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National Economic Council Director Larry Kudlow, a top economic adviser to President Donald Trump, said Wednesday that the White House plans to unveil a plan for additional tax cuts later in 2020. “I am still running a process of Tax Cuts 2.0. We’re many months away – it’ll come out sometime later during the campaign,” Kudlow told CNBC. “Tax Cuts 2.0 to help middle-class economic growth: That’s still our goal…. We will unveil this perhaps sometimes later in the summer.”CNBC
There is nothing like a tax cut to buy votes
It is important for Trump to announce middle-class tax cuts just before the election because everyone in the middle class now knows (or should) that the massive Trump Tax Cuts that were first on his agenda went to the rich. Even major pro-capitalist, Republican-leaning, Republican-owned magazines like Forbes acknowledge this:
For the first time in American history, the 400 wealthiest people paid a lower tax rate than any other group…. It’s never been more clear that our country’s tax code is built to serve only those who have the most money. While hedge fund managers, private equity executives and venture capitalists benefit from the carried interest tax loophole, everyday Americans barely get a deduction for their student loan interest payments…. Income inequality is widening to record levels and there’s no reason to believe the trend will slow down…. The Tax Cuts and Jobs Act of 2017 was the largest tax overhaul in over three decades. It was rushed through congress and it’s working exactly as it was intended to do so: to line the pockets of the wealthy at the expense of the working class. Optically, it was championed as a way to boost the economy, but the fact is that unemployment was already low and the cuts came amidst a long bull market…. The tax cuts are deficit-financed which … means that “resources will be taken away from future generations as well as today’s working class.”Forbes
The fact that the Trump Tax Cuts inured almost entirely to the rich is a fact Trump now has to massage in this election year. As an earlier Forbes article stated,
Whether the Tax Cuts and Jobs Act (TCJA) disproportionately helped the rich may be 2020’s biggest political issue…. The richest 1 percent received 9.3 percent of the total tax cuts, the top 5 percent got 26.5 percent, the top quintile received 52.2 percent and the bottom quintile got 3.3 percent.Forbes
The article argues that these numbers are actually progressive on the basis that the top quintile pays eighty percent of the taxes so 52% was less than they should have received. However, the article (as all Republican articles of this kind do) fails to mention that the top 10% also have 80% of the nation’s wealth — a portion so obscenely sickeningly and unmerited that it never occurs to anyone that the rich should be paying 80% of the taxes just to pay an equal percentage of what they have to what others are paying.
You can be sure Krazy Kudlow’s promise will be rolled out in the summer just as he has said because that will time out perfectly for countering the outcries against Trump as we transition from intra-party primary debates into inter-party main-election debates. Trump will be able to say when challenged as the protector of the establishment, “I’ve got this covered. I’m working on it. Elect me along with a Republican congress, and I’ll give you the best middle-class tax cuts ever!”
Are the Trump Tax Cuts and spending increases MAGA?
The problem with Trump promising a new round of tax cuts — this time for all the rest of us — is we’re not paying for the tax cuts Trump already gave. The Trump administration (with the blessing of the majority of voters) chose to save the rich by tapping the economic strength of future generations in order to pull money forward for our benefit now.
The 2020 deficit is projected to come in somewhere between a trillion and 1.2 trillion dollars. And future deficits are projected to grow parabolically like this:
That steep deficit growth is without Kooky Kudlow’s newly promised additional tax cuts that also will not pay for themselves because they never do! Of course Kudlow & Co. will promise, as they did last time, that the tax cuts will pay for themselves. Fool me once, shame on you. Fool me twice, shame on me. (However, US voters have already been fooled three times by promises that “supply-side” tax cuts (or “trickle-down” tax cuts) will pay for themselves. so triple shame on them! The Kudlow Kraze will be the fourth time if the nation falls for it, and people most likely will fall for it because people want to fall for it because people want to believe we can have the strong military we have, fight innumerable endless wars in countries around the world, and have all the welfare we want and still pay less in taxes. People routinely deny reality in order to have all they want, and politicians certainly know how to squeeze votes out of that. We’re being juiced.
