700 Years Of Data Suggests The Reversal In Rates Will Be Rapid

Have we been lulled into a false sense of security about the future path of rates by ZIRP/NIRP policies? Central banks’ misguided efforts to engineer inflation have undoubtedly been woefully feeble, so far. As the Federal Reserve “valiantly” raises short rates, markets ignore its dot plot and yield curves continue to flatten. And thanks to Larry Summers, the term “secular stagnation” has entered the lexicon.  While it sure doesn"t feel like it, could rates suddenly take off to the upside?

A guest post on the Bank of England’s staff blog, “Bank Underground”, answers the question with an unequivocal yes. Harvard University’s visiting scholar at the Bank, Paul Schmelzing, normally focuses on 20th century financial history. In his guest post (see here), he analyses real interest rates stretching back a further 600 years to 1311. Schmelzing describes his methodology as follows.

We trace the use of the dominant risk-free asset over time, starting with sovereign rates in the Italian city states in the 14th and 15th centuries, later switching to long-term rates in Spain, followed by the Province of Holland, since 1703 the UK, subsequently Germany, and finally the US.

Schmelzing calculates the 700-year average real rate at 4.78% and the average for the last two hundred years at 2.6%. As he notes “the current environment remains severely depressed”, no kidding. Looking back over seven centuries certainly provides plenty of context for our current situation, where rates have been trending downwards since the early 1980s. According to Schmelzing, we are in the ninth “real rate depression” since 1311 as shown in his chart below. We count more than nine, but let’s not be picky.

Furthermore, he believes that we are still locked into a 500-year downward trend.

Upon closer inspection, it can be shown that trend real rates have been following a downward path for close to five hundred years, on a variety of measures. The development since the 1980s does not constitute a fundamental break with these tendencies.

Now to the useful bit, Schmelzing looks at how these "real rates depressions" ended. The chart below shows the path of real interest rates in each reversal period following the trough.

He calculates that the average reversal has been 315 basis points within 24 months.

Most reversals to “real rate stagnation” periods have been rapid, non-linear, and took place on average after 26 years. Within 24-months after hitting their troughs in the rate depression cycle, rates gained on average 315 basis points, with two reversals showing real rate appreciations of more than 600 basis points within 2 years.

While we’d rather he ignored tainted “maestro”, Schmelzing states that there is “solid historical evidence” to support Greenspan’s view that real rates will rise “reasonably fast” once they turn. In Schmelzing’s opinion, and we would broadly agree, the best analogy in “recent” times for today’s situation is the Long Depression that followed the Panic of 1873.

Most of the eight previous cyclical “real rate depressions” were eventually disrupted by geopolitical events or catastrophes, with several – such as the Black Death, the Thirty Years War, or World War Two – combining both demographic, and geopolitical inflections. Most cyclical real rate depressions equally coincided with inflation outperformances. But for a minority of cycles, economic fundamentals were decisive, and exhibited both excess savings and subdued inflation. The prime example – and likely the closest historical analogy to today’s “secular stagnation” – is represented by the global “Long Depression” of the 1880s and 1890s. Following years of a global railroad investment frenzy, and global overcapacity indicators inflecting in the mid-1860s, the infamous “Panic of 1873” heralded the advent of two decades of low productivity growth, deflationary price dynamics, and a rise in global populism and protectionism.

Low rates in the wake of a financial crisis, lack of productivity growth, rising populism, etc, all strike a chord with our current circumstances, obviously. Going into more detail about the exit from the real rates depression of the 1880s-1890s, Schmelzing emphasises a rebound in productivity, stronger wage inflation and monetary expansion.

What ended the Long Depression? Labor productivity bottomed out in 1892-3, prior to the discovery of gold at the Klondike, and the associated monetary expansion. Wage inflation started outstripping productivity increases as early as 1885, leading the recovery in general inflation. And US equities finally bounced back from their 15-year lows with the Presidential election of William McKinley – a Republican pro-business protectionist – in November 1896. In other words, there is strong evidence suggesting that the last “secular stagnation cycle” started fading relatively autonomously after just over two decades following the key financial shock, not requiring the aid of decisive fiscal or monetary stimulus.

We find his conclusion, that a rapid, non-linear recovery in real rates can occur without any “decisive” events or policy, almost counter-intuitive. It doesn"t feel like it"s about to happen, but maybe it didn"t in the 1890s either. Indeed, maybe the best analogy for rates today is the proverbial beach ball held under water.

Stagnation Is Not Just The New Normal - It's Official Policy

Authored by Charles Hugh Smith via OfTwoMinds blog,

Japan is a global leader is how to gracefully manage stagnation.

Although our leadership is too polite to say it out loud, they"ve embraced stagnation as the new quasi-official policy. The reason is tragi-comically obvious: any real reform would threaten the income streams gushing into untouchably powerful self-serving elites and fiefdoms.

In our pay-to-play centralized form of governance, any reform that threatens the skims, privileges and perquisites of existing elites and fiefdoms is immediately squashed, co-opted or watered down.

So the power structure of the status quo has embraced stagnation as a comfortable (except to those on the margins) and controllable descent that avoids the unpleasantness and uncertainty of crisis. We all know that humans quickly habituate to gradual changes in circumstances, and that if the changes are gradual enough, we have difficulty even noticing the erosion.

