risk – not necessarily of bankruptcy but future profitability. … Same goes for pension funds. Puerto Rico follows Detroit not just because of overpromised benefits but because they cannot earn enough on their investment portfolios to cover the promises. Low/negative interest rates do that. And the damage extends to all savers; households worldwide that saved/invested money for college, retirement or for medical bills. They have been damaged, and only now are becoming aware of it. Negative interest rates do that. …
In addition, government policymakers seem to be setting up future roadblocks for savers. There is a somewhat suspicious uniform attack on high denomination bills of global currencies. Noted economists such as Larry Summers; respected journalists such as the FT’s Gillian Tett, central bankers such as Mario Draghi – all seem suddenly concerned that 500 Euro or 10,000 Yen Notes are facilitating drug dealers and terrorists (which they are). But what’s an economist/central banker doing opining on law enforcement? It appears that the one remaining escape hatch for ordinary citizens is being closed. Money in a mattress will heretofore be associated with drugs/terror.
As long as central governments around the world control the money supply through central banks, there is one thing you can count on: They will pursue policies that benefit the central governments. Central governments are the world’s biggest debtors; consequently, they are they greatest beneficiaries of low/negative interest rates. Without anyone electing them, without anyone outside the financial sector even understanding what’s happening, central bankers in the U.S. and the rest of the world are engineering the greatest redistribution of wealth since the Spaniards plundered the wealth of the New world.
Donald Trump supporters are smart enough to know the government is shafting them when it raises taxes. I’m not sure they’re smart enough to know the government is screwing them when it represses interest rates. Meanwhile, Hillary Clinton and Bernie Sanders are promising to hand out goodies to be financed by “taxing the rich,” all the while maintaining a monetary regime that picks the pockets of the middle class — knowing the the middle class doesn’t see what’s happening.
Soon, instead of making almost nothing for their bank deposits and CDs, small savers will start paying banks for the privilege of holding their money. Corporations, forced to pay more to cover their pension costs, will have less leeway to raise wages and salaries. State and local governments, many of which were on a sound financial footing a decade ago, find themselves playing continual catch-up to pay their pension obligations, either raising taxes or short-changing other needs in the process. Owners of insurance policies now have to worry that their insurance company may not be able to fulfill its promises. The pathways of causation are too subtle and indirect for most people to understand. It’s so much easier to blame Mexicans, the Chinese or institutional racism.
We are moving into uncharted territory as central governments desperately seek to keep the system going. Perhaps, as optimists would have us believe, brilliant central bankers have invested an economic perpetual motion machine that will enable nations to borrow indefinitely by monetizing their debt. Or maybe the whole thing will grind to a halt. Gross predicts that the next phase is for central banks to start helicoptering money to keep the creaky machine going a little longer. So, it may be a while yet before we reach the financial end times. But when they come, they will be a doozy.
How will we know when the end of times is imminent? Here’s my prediction: when Donald Trump goes all Anthony Weiner on us and starts tweeting pictures of his “package.” Then we truly will have hit bottom.
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