So, let me point out that didn’t come in quite as great as promised under the latest round of sugary tax cuts:
The nonpartisan Congressional Budget Office projected that fiscal 2019 revenues, without the tax cuts, would be $3.69 trillion. Instead, revenues with the tax cuts were only $3.46 trillion…. Treasury Secretary Steven Mnuchin said during the push for the tax cuts and as recently as last month that they would pay for themselves by generating economic growth. Payroll taxes are higher than projected, as are tariffs, but corporate and individual income taxes are lower.Washington Examiner
Revenue in the first year of the tax cuts dropped by a minor 0.4%. Since population keeps growing, it’s rare for government revenue to drop unless the nation is going into a recession, which was not the case in 2018. Moreover, revenue needed to rise by about 2% just to keep up with inflation in 2018. On the other hand, as you can see in the image below, government revenue did nudge up slightly in 2019:
This uptick in revenue, however, is not adjusted for inflation. Corporate taxes, which were cut the most, are far from paying for themselves, and individual tax revenues have remained about the same, but should have grown due to population growth, while revenues from payroll taxes, which were not cut, have increased because of population and job growth. The losses from corporate tax cuts have been covered by the record-breaking Trump Tariffs (mostly paid for by American companies and handed down to consumers). If those eventually go away, there will be a larger revenue shortfall. Even the Trump administration’s Phase One China charade may reduce tariffs enough to leave the nation with less revenue than it had in prior years.
More significantly, tax revenues benefited hugely in 2018 and 2019 from foreign profit repatriation (yet corporate tax revenue still declined) because that was front loaded into the tax cuts. Money that had been kept outside of the country suddenly came in as profits, benefiting the government with taxes that likely would not have been collected at all if not for the repatriation program. Repatriation of past profits, however, was a one-time opportunity that is now fading away because most corporations have likely brought back home about as much of those past profits as they intend to.
Given this ugly picture, it is no surprise, then, that Republicans are now bending over backward to find excuses for the poor performance of their tax cuts:
Rep. Kevin Brady (R-Tex.), a lead architect of the GOP tax bill, suggested Tuesday the tax cuts may not fully pay for themselves, contradicting a promise Republicans made repeatedly while pushing the law in late 2017.
Pressed about what portion of the tax cuts were fully paid for, Brady said it was “hard to know.”
The Washington Post
“We will know in year 8, 9 or 10 what revenues it brought in to the government over time. So it’s way too early to tell,” said Brady at the Peterson Foundation’s annual Fiscal Summit in Washington D.C.
The problem with begging for a lot more time for the tax cuts to prove themselves is that nothing was said about the need for eight to ten years to lapse before the cuts started paying for themselves back when Republicans like Brady were pitching the plan to the public. In fact, back then, we were all promised they would pay for themselves with GDP growth in the very first year. Remember all those big promises about how much GDP in 2018 would rise to 3% or 4% or 5%, depending on what snake-oil salesman was talking?
Moreover, the tax cuts were front loaded with the greatest stimulus effects in the first year. Because repatriation is fading away after being almost entirely spent on stock buybacks and shareholder dividends, we have created very few business improvements to propel future economic growth. That makes it hard to see how future years are going to bring more growth and more tax revenues so the cuts will finally start to pay for themselves. It’s an even more ridiculous argument when you consider that economic growth in the second year of the tax cuts was slower than growth in the first year! It hardly appears to be gaining momentum.
Spending stimulus is spent
The failure of taxes to pay for themselves might not be so bad if we didn’t also accompany it with spending increases (just as much under Republicans now as in the past under Democrats, proving neither group is more fiscally responsible). Here is what has happened with spending (not deficits, just spending) in the Trump years compared to those years that came before:
As you can see, the rise is steeper now than in almost anytime past with the exception of the large emergency leap at the start of the Great Recession, which then actually got reversed for awhile. Yet, government spending in the past two years has even exceeded those years during the Great Recession when the US government leaped into overdrive, trying desperately to save a dying economy while supporting millions of people who lost their jobs. We’ve now moved to setting new records in spending, which doesn’t even include the acceleration in spending that is now building for 2020 … even if we don’t have a war with Iran.
The Trump administration promised everyone that spending increases would also pay for themselves by stimulating the economy through infrastructure construction. So, we need to look at how much economic benefit all of this attempted tax-cut/spending-increase stimulus has bought us.
It has bought us precisely nothing. While Trump’s treasury projected the tax cuts and spending increases would create 2.9% GDP growth, and Krackhead Kudlow and Trump promised even more than that, we actually averaged about 2.6% during all of Trump’s presidency. Worse still, the numbers are getting consistently worse, not better. The average GDP growth rate last year through the third quarter is a fraction lower than Obama’s average, and it appears the fourth quarter will bring that down even more. That is a poor return for all the debt being piled on.