So wages/salaries stagnate, inflation eats away at the purchasing power of our net income, junk fees, tolls and taxes notch higher by increments too modest to trigger protest, fundamental civil liberties are chipped away one small piece at a time, healthcare costs rise every year like clockwork, and the gap between the bottom 95% and the top 5% widens, as does the gap between the top .1% and the bottom 99.9%, productivity stagnates, the growth rate of new businesses stagnates, but it"s all so gradual that we no longer notice except to sigh in resignation.

Japan is a global leader is how to gracefully manage stagnation. Here"s how Japan is managing to maintain a comfortable secular stagnation:

Japan"s central bank creates a ton of new currency every year, which it uses to buy Japan"s government debt/bonds. This keeps interest rates near-zero, so the cost of government borrowing is kept minimal.

This also gives the government a ton of new cash to spend that it doesn"t have to raise from additional taxes. The government then spends this "nearly free" money (i.e. deficit spending) to keep the whole stagnating machine glued together.

To keep asset prices comfortably elevated, Japan"s central bank creates additional gobs of currency out of thin air every year to buy assets such as stocks and corporate bonds.

It helps if domestic and global investors are willing to buy bonds yielding near-zero, but if not, no problem, the central bank can just create another trillion of new currency and buy all newly issued government bonds. What"s another trillion between friends?

There are only two potential spots of bother in this comfy setup:

1. If all this new currency is no longer accepted as having much purchasing power by the rest of the world

2. Inflation arises despite the tender machinations of the central bank and government.

Here are some snapshots of secular stagnation in the U.S.: here"s productivity:

New business growth:

Fulltime employment:

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The Real Reason Wages Have Stagnated: Our Economy Is Optimized For Financialization

Authored by Charles Hugh Smith via OfTwoMinds blog,

Labor"s share of the national income is in freefall as a direct result of the optimization of financialization.

The Achilles Heel of our socio-economic system is the secular stagnation of earned income, i.e. wages and salaries. Stagnating wages undermine every aspect of our economy: consumption, credit, taxation and perhaps most importantly, the unspoken social contract that the benefits of productivity and increasing wealth will be distributed widely, if not fairly.

This chart shows that labor"s declining share of the national income is not a recent problem, but a 45-year trend: despite occasional counter-trend blips, labor (that is, earnings from labor/ employment) has seen its share of the economy plummet regardless of the political or economic environment.

Given the gravity of the consequences of this trend, mainstream economists have been struggling to explain it, as a means of eventually reversing it. The explanations include automation, globalization/ offshoring, the high cost of housing, a decline of corporate competition (i.e. the dominance of cartels and quasi-monopolies), a failure of our educational complex to keep pace, stagnating gains in productivity, and so on.

Each of these dynamics may well exacerbate the trend, but they all dodge the dominant driver of wage stagnation and rise income-wealth inequality: our economy is optimized for financialization, not labor/earned income.

What does our economy is optimized for financialization mean? It means that capital and profits flow to the scarcities created by asymmetric access to information, leverage and cheap credit--the engines of financialization.

Optimization is a complex overlay of dynamically linked systems: the central bank optimizes the flow of cheap credit to the banking/financial sector, the central state tacitly approves the consolidation of cartels and quasi-monopolies, and gives monstrous tax breaks to corporations even as it jacks up taxes and fees on wage earners and small business.

Financialization funnels the economy"s rewards to those with access to opaque financial processes and information flows, cheap central bank credit and private banking leverage. Together, these enable financiers and corporations to get the borrowed capital needed to acquire and consolidate the productive assets of the economy, and commoditize those productive assets, i.e. turn them into financial instruments that can be bought and sold on the global marketplace.

These commoditized assets include home mortgages, student loans, and specialized labor forces which are "sold" with their employers or arbitraged globally. Once an asset is commoditized, the profits flow to those who process the transactions of packaging and marketing these assets globally.

Take auto loans as an example: the big money isn"t made from collecting the interest on the auto loans; the big money is made by processing and assembling the loans into tranches that can be sold to investors globally.

One way of understanding financialization is to ask: what"s the quickest, easiest way to make $10 million in our economy? Is it building a business based on the labor of employees over a decade or two?

You"re joking, right? The easiest way to make $10 million is to be part of the investment banking team overseeing a $10 billion corporate buyout or merger deal, or investing seed money in a tech company that subsequently goes public.

How about the easiest and quickest way to make $100 million? The answer is the same: working a vein of financial wealth based on commoditized instruments, leverage and credit.

Labor"s share of the national income is in freefall as a direct result of the optimization of financialization. The money flows to those with the capital, credit and expertise to optimize financialized skims. As for selling one"s labor in an economy optimized for capital and the asymmetries of finance--there"s no premium for labor in such an economy, other than technical/managerial skills required by finance to exploit markets.

This is the driver of the rising income-wealth inequality this chart reveals:

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Drugs & Demographics - National Tragedy, But Where From?

Authored by Jeffrey Snider via Alhambra Investment Partners,

In 1928, the fertility rate of American females (aged 15 to 44) was 93.8 per 100,000. By 1931, the first year of full Great Depression and collapse, the rate had declined to 84.6. It would bottom out, unsurprisingly, around 1933 and 1935 and the end of the contraction part of the depression. But what made that economic event “great” wasn’t just that one forward piece. It was instead the fact that it lingered on and on for more than a full decade.

As such, fertility rates in America would remain subdued until the later years of WWII. It was one reason economist Alvin Hansen conjured his (incorrect) secular stagnation thesis. Without the demographic tailwind, he surmised, growth would be exceedingly difficult as a baseline matter.

But what if it was the other way around? What if growth came first and then came the babies, as they did following WWII and the restoration of economic function after sixteen years of pent up demand and persisting unwanted pessimism (plus more than a little stabilization to the global monetary system).

Fertility rates during the Baby Boomer years, defined as 1946 through 1964, were an impressive and wholly unexpected 113.4.

There are always grave social and political consequences to prolonged stagnation or depression. It goes way beyond mere statistics of output and labor utilization. The US came out of the Great Depression in many ways nothing like how it went into it. People accepted a very different form of political arrangement (New Deal, to put it simply) because the old way clearly didn’t work – even if nobody could agree what it was, exactly, that constituted the old way.

We have, of course, experienced already these social symptoms during our lost decade. The economy starting in August 2007 shrank, and never recovered. For Americans, the cost in terms of labor has been huge, some 15 or 16 million who don’t fit in the official definitions for the labor force, not because of their choice but because they linger in the slack the mainstream narrative wants to omit. Economists attempt to ignore them for their huge blot on the official record.

As a society, of course, we increasingly cannot overlook what has become perhaps the first major social disruption of the Lost Decade; the opioid crisis. As Alvin Hansen in the thirties, economists today have it backward, trying to fit the drug problem as the cause instead of the effect. They desperately want to do so because that would legitimize the unemployment rate which doesn’t include those 15 or 16 million, and therefore would explain the Lost Decade as a non-economic or non-monetary factor.

Today, President Trump announced that he was declaring it a National Emergency. By “it” I don’t mean the economy, unfortunately, but rather the symptom drug epidemic. I can’t help but wonder if this is the wrong approach:

I don’t mean to make light of the situation because this is serious business and a national tragedy. But we are looking, as we so often do, in the wrong place for blame and therefore solution. The answer to such despair that might engender so much escapism is the satisfying hope that only economic opportunity can afford.

I firmly believe that someday there will be such growth again. I also believe that there is lingering at the contours of all this another Baby Boom should (when) it happen(s). It’s been so long that I feel it practically inevitable, an entire generation of Americans, bordering on two, who have come of age under some level of atrocious economic conditions (not quite 1930’s, but not that far off, either, as time progresses). How might they respond to what we all once took for granted?

The variables are how long it might be before we see it happen, and in what form the transformation takes. I think we all would prefer to skip repeating the first half of the 1940’s to get on with what followed (including the monetary stabilization piece). Time, however, isn’t a charitable factor when stretched out for so long. The clock, for good and bad, is ticking. There is nothing secular about that long ago stagnation, just as there isn’t about this one.

Rates Continue To Defy "Wall Street Logic"

Authored by Lance Roberts via RealInvestmentAdvice.com,

The “Bond Bears” just can’t seem to catch a break. 

Beginning in mid-2013, there have been numerous calls the 30-year bond bull market was dead. The reasoning was simplistic enough – economic growth was set to return pushing inflation, and ultimately interest rates, higher. Unfortunately, as each year has come and gone, economic growth has failed to return with real economic growth averaging just 1.9% since the turn of the century.

  

As I have discussed many times in the past, interest rates are a function of three primary factors: economic growth, wage growth, and inflation. The relationship can be clearly seen in the chart below.

Okay…maybe not so clearly. Let me clean this up by combining inflation, wages, and economic growth into a single composite for comparison purposes to the level of the 10-year Treasury rate.

As you can see, the level of interest rates is directly tied to the strength of economic growth, wages and inflation. With roughly 70% of economic growth derived from consumption, the trend of wage growth should not be readily dismissed.

Ed Harrison at Credit Writedowns noted:

“What I can say is that the credit markets have been right all along the way. At important points in time when the Fed signaled policy changes, credit markets have correctly interpreted how likely those changes were going to be. The perfect example is the initial rate hike path set out in December 2015. This was totally wrong and the credit markets were telling us so, right from the start.”

He is absolutely correct.

It was the analysis of the credit markets that has kept me on the right side of the interest rate argument in repeated posts since 2013.

However, Ed nails what Wall Street continues to deny in one sentence:

“What credit markets are saying right now screams secular stagnation.”

Since 2009, asset prices have been lofted higher by artificially suppressed interest rates, ongoing liquidity injections, wage and employment suppression, productivity-enhanced operating margins, and continued share buybacks have expanded operating earnings well beyond revenue growth.

The Fed has mistakenly believed the artificially supported backdrop they created was actually the reality of a bright economic future. Unfortunately, the Fed and Wall Street still have not recognized the symptoms of the current liquidity trap where short-term interest rates remain near zero and fluctuations in the monetary base fail to translate into higher inflation. 

Combine that with an aging demographic, which will further strain the financial system, increasing levels of indebtedness, and lack of fiscal policy, it is unlikely the Fed will be successful in sparking economic growth in excess of 2%. However, by mistakenly hiking interest rates and tightening monetary policy at a very late stage of the current economic cycle, they will likely be successful at creating the next bust in financial assets. 