GDP growth dropped to 2.1 over the second and third quarters of last year while the fourth quarter is projected to come in below 2%. The Atlanta Fed’s GDP Now forecast for the fourth quarter of 2019 has just fallen off a ledge (and tends to become more accurate as we get closer to the first release date of GDP information):
Before the deregulation of the financial industry under President Reagan, which led to an explosion in consumer credit issuance, it required just $1.00 of total system-wide debt to create $1.00 of economic growth. Today, it requires $3.97 to create the same $1 of economic growth. This shouldn’t be surprising, given that “debt” detracts from economic growth as the “debt service” diverts income from productive investments and leads to a “diminishing rate of return” for each new dollar of debt. The irony is that while it appears the economy is growing, akin to the analogy of “boiling a frog,” we accept 2% economic growth as “strong,” whereas such growth rates were previously considered near recessionary.Real Investment Advice
Average economic growth over the course of all of Obama’s eight years was a “near recessionary” 2.0%. Bear in mind, however, Obama’s term began during years when the nation was still crashing into its worst recession in most people’s lifetimes, a deplorable situation Obama inherited from the Bush Tax Cuts, which took us from a surplus budget to a deep deficit budget and into the worst recession in nearly a century. (Just the facts: that’s where we ended up after the Bush Tax Cuts that promised us accelerated economic growth!) Obama had some quarters after the Great Recession where GDP growth hit over 5%. Trump has never come close to that. (It’s just math, Folks, not arguable as an opinion, and out would be truly deplorable to make excuses for it.)
Economic growth, measured as the change in real GDP (inflation-adjusted), averaged 2.0% from Q2 2009 to Q4 2016. This was slower than the 2.6% average [under Bush] from Q1 1989 to Q4 2008. Real GDP grew nearly 3% during President Bush’s first term but only 0.5% during his second. During the Clinton administration, the GDP growth was close to 4%, slightly faster than the Reagan administration.Wikipedia
Real GDP per capita rose an average of 2.5% a year under Obama. (That is adjusted for inflation.) Real GDP per capita after the Trump Tax cuts grew 2.9 percent in 2018. However, 2019 isn’t in yet, and it now appears all but certain it will be lower than 2.9%. In short, there is nothing worth seeing here, Folks. No matter what you may want to believe, the hard, cold truth is that the economy is slowly ebbing away under Trump.
No jazz for jobs
Job growth is as important as GDP growth, but that has also dropped to a slower rate of growth than under Obama. In fairness, that is inevitable as a nation moves to full employment. (The term “full employment,” however is deceitful since a larger percentage of people after the Great Recession are part-timers who have replaced one job with two jobs at lower pay and lower benefits — true under both Obama and Trump. These part-timers are counted as two employed people because the nation refuses to use full-time equivalence as the basis for measuring job growth, which it would do if it wanted honest measures.)
All the same is true for the nation’s unemployment rate because people are no longer considered unemployed if they get a part-time job or if they just fall off the unemployment rolls because their benefits run out. You can see the glide path down was starting to flatten out even during Obama’s final year and has become completely flat now:
It’s only natural that the unemployment rate would flatten out at this point, since this is as low as it ever has been, but clearly Trump has nothing to brag about on jobs or unemployment over Obama either. (Just keep in mind that the actual unemployment rate during Obama’s years and Trump’s would be far worse if unemployment were measured honestly or even just measured as it was back in the seventies and eighties. See Shadowstats.)
Next in importance for assessing economic improvements would be wage growth because that is where the rubber meets the road for the average employed person. For about a year, wages grew more quickly under the Trump Tax Cuts and spending increases than under Obama, but that growth rate is now slowing back down. Even in the Obama years everyone anticipated wages would only start to grow as we got nearer to “full employment,” so it’s a little disappointing that wage growth is slowing down almost as soon as we got to where it was picking up. Let’s hope it, at least, maintains a flat line at the current levels is only one percentage point higher than the Obama years rose to.
Draw a line to show the trend through the middle of Obama’s last two years, and you’ll see it ends right where we are now. (Aside from using this number to show whether there is any improvement over the past administration, note that REAL wage growth is still almost zero because the past year of inflation at CPI 2.3% ate almost all of it.)
Apparently, Trump’s projections for the tax cuts and spending stimulus were all based on best-case scenarios, and that is aways a poor way to create a budget or a funding plan for anything.
All Trumped up and nowhere to go
Regardless, here in Candyland, Trump knows voters love their tax candy. So, he’ll be throwing out promises of handfuls of candy to the children as soon as the Dems choose their anointed one for Trump to campaign against. He knows also that arguing against middle-class tax cuts during an election year is likely a losing proposition for Democrats. So, it’s all politics intended to woo the nation’s middle class where the voting majority resides, but at the cost of driving the nation deeper into the hole at a steeper rate of decline every year.