Furthermore, as Ed noted:

“And if this share price actually did indicate higher economic growth, not just higher profits, then US government bond yields would be rising due to future rate hike expectations as nominal GDP would be boosted by full employment and increased inflation. But that’s not what’s happening at all.

Instead, the US 10-year bond is pretty close to 2% and the yield curve is flattening. So, what I see the bond markets saying is that future rate hikes by the Fed will be limited due to low nominal GDP growth aka secular stagnation.”

The problem with most of the forecasts for the end of the bond bubble is the assumption that we are only talking about the isolated case of a shifting of asset classes between stocks and bonds.

However, the issue of rising borrowing costs spreads through the entire financial ecosystem like a virus. The rise and fall of stock prices have very little to do with the average American and their participation in the domestic economy. Interest rates are an entirely different matter.

Since interest rates affect “payments,” increases in rates quickly have negative impacts on consumption, housing, and investment which ultimately deters economic growth. 

Given the current demographic, debt, pension and valuation headwinds, the future rates of growth are going to be low over the next couple of decades – approaching ZERO.

While there is little left for interest rates to fall in the current environment, there is also not a tremendous amount of room for increases. Therefore, bond investors are going to have to adopt a “trading” strategy in portfolios as rates start to go flat-line over the next decade.

Of course, you don’t have to look much further than Japan for a clear example of what I mean.

But, for now, Wall Street continues to ignore the giant “secular stagnation” sign staring them in the face.

Productivity Myths Shattered: Is Productivity Rising Or Falling? Why?

Authored by Mike Shedlock via MishTalk.com,

The debate over productivity rages on. Some believe productivity is understated. Others believe it is overstated.

Janet Yellen believes a lack of strong productivity gains may be responsible for tepid wage gains.

Financial Times writer Edward Luce is confused, as are many others. Luce discusses The Mystery of Weak US Productivity.

Osborne on Productivity

In 2105, then UK chancellor George Osborne made boosting UK Productivity a Priority.

“Let me be clear: improving the productivity of our country is the route to raising standards of living for everyone in this country,” he said. “Our future prosperity depends on it.”

Greenspan on Productivity

In an Interview with Gold Investor Alan Greenspan blamed the aging of baby boomers.

We have been through a protracted period of stagnant productivity growth, particularly in the developed world, driven largely by the aging of the ‘baby boom’ generation. Social benefits (entitlements in the US) are crowding out gross domestic savings, the primary source for funding investment, dollar for dollar. The decline in gross domestic savings as a share of GDP has suppressed gross non-residential capital investment.

Output per hour has been growing at approximately 1⁄2% annually in the US and other developed countries over the past five years, compared with an earlier growth rate closer to 2%. That is a huge difference, which is reflected proportionately in the gross domestic product and in people’s standard of living.

As productivity growth slows down, the whole economic system slows down. That has provoked despair and a consequent rise in economic populism from Brexit to Trump. Populism is not a philosophy or a concept, like socialism or capitalism, for example. Rather it is a cry of pain, where people are saying: Do something. Help!

Yellen on Productivity

On May 22, 2015, Janet Yellen pointed a finger at the recession while also blaming low productivity for lack of wage growth in her Outlook for the Economy.

I have mentioned the tepid pace of wage gains in recent years, and while I do take this as evidence of slack in the labor market, it also may be a reflection of relatively weak productivity growth.

Economists debate how optimistic to be about our nation’s productivity prospects. Some argue that the decade starting in the mid-1990s was exceptional, with unusually large advances in information technologies, and that the more recent period provides a better guide to the future. Others are more optimistic, suggesting that recent technological innovation remains as impressive as ever, and that history shows it may take some years to fully reap the economic benefits of such innovations.7 I do not know who is right, but I do believe that, as a nation, we should be pursuing policies to support longer-run growth in productivity.

It also is possible that a portion of the relatively weak productivity growth we have seen recently may be the result of the recession itself.

G7 Productivity 1975-2015

Chart from the Resolution Foundation.

Myth #1 Shattered

Yellen blamed the recession and lack of productivity for poor earnings growth. Greenspan blamed the aging of baby boomers.

Given real earnings have been nearly flat since 1979 while real output is up 94.9%, those theories are obviously faulty.

Doesn’t the Fed bother to test their theories against actual data? You have the answer.

The Fed is puzzled over rising income inequality. It ought to look in the mirror. Its bubble-blowing tactics and insistence on 2% inflation in a technological price-deflationary world are to blame.

Myth #2 Shattered

Economists and writers are puzzled by the decline in productivity. I can explain in a series of charts.

The decline in overall productivity is tied to a slowdown in manufacturing productivity. This too should not be hard to figure out.

Despite all the talk of burger robots, trucking robots, Amazon robots etc, productivity enhancements in the service sector are very slow

1. We need the same number if not more teachers, policeman, firefighters, etc.


2. We need an increasing number of nurses due to aging and poor diets.


3. We have not seen any enhancements in trucking or limo services.


4. Amazon likely boosted productivity but that is at the expense of a decline in productivity at brick-and-mortar stores. It takes a minimum number of people just to open the doors.

Why the Slowdown in Manufacturing?

In the first quarter of 1979, there were 17.465 million manufacturing employees. The index of real output was 69.789.

In the fourth quarter of 2016, there were 12.235 million manufacturing employees, a decline of 5.23 million jobs. Meanwhile, the index of real output jumped to 86% 129.665.