Of course, if Trump really wanted to help the nation and not just get himself re-elected by throwing out fist-fulls of candy, he’d eliminated the special capital-gains tax rate that goes almost entirely to the rich and effectively puts them in a lower tax bracket than much of the middle class and that only gets recycled into endless asset purchases (an argument I’ve detailed many times in the past).
He’d set up tax structures that force the rich to earn their money the old-fashioned rich way by building factories that hire people and produce useful things and that pay people good wages and good benefits so they can buy those useful things, instead of giving the rich a tax break when all they do with it is take profits from asset sales and then recycle the savings into more stocks, more bonds, more real estate, more collector items and pricier football teams that play in stadiums the middle class people pay for!
Unless the middle-class finally gets its brains back and stands up and fights this, the same rinse-and-repeat national national debt cycle that subsidizes the rich is going to keep on happening. So, if you want a middle-class tax cut, make sure it gets paid for by the rich who have long been effectively in a lower tax bracket than the middle class, even more so under Trump who has served his Mar-a-Lago buddies well!
Just like capital-gains tax cuts, corporate tax cuts also have not gone into building new factories or into entrepreneurial new service businesses but — as I argued here before they even became law — have gone almost entirely into stock buybacks and dividends that just help the rich get richer without helping anyone else. Sure, they may finally help the middle class in their retirement years because 401Ks are about the one place where the middle class have enough money to buy stocks, but that is only IF those retirement funds don’t get crushed again as they did in the dot-com bust and in the Great Recession. That money all exists only on paper until the days in which you actually get to spend it. It doesn’t help the middle class any now; but the rich are helped fabulously right now. Fabulously! Better times than they’ve ever know!
Replacing those help-the-rich tax plans with ones that help the rest will never happen. The saddest apparent truth is that middle-class voters won’t even vote to make it happen. They’ll vote for more of the same shiny, cellophane-wrapped, candied, trickle-down promises, happy for any sweet morsel thrown their way and willing to get it by letting someone in the future pay for it. They’ll continue to rally to the argument that helping the rich is the only way to help the rest. That’s what the last thirty years of history shows us.
That’s because they’d rather be right (in their own heads) about the beliefs they’ve been suckered into all those year than be wealthier. No one wants to admit they’ve been suckered. So, they’ll stay with their party-line votes and stand by their man and argue that the good times have never been better even though the only thing greater about America right now is its growing debt.
They will continue to syphon all economic power away from their grandkids to help themselves have all they want to have right now by leaving their children and grandchildren with the forever unplayable bill — a bill where the interest alone will cost every penny in taxes they can possibly scrape together. They’ll do that on the false premise that it will make the nation stronger for the future, as if a nation far deeper in debt can ever be considered stronger, especially when we are seeing no lasting benefits in improved infrastructure and a more vibrant economy. Mark my word. That’s what they will do!
That is, for a fact, what the nation is doing — pulling all economic power into the present just to keep the economic engines barely running by making future generations fuel all of it. In decades past, parents did all they could to make sure their children had a future that was brighter than their own times had been. We’re doing everything conceivable to undermine that environmentally and economically just to keep things on a more gradual downward glide path for now.
But we do have more rich people. That’s for sure.
And more poor.
And fewer middle class.
We have, indeed, trickled down.
Did you know Dr. Frankenstein created a monster that stays alive to this day by eating zombies? Neither did the zombies. Neither, apparently, did Dr. Frankenstein. In fact, the zombies, being braindead as zombies are, do not realize that they are also keeping alive the diabolical doctor who made the monster that is eating them.Read the remainder of this entry »
I spend much time criticizing the outlandish economic foolishness I see throughout the global economy and especially in the US economy (because the US economy is the one I am familiar with as a direct participant). Those who criticize need to be able to offer solutions. I have real, sustainable economic recovery ideas, but I rarely present them because I know almost no one wants to hear them.
Until total economic collapse forces us to take painful medicine, we’re not going to go that route. Nevertheless, I have presented economic recovery solutions from time to time, so that when our circumstances become economically dire enough to force us to take our medicine and face our pain, maybe some of these will come to mind. I also share them from time to time to show I am not just a critic who has no better answers than those he criticizes. I share them now because the Federal Reserve has just reinstated its program of palliative care for a terminal economy. Once again, we are heading right back into the Fed’s old tired answers that have failed to accomplish anything other than dulling our pain for the pasts decade, just as I’ve said we would.
Because most people will not like my answers at all, I give them reluctantly. I’ll give criticism where it is not wanted because I have to suffer the lunacy created by the financial establishment’s wrong answers every day — answers that assure every day the gap between the top 1% and all the rest will grow. I am less inclined to give advise where it is not wanted.
My solutions require we bear the pain involved in correcting the numerous laws embedded throughout our systems. What the hoi polloi and politicians want is a quick and easy fix, which is exactly what the Fed has tried to deliver over the past decade. FedMed may not have seemed easy on the surface, given that it took a decade of effort, but it only took a decade of effort because it was not a solution to begin with. It was a temporary fix — a fix of drugs.
It was life support, and without corrective surgery, life support is just fake life. The patient remains dead, as in incapable of sustaining his or her own life as soon as life support is removed. We saw proof that the patient was still dead throughout the past two years as the Fed removed life support and the patient grew pale. Then Trump jumped in with tax-and-spend resuscitation (but, again, no surgery to remove our many cancers). That, too, failed to bring recovery. At the same time, the Fed started to actually suck the blood it had transfused into the patient back out, so the patient began to die. Last fall and again this September, we felt its death throes.
The Fed’s recovery program was never capable of delivering a sustainable recovery — just endless dependence on the Fed (which assures the Fed’s continued power unless people see through Fed fakery to recognize the Fed failed. FedMed wasted a full decade, doing nothing but re-inflating old bubbles with new money and creating new bubbles along the way due to spillover.
With that said, here are twelve real solutions for which the financial establishment has no stomach and neither does most of the rest of the citizenry of this world; but I think a few ready readers here will see the need for these tough measures that accomplish actual correction of chronic economic problems.
Real steps for sustainable economic recovery
My recommended solutions for economic recovery won’t trickle down to everyone by helping the rich get richer. They cannot be found in the Fed’s cheap and easy answers, nor in the equally cheap and easy answers of modern monetary theory, as espoused by socialist revolutionaries such as AOC, Sanders, Warren and some other Dems. Everyone wants to take a pill and get better. There are no easy answers.
The following are difficult surgeries that likely involve complications and certainly involve pain and a lot of therapy afterward, but they can bring durable recovery:
- Solid markets require that we curtail purely speculative stock trading that turns Wall Street from simply being a marketplace where one can buy and sell ownership in corporations into nothing but a casino for the rich and their expensive algorithms to out-game each other.
- We must also urtail the most speculative practices that turn commodities exchanges and foreign exchanges into nothing but casinos.
- Enduring economic recovery requires that we reform banking at its core and restore regulations — first of all Glass-Steagall, which created a firewall between banks and the stock market. We especially need to keep all central banks entirely out of the stock market and probably out of bond markets via major central bank reform. It is not their place to save markets or manipulate economies or to create jobs. Because they have infinite, nearly unrestrained capacity to manipulate any market they play in, they must be kept out of markets for markets to function as capitalist systems. The function of central banks should be creating stable money, nothing more.
- If we want a sustainable economic recovery, we need to rewrite corporate laws so they do not provide scoundrels with shelter from full personal financial liability for their mismanagement. (If you can’t take the heat of personal financial liability for gross mismanagement or illegal management, don’t become a CEO or a corporate executive or corporate board member. I don’t care. I won’t miss you. Your income should not be sheltered from your mistakes. Mine isn’t!)
- Sustainable economic recovery requires ending government deficit spending and actually living within our means. That means the US needs to stop policing the world and stop seeking to change unwanted regimes in America’s supposed best interest (which regime change never brings about because it just creates a world full of new enemies). We need to face the reality that we are not able to pay for that nonsense, and we do not pay for it now. We force others who are not alive yet to pay for it. As we end loyalty to the Warfare Party, we also need to end loyalty to the Welfare Party. We have to stop providing welfare we don’t actually pay for out of our own pockets. You are not generous to the poor when you help them with your children’s or grandchildren’s money. Stop pretending you are strong (militarily) or generous (socially) with other people’s money.