The law of diminishing returns is in play. Robots are not going to eliminate every job.

Profit Warning

Manufacturing shipments are down vs the index of aggregate wages. This is a strong profit warning.

Productivity Overstated or Understated?

Many believe productivity is understated. They cite cell phones and other technological advances.

That’s actually a reason to believe productivity is declining. People are tied to their phones for work. How many hours do people spend on the phone while on vacation, on weekends, or on their days off answering corporate emails?

There are no numbers on the above, nor are there any numbers on the hours that supervisors at McDonald’s, Target, Macys etc, put in. Given performance pressures on big box retailers, pressures to work more than 40 hours while getting paid for 40 hours must be intense.

Myth-Shattering Conclusions

1. Declining productivity is not responsible for tepid wage gains as many, if not most economists believe.


2. Declining overall productivity is directly tied to declining manufacturing productivity.


3. Service sector productivity is likely overstated due to off-hours work by email or phone.


4. The Fed’s serial bubble blowing efforts, bank bailouts, and insistence on 2% inflation in a deflationary world are to blame for stagnant real wages.


5. The Fed cannot do a damn thing to increase productivity other than to get the hell out of they way. Abolishing the Fed would be an excellent start.

Those who are baffled by productivity never bothered to put their theories to rudimentary tests.

Nonetheless, Greenspan is correct on some things, especially social benefits crowding out genuine investment. Thus, those proposing some sort of guaranteed minimum living wage are totally off base.

Entitlements are already a massive problem, let’s not make them worse.  Massive handouts have never solved any economic problems, and never will.

Missing Data

Unfortunately, there is no data prior to 1979 for my Myth #1 chart.

It is quite possible, if not highly likely, the productivity mess that appears to have started in 1979 has its actual roots in 1971 when Nixon closed the gold window.

Regardless, the above charts show the secular stagnation theory of Larry Summers and Brad DeLong is highly suspect.

Secular Stagnation Thesis

Brad DeLong discusses Larry Summers’ “secular stagnation thesis” in Three, Four… Many Secular Stagnations!

DeLong list 17 reasons and his number one reason is “High income inequality, which boosts savings too much because the rich can’t think of other things they’d rather do with their money.”

Pin the Tail on the Donkey

At no point does either DeLong or Summers pin the tail on this donkey. Neither can, because income inequality is a symptom of the problem.

That problem started the moment Nixon closed the gold window. The event is now described as “Nixon Shock”.

Indeed it was. Unencumbered by a need to redeem gold, credit exploded.

Credit Market Before and After Gold Window Closed

Gold Window Synopsis

1. Total credit exploded from $1.7 trillion to $63.5 trillion at the end of 2015.


2. To service that growing pile of debt, the Fed had to keep slashing interest rates.


3. Instead of allowing consumers to benefit from technological advances that are inherently price deflationary, the Fed sought to increase inflation. This is to the benefit of the banks and already wealthy.


4. A policy of 2% inflation coupled with no restraints on trade deficits (thanks to removal of the gold window), encouraged the outsourcing of jobs.


5. After the dot-com bubble burst in 2001, the Greenspan Fed stepped on gas blowing the biggest housing bubble on record. Then the Fed bailed out the banks, the asset holders and the wealthy. This chain of events left the median person being worse off than before.


6. Given that executive pay is based on performance, rising share prices further benefited the top 1%.


7. Fed policy itself, coupled with a rampant expansion of credit thanks to Nixon closing the gold window is totally responsible for the rising income inequality from 1971-present.

Attacking Symptoms

Instead of attacking the symptoms of the problem, as Summers and DeLong do, let’s be honest about the real problem. Let’s also be honest about the alleged scourge of deflation.

My Challenge to Keynesians “Prove Rising Prices Provide an Overall Economic Benefit” has gone unanswered.

There is no answer because history and logic both show that concerns over consumer price deflation are seriously misplaced.

The BIS did a study and found routine deflation was not any problem at all.

“Deflation may actually boost output. Lower prices increase real incomes and wealth. And they may also make export goods more competitive,” stated the BIS study.

For a discussion of the BIS study, please see Historical Perspective on CPI Deflations: How Damaging are They?

The final irony in this ridiculous mix is central bank policies stimulate massive wealth inequality fueled by soaring stock prices.

Grasping Reality With Both Hands

Delong’s blog is entitled “Grasping Reality With Both Hands“. It would behoove, Delong, Summers, and Ben Bernanke to do just that.

A good starting point is “why” income inequality is rising as opposed to investigating ridiculous wealth-transfer schemes and government stimulus projects in a fool’s mission to fix a problem that Summers, DeLong, Bernanke, Krugman, and Yellen all fail to understand.

Finally, it would be a good idea to consider what happens when service sector productivity picks up (and it will, led by driverless trucks).

Here’s a hint for Yellen: Millions of workers will be displaced and demand for jobs will pick up. Wages pressures will be to the downside, the opposite of what Yellen believes.

The Illusion Of Progress

Via Charles Hugh-Smith of OfTwoMinds blog,

This is precisely what you"d expect of a self-serving elite that was desperate to cloak the unhappy reality that the relative few are benefiting immensely at the expense of the many.

The core narrative of politics everywhere is progress, i.e. "moving forward." If progress isn"t being made, politicos and the system are failing.