- Curtail immigration, which suppresses US wages (as is intended), by putting those who hire illegals in prison, rather than jailing the poor illegal aliens or building walls. Walls are a fake solution that merely attempts to avoid the real solution. Jobs will dry up quickly when we start imprisoning the employers upon their second offense (fines for the first discovery of offenses). The illegals will pay to transport themselves home voluntarily (or walk the long road) so that we’ll need no expensive and ugly, nature-destroying wall because illegal traffic will be reduced by over 90% when there is no economic opportunity for illegals. The problem will become manageable without a wall. We do not have a history of welcoming immigrants in order help aliens. The US encouraged a huge number of immigrants because of the Louisiana purchase and other big land grabs thereafter as a way to occupy the land in order to hold it against Indians and other colonizing nations. (Let’s be honest. Holding those lands required massive numbers of people who would pledge their allegiance to the US who would relocated into those millions of acres of land.) We also have created an illegal status for immigrants then turned a blind eye to their presence as a way of creating a true peasant class that has none of the rights of the landed gentry. That said, I am 100% for loving the immigrants who have already been let in legally. We are not going to do better as a nation by alienating ourselves from people who are already here or by hating each other. It is ludicrous to think that markets will do better or the overall economy will do better when people hate each other, and who cares how the economy does if society is riddled with hatred? Such a society doesn’t deserve to continue. However, ending excessive immigration as a supply of cheap labor will go a long way to softening hatred. You cannot force people together as a means of teaching them to get along. Forced social engineering creates a lot of animosity. Love cannot be legislated by jamming people together. Besides, our nation is overpopulated and overburdened with the welfare needs of the world. (Since we have created an economy around all this cheap labor, this may need to be phased in over time, to allow people to adjust, but that means there must be solid resolution to carry out the phased changes and not using phasing as a path to avoidance.)
- That also means ending all welfare for illegal aliens — no medical, not even for children, no education for the children, no temporary housing for, etc. Just leave. We owe non-citizens nothing, and none of us are actually paying for all our government is providing as we pretend we are. If there are no jobs and no welfare for anyone who is not a legal citizen and no government housing, people will leave on their own. That means you won’t have to process them through courts, freeing the courts to focus on legal immigration. Denying illegal aliens all welfare is perfectly moral and ethical because 1) They have no right to be here in the first place and are breaking the law by coming here, so no one has forced austere conditions on anyone; such conditions are entirely self-imposed when one chooses to illegally cross the border; 2) aliens have legal channels through which those who need asylum are required to come (which probably need to be improved and could be improved if we weren’t dealing with such a huge inflow of economic immigrants); and 3) you’re not paying for this supposed generosity with your own money now anyway but with the firepower of future generations, saddling them with mountains of debt to solve problems in your world today with their life’s energy just so you can feel good about yourself. That, in itself, is highly unethical! What right have you to leave behind debt for your pretend largesse? When we are back to paying as we go, we can see if there is room within that restriction to help others beyond our borders.
- Sustainable economic recovery means equitably shared burdens. We must permanently end trickle-down economics by terminating the special low capital-gains tax rate that is the heart of trickle-down economics. That and the Fed’s method of creating money by giving to bankers are the main engines widening the gap between rich and poor. The rich do not make their money off of ordinary income — wages or salary — and there was never any chance they would reinvest their tax savings from capital gains — where they do make their income — into creating new factories. Why would you buy land, then fight legal land and zoning and environmental battles, then pay to design a factory, then to build the factory, which will take a couple of years, and then hire hundreds or thousands of people who are liabilities walking, in order to fight labor battles forever, and hire accountants and lawyers to conduct daily operations, all so you could wait ten years to see your first dime of profit if there ever is only to pay higher taxes on that profit than what you’d pay if you just reinvested in stocks in companies that already exist??? No one would ever do that! The whole concept is a ludicrous fantasy. Giving tax breaks on capital gains actually makes sure that hard path to wealth will never be taken! Trickle-down economics has been a lie from the get go.
- For solid economic recovery, you have to apply any future tax stimulus to the 99% and never again to the top 1%. I wouldn’t recommend any tax breaks right now, but there might be times when tax stimulus is helpful, and this is the way it needs to happen IF it happens. First, we need to make sure those breaks pay for themselves. That means we have to cut costs that do not contribute to the economy during those temporary times. (They can be temporary cuts to non-essentials that match exactly to the temporary tax breaks. The cuts must come as part of the break.) Money will always bubble up to the rich, but it never trickles down because there are too many filters on the way down. Trying to create economic stimulus on the supply side is pushing a string. You have to pull the economy along by creating more capacity for demand. There are already endless needs and wants on the demand-side economy (translate consumer economy). So, the poor and the middle class will certainly buy things with stimulative breaks, and that means the rich WILL create more factories or more service businesses, and therefore, more jobs, and may have to offer higher wages to get the employees because that is the ONLY way they will ever get their hands on that money. Never give them a tax break on some vain promise that they will do that. Give any break at the bottom to create more customers for the rich, and make the rich work for their share.