In the past, "progressive" movements sought to advance both social and economic opportunities for marginalized groups.

For a variety of reasons, social progress has been decoupled from economic progress.

In broadly disintegrative eras such as the present, the stagnation of economic opportunity is masked by redefining progress in purely social terms: progress is defined as the social advance of a marginalized populace into the mainstream.

When the marginalized populace is comprised of many millions of individuals, social progress and economic progress are mutually reinforcing dynamics: opportunities for social advancement in the mainstream created economic opportunities, and vice versa.

Now that social/economic progress has lifted the major marginalized populaces--ethnic and religious minorities, gays--substantially into the mainstream, those remaining marginalized populaces are modest in size. Estimates of the trans-gender populace, for example, are generally less than 1% of the total population.

The marginalized groups" advances that are markers for "proof of progress" have decoupled from economic advances. Few if any social-justice promoters of trans-gender rights, for example, claim any economic gains will accompany this social progress.

The reason why social progress has been effectively decoupled from economic progress is that the woeful lack of economic progress for the bottom 90% proves financial progress is now limited to an elite comprised of Oligarchs, Nomenklatura, the Technocrat Class and a relative handful of entrepreneurs.

Everyone else has been losing ground in wages, wealth and opportunity. If we measure progress in very broad terms such as participation in and ownership of the most productive parts of the current mode of production, then this chart forces us to conclude that movement for the vast majority is now backward, not forward.

To mask this disquieting and politically discordant reality, the status quo of the Corporate Media, academia, state functionaries and technocrats has redefined "progress" to exclude hard financial data that reflects widespread, systemic stagnation for the bottom 90% in favor of "feel-good" social-justice virtue-signaling.

This is precisely what you"d expect of a self-serving elite that is desperate to cloak the potentially explosive reality that the relative few are benefiting immensely at the expense of the many. So please take your social-justice "progress" with a grain of salt the size of the iceberg that sank the Titanic: if we measure progress solely by participation in and ownership of the most productive parts of the current mode of production, a much different snapshot emerges: economic stagnation is not progress.

Memo to Larry Summers: It’s Secular Saturation (Not Stagnation)

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Written by Peter Diekmeyer (CLICK HERE FOR ORIGINAL)

Donald Trump’s first challenge when he faces off with a new Congress later this month will be addressing what former Treasury Secretary Larry Summers calls “secular stagnation.”

Key will be finding ways of injecting life into a US economy, which continues to experience sub-par growth despite eight years of near-zero interest rates and deficit spending which, during the Obama Administration, has doubled the national debt. Solutions floated include increased government spending on defence and infrastructure and new tax cuts.

Equities markets seem convinced those initiatives will work. At the time of this writing, the DJIA, S&P 500 and S&P/TSX were all trading at near-record highs.

But individual investors need to careful. As we shall see, there is considerable evidence that what America is suffering from is not “secular stagnation,” but “secular saturation,” caused by decades of over-consumption.

That distinction may seem subtle. But it has significant implications as to how investors may want to structure their portfolios.

Alvin Hansen’s 1930’s style secular stagnation

The term “secular stagnation,” coined by economist Alvin Hansen in the 1930s, refers to a situation in which central banks have cut interest rates so low that they are no longer able to boost demand[i].

Summers, currently a professor at Harvard University, resurrected the term and to his credit, it has stuck.

Politicians, economists and academics love the “secular stagnation” idea, which they have adopted en masse, because it enables them – as the Economist Magazine recently did – to ascribe current challenges to “market failure.”

Capitalism doesn’t work, this line of thinking goes. What is needed to “cure” its faults is more enlightened policy by central planners.

Solutions floated range from those cited above, to the latest: “helicopter money” – which is government programs paid for using printed money[ii]. This enables politicians to get credit for the programs that are enacted, while kicking the inflation costs down the road.

Predatory central bank enticements

Yet while Summers’ “secular stagnation” thesis advances the interests of the “big government community,” individual investors need to consider another scenario.

There is a strong possibility that America is not suffering from a market failure, but rather from an inevitable reaction to a multi-decade binge in system-wide spending, borrowing and progressively easier money.

Predatory central banking enticements, particularly low interest rates, have led governments, businesses and individuals to hire people, buy stuff and invest in things that they don’t need or can’t afford. The economy is thus saturated, the argument goes.

If that is true, it is possible that the US economy has reached a state for which it needs a multi-year (and possibly a multi-decade) period to digest the excesses, put money aside and pay down some of the debts incurred.

 Consider:

• Combined American government, business and personal debt as a percentage of GDP is now the highest it’s been in history.
  


• Even if they wanted to buy more stuff, most Americans who could afford it, simply don’t need it. According to IHS, there are nearly 253 million cars and trucks on the road. That amounts to nearly one per person over 18 who can pass a vision test. If you and your partner are already making payments on two cars, you are unlikely to need a third.
  


• While US home ownership rates are at multi-decade lows, predatory incentives dangled by the Fed, through its low interest rate policies, enticed many Americans to buy places they simply couldn’t afford. These families are now “house poor” and have little room to borrow more to finance new spending.
  


• US over-consumption is graphically depicted in its overweight/obesity rate, which now exceeds two thirds of the country’s population.
  


• On the infrastructure front, governments at all levels have been looking for good “shovel ready” projects for years. By now, whatever hasn’t been done is likely a bad deal, or there are strong interests lined up against it.
  

In short, for more than three decades, policymakers have been advocating solutions that, rather than create new demand, instead pulled it forward from future years. There is a strong case to be made that there isn’t much left to pull.

Implications for investors

The most important implication for investors is that if we are in an era of secular saturation (instead of secular stagnation), then the policy proposals currently being put forward in Washington will not work.

By channelling more taxpayer dollars to special interest groups that generate little or no spinoffs to the rest of the economy, politicians will merely make a bad situation worse.

Individual investors who believe in the “secular saturation” thesis will thus want to increase their savings to prepare for tough times ahead.

They will also want to be particularly careful about equities markets, which right now appear convinced that politicians are on the right track.

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[i] A broader description of how Summers regards the issue can be found in the March/April 2016 issues of Foreign Affairs: https://www.foreignaffairs.com/articles/united-sta...

[ii] The process by which this money is printed is long on complicated, and would depend on how each deal is structured. But it would basically consist of the Federal Reserve buying up debt that the government issued to fund certain projects.

 

Looked at that way, with the Fed’s balance sheet above $4 trillion, there is a good argument to be made that the US economy is already snowed under with helicopter money.

 

Please email with any questions about this article or precious metals HERE

Written by Peter Diekmeyer (CLICK HERE FOR ORIGINAL)

Why Trump's 4% GDP Will Remain Elusive

Submitted by Lance Roberts via RealInvestmentAdvice.com,

For the umpteenth year in a row, mainstream economists and analysts are once again planting the seeds of hope for a return to stronger GDP growth. The White House has hoped for it for the last 8 years, and now President-elect Trump is all but promising a surge in economic growth.

Unfortunately, while promises are great, we must analyze the reality of attaining such a lofty resurgence.

Let’s start with the Congressional Budget Office (CBO) and their projections for the next decade. This is shown in the chart below.

There are several very noteworthy observations which need to be made:

1. Real potential GDP has been sharply reduced from the long-term exponential growth trendline (green dashed line) to close the gap between real GDP and “hope.”


2. With the economy heading into its 8th year of growth without a recession, the CBO is currently projecting another 10-years of “recession-free” growth. The reality of such happening is very slim.


3. While the output gap has closed, by reducing expectations, real GDP continues to underperform significantly against both reduced expectations and long-term reality.

While the data above tells us is that simply the economy is currently operating well below its potential level. While the most visible culprits are employment, wages, industrial production and consumption, these issues are byproducts of the 50-Trillion pound Gorilla sitting quietly in the corner. That seemingly invisible Gorilla is simply – debt.

To get a better idea of what I mean let’s take a look at economic growth in relation to debt levels. Prior to 1980, economic growth was entirely financed by economic activity as debt levels remained well below economic output.

Today, that same $1 dollar of GDP growth requires almost $3 dollars to finance it. That’s right – nearly $3 of debt to finance $1 of GDP.

Therein, of course, lies the problem of returning to 4% economic growth in the foreseeable future. With real GDP currently at $16.7 Trillion and debt estimated at $65 Trillion, the ratio is 3.9:1 debt to GDP.

In order for GDP growth to reach 4% in 2017 (assuming 2% growth in Q4) – GDP would have to expand to roughly $17.7 Trillion. Subsequently, the debt would need to expand to $67.6 Trillion or a whopping $2.6 Trillion in the coming year. So forth, and so on.

Are you seeing the problem here?

The problem is simply the math.

Furthermore, the current economic malaise is not something new that was caused by the financial crisis in 2008. The reality is that economic growth has deteriorated consistently since 1980. Economic growth cannot be supported by debt growth.  Increases in debt reduce savings and productive investment. Debt, like cancer, consumes income which detracts from consumption and investment. 

The larger the debt, the more consumption it requires.

As interest rates began their long march lower in the 1980’s so did economic growth. As growth rates began to slow, the need to maintain higher standards of living required a reduction in the personal savings rate and increases in debt. In turn, there was less available for productive investment. As each year passed quietly by the cancer of debt spread, undetected and ignored, until it became terminal.

What we now realize, yet still try to ignore, is at the very heart of Austrian economic theory.

“As the inevitable consequence of excessive growth in bank credit, exacerbated by inherently damaging and ineffective central bank policies, which cause interest rates to remain too low for too long, resulting in excessive credit creation, speculative economic bubbles and lowered savings.”

In other words, the proponents of Austrian economics believe that a sustained period of low interest rates and excessive credit creation results in a volatile and unstable imbalance between saving and investment. Low interest rates tend to stimulate borrowing from the banking system which in turn leads, as one would expect, to the expansion of credit. This expansion of credit then, in turn, creates an expansion of the supply of money and, therefore, the credit-sourced boom becomes unsustainable as artificially stimulated borrowing seeks out diminishing investment opportunities. Finally, the credit-sourced boom results in widespread malinvestments.

Does any of this sound familiar?

The problem currently is exponential credit creation can no longer be sustained. The process of a “credit contraction” will occur in fits and starts over a long period of time as consumers, and the government, are ultimately forced to deal with the leverage and deficits. The good news is that process of “clearing”  the market will eventually allow resources to be reallocated back towards more efficient uses and the economy will begin to grow again at more sustainable and organic rates.