- For the present, raise taxes back to where they were in the Gingrich-Clinton era when we actually had a balanced budget for the only time during my 60-year life and were paying down the debt. Those two opposing forces found the sweet spot of equilibrium on the tax-revenue curve where tax revenue is maximized. Paying down debt, however, has become forever impossible at this point if we do not also …
- Legislate a debt jubilee. The mountains of debt piled up during the Bush, Obama and Trump administrations are far beyond payable. So, admit the truth, clear the slate, and bear the pain. There will be lots of it. (I put this after all of the above because without all of the above, it will be useless as we’ll just go right back to where we are now. So lay out all the hard work first.) Everyone keeps what they have physical possession of, and all debts are wiped clean, including government debt (or we and all future generations will remain debt slaves for life). That includes the bonds you own as part of your retirement. To a large degree, the loss of wealth in instruments like bonds will be offset by the losses of your own liabilities like mortgages — not for everyone of course. National bankruptcy is going to force this upon us eventually anyway as we are too far down an unsustainable path which is why the Fed has just decided it will monetize the US debt forever. I want to make sure the little people benefit from the debt elimination and not just the rich. The debt crisis that is going to play out from the Fed’s return to loosening the economy via renewed debt expansion will force a reboot anyway if were don’t plan for one and do it now. Without a reboot, we are forcing all future generations to carry an ever-growing debt burden because taxes no longer even cover the interest on the national debt. We need to take the full correction of out own debt excesses upon ourselves.
- All of that will involve huge financial crashes in banks all over the world, but the blow can be softened by having central banks (if we even keep them) create money in what remains of financial institutions in the amounts lost by every depositor for a fresh start on money supply, too. Creating money to replace money that gets wiped out creates no inflation. We saw very little inflation when the central banks created far more money than what was wiped outdoing the Fed’s Great Recovery that has now failed. We must let all the bad banks simply fail, while rewarding the good ones that remain by creating new deposits in the banks that remain, sufficient to offset the losses.
Why recovery will continue to elude us
Of course, we will never try any of those ideas for economic recovery unless and until our current systems utterly fails, forcing us to deal with the painful corrections to our generations’ own rampant greed and foolishness — the corrections that need to happen to create a truly sustainable economy. Until then, we will deny that any of this needs to happen so that we can enjoy playing in our bubbles, enjoy our structures of bubble wealth that are created over caverns of debt, avoid the pain of correction, maintain our greed, keep pretending we are strong enough to fight the whole world at once, and keep pretending we are generous when we provide welfare to aliens out of our children’s piggy banks, so that we can keep our candied tax breaks and our undeserved self-respect.
Even now, the Fed is returning this very week to more of what it has done before. It’s QE4ever, Baby! (That is exactly as I said the Fed would do and as quickly as I said the Fed would do it, so no surprise here.) When that piles up like a train wreck, as it will in a hurry this time, we’ll look to the next easy Fed answer, which is what I’m laying out in my Patron Posts — global answers to a problem created by global bankers that will assure they retain their control and their wealth. What we will actually do, in other words, is maintain our economic denial. People will accept that because it is easier to trust the experts who proffer painless solutions, and that is why I rarely bother to write out real solutions for sustainable economic recovery.
As noted in my last article, “Fed Loses Control of its Benchmark Interest,” bank liquidity strains are written all over this month’s troubles. Some may find that hard to believe because there is so much hot air (fiat money) still floating the system from a historical standpoint. There is a sound fundamental reason, however, that a lot is not enough. The diminished money supply is simply not enough to keep the world’s huge asset bubbles (hot-air balloons) moving around. Simply put: if you move or convert a LOT of big assets, you need a LOT of liquidity in banks to handle those transactions.
The Fed originally pumped up money supply in order to intentionally create these asset bubbles. They, of course, denied they were “asset bubbles” by calling them a “wealth effect,” wherein the Fed stated its intention was to pump up stock and bond markets so the wealth created in those markets, especially stocks, would trickle down to the rest of the economy. However, the new money didn’t trickle. It just recycled in those assets, bidding their values up even higher. As a result the Fed blew up huge asset bubbles — bubbles in that they were unsupported by economic reality and were just puffed up by free money looking for places to go. It didn’t create new products or new factories; it just went around in not-so virtuous circles.
So, tell me this: how can the Fed ever have reasonably expected it could suck the hot air out of those inflated markets and not deflate the bubbles? The Fed believed it could release the hot air (massive quantities of money created out of thin air) without deflating the hot-air balloons it created. I’ve always thought the idea that they could reverse their magic without reversing its effect was plainly illogical — so blatantly illogical that I could hardly believe they thought it was possible, let alone that the whole world would go along with them on that.
They stated as being their endgame clear back when Bernanke was chair. Their hubris or naiveté in believing they could pull that trick off before the watching world, caused me to say for years they had no endgame. Their recovery program was unsustainable because it would implode when they started reversing the magic. You cannot lift the entire economy with hot-air balloons and then think you can suck the hot air out and that the economy will somehow magically keep floating. It’s absurd!