Most importantly, the demographic and structural shift in the economy remains a major headwind to stronger rates of economic in the future.

The current levels of anemic economic growth in U.S. remain dependent upon the consumer with roughly 70% of GDP tied to personal consumption. Unfortunately, roughly 22% of personal incomes which are used to reach those consumption levels currently comes from government transfers. 

Working to reduce the governmental assistance programs, when such a large portion of personal incomes depend on it, will not be a boon to creating the economic growth needed to make the plan work in the future. The problem lies in the demographics.

With over 70 million individuals currently moving into the retirement system, this demographic shift will further complicate the net drag on savings – which are integral to productive investment and the creation of an expanding economy – as well as the increased demand on welfare and healthcare programs. While Trump has proposed reforms to these systems, which are most definitely needed to keep them viable in the long-term, the near-term impact on economic growth will most definitely be felt.

The processes that fueled the economic growth over the last 30 years are now beginning to run in reverse, and when combined with the demographic shifts in the U.S., the impact could be far more immediate and prolonged than the media, economists and analysts are currently expecting.

Again, it is simply a function of math.

Greenspan Predicts Bond Yields Rising As High As 5%

While the world has learned to take Alan Greenspan"s forecasts with a grain of salt, earlier today the former Fed chairman was on Bloomberg TV with another bombastic prediction, warning of a substantial surge in US long-term interest rates should "inflation take hold." 

In the interview, Greenspan said that “if the early stages of inflation, which are now developing, would take hold, you could get -- fairly soon -- a fairly major shift away from these extraordinarily low yields on 10-year notes, for example,” Greenspan said in an interview on Bloomberg Television on Monday. “I think up in the area of 3 to 4, or 5 percent, eventually. That’s what it’s been historically."

Greenspan emphasized his often-repeated point that such low rates are unsustainable in the longer run, and said that he sees nascent inflation as the possible end to the bond bull market. “We’re moving into the very early stages of inflation acceleration,” Greenspan said. “That could be the trigger.”

To be sure, Greenspan admits that such a substantial rate move will not happen without substantial side-effects, and he warned that challenges lie ahead as longer-term rates adjust upward toward a more historically normal level: "It’s a problem, as in going from where we are now to 4 or 5 percent,” he said. "There’s a whole structure of adjustments which have taken place, basically since 2008, which have to be unwound, and that’s not going to be done without a problem."

The biggest problem, as Greenspan explained in another interview in July, is that surging inflation - on both the short and long end of the curve - would almost certainly lead to stagflation:

Three fourths of the major economies, OEC economies for example, have, over the last five years, have had a less than a one percent annual rate of upward growth. The economy can"t go anywhere under those conditions, and we"re getting a state of stagnation which is not only evident in the United States but pretty much throughout Europe and the far east. And as a consequence of that, it"s very difficult to see where the next step is except what I"m concerned about mostly, is stag-flation, meaning I think we"re seeing the very early signs of inflation beginning finally to pick up as the issue of deflation fades.

Since stagflation is traditionally a concurent indicator of recession, Greenspan was then quizzed if he expects a US recession in the next 12-24 months, to which he refused to provide a clear answer:

It"s very difficult to say.  In fact, I don"t think you can describe the world economies in terms of the old conventional issue of inflation, recession, and the like.  What we are dealing with is a population that is aging very rapidly, and that is inducing a major increase in so-called social benefits, what we in the United States call entitlements.  And that is dominating the whole financial system, and until we come to understand that we have got to slow this rate of growth, which in the United States has been 9% per year since 1965, we are now down to the point where it"s taken so much savings out of the economy that we"re not getting enough investment, but that has very little to do with whether we"re going in a recession or not.  I think we"re just in a stagnation state.

While Greenspan may well be right in his assessment, one area where we clearly disagree is his take on rising wages, which is also a prevalent sentiment among the investing community. Back in July Greenspans said that "we"re beginning to get a pickup in wages beyond the rate of growth of productivity, and that is usually the best indicator."

Actually that is incorrect: as we showed on Friday, the one place were wages are rising, and are doing so at a record pace, is in pay for managerial, supervisory workers, those who are already highly-paid, and where the marginal change in wages does not result in a substantial impact on the economy.

At the same time, wages of non-supervisory, production workers have been largely unchanged over the past two years, and when adjusted for core inflation, have barely experienced any growth.

And then there is the question of just how a 5% interest rate across total US debt would be internalized: as the following chart from Bridgewater shows, a 5% rate across the hundreds of trillions in total US obligations would lead to nothing short of a massive shock to the sytem.

In any event, a modest move may have started already, with 10Y yields rising today to 1.82%, back to a five-month high after the Federal Bureau of Investigation reaffirmed that Democratic candidate Hillary Clinton didn’t commit a crime in handling her e-mails as secretary of state, a move of such a magnitude would involve trillions in mark-to-market losses as both Ray Dalio and Goldman warned recently.

In the interview Greenspan also said that he would like to repeal the Dodd-Frank Act, the post-crisis financial regulation measure that he said is reducing liquidity in the financial system, and replace it with a large equity-to-asset ratio requirement for financial intermediaries, according to Bloomberg. “I would very much like to go back to square one, repeal Dodd-Frank,” Greenspan said, adding that he’s “thinking of 20 to 30 percent capital requirements.”