Thus, what I think we are seeing happen right now is that the size and quantity of those assets exceeds the money supply that once blew them up. When more of those assets (a lot more) were moved (or converted to actual dollars) this month than usual, the banks were unable to move (or convert them) because there isn’t enough in reserves to back up the bubbles if too much moves from bubble to bubble at once. (That would be a larger-scale version of the problem you have when a bank doesn’t have enough reserves to back its loans or deposits if too much money moves at once.)
This liquidity crisis is still growing in that demand each day continues to exceed the Fed’s creation of new money. A liquidity crisis of this kind can create a terrible recession on its own if the Fed doesn’t get it back under control (and there is no evidence that they grasp what they need to do or, at least, that they want to admit it or want to do it). If banks don’t have enough money to carry out overnight transaction, you could see runs on banks and all kinds of other problems if people start to believe the pipes are getting clogged because they see the movement of their needed funds slowing down.
The Most Important Chart in the World
Quantitatively, this can be illustrated in the chart that is weighing most heavily on one bullish investor’s mind. Kevin Muir, strategist at Toronto-based East West Investment Management and author of the Macro Tourist blog, is unloading stocks because of this chart from Bianco Research showing the baseline interest rates of central banks around the world, which Muir refers to as “The Most Important Chart in the Whole World”:
The chart, says Muir, “Sums up the main problem – the US is too tight for the world economy.” It’s a complex graph, but the point is that the US dollar — in spite of the fact that it is the global currency — has the highest benchmark interest rate of any significant currency on earth. On top of that, the US sucked major money out of its reserves via the Fed balance sheet unwind, which no other country on earth has done. So, while everyone is inflating their already bloated asset bubbles and their balance sheets, the US has tightened the world’s most-in-demand currency.
“Want to know my main worry? The country with the world’s reserve currency has the highest policy rate out there in the developed world,” Muir wrote, pointing to the chart above. “If we look back over time, this has often coincided with market crises.”Macro Tourist
Last week all sorts of shenanigans occurred in the repo funding markets…. Yeah, I know the argument that it’s not a big deal as the Federal Reserve was able to provide the liquidity the market was needing. But I worry about why they needed that liquidity. What changed in the financial system to cause that sudden need…? I worry there is too much hubris on the Fed’s part. I worry that just like the recent yield curve inversion, they are busy coming up with reasons why this time is different.
I think it may be as simple as you cannot move around the world’s largest hot-air balloons without a gargantuan money supply to make those moves. It is not just US bubbles that trade in US dollars, but all of these other bubbles in other nations, which trade mostly in their own currencies but interact via exchanges, etc., with the US dollar. If you suck the hot air (US dollars) out of all the world’s bubbles, I think you get a lot of flubbery balloons that no longer float along so nicely. Slowly, you fall out the sky into the darkness below. It could result in balloons starting to settle all over the world.
One argument for last week’s extraordinary plunge in bond prices, which I explored as something that might happen this time of year in one of my earlier Premium Posts, was that bond prices could get crushed by the supersized US treasury auctions planned for September and October as the government makes up for its inability to issue new debt during the debt-ceiling standoff.
While pointing out the concern to patrons, I decided in the end for my own investment purposes that the Fed’s termination of quantitative tightening and its return to reducing interest rates would likely offset the impact of the government’s sudden debt expansion. Evidence is solid so far that the ballooning treasury auctions have not been the cause of the sudden collapse in bond prices (rise in yields).
(I also got out before the carnage of last week.)
So what caused the bond breakup?
I believe the sudden change in the bond market since September 4 has been due to a few factors.
First, the violent momentum trade in stocks in the past week became the biggest stock rollover of its kind since 1999. The change in momentum trading means investors are defensively selling off growth stocks (stocks that have been rising on a bender) and rolling the money into value stocks (stocks of good companies that have remained underpriced compared to the rest of the market). That sea-change in market factors likely forced numerous managed funds (such as risk-parity funds that guarantee a certain ratio in stock values to bond values) to sell off bonds, whether they wanted to or not, just to maintain their promised balance between equities and securities.
Second, at the same time the momentum rollover was going on, corporations leaped into the bond market with their own sudden record bond issuances to fund future rounds of stock buybacks or refine current debt at lower rates. Inflated supply means raising yields to attract additional buyers into the market. Another way to look at that is that bond prices have to fall to attract buyers.
Third, as Goldman Sachs also noted, the rotation, itself, came because…
Perceived improvement in US-China trade negotiations and better-than-feared economic data helped ease investor concern about an impending recession, lifting bond yields and sparking the market rotation.
What I’ve realized about the stupidity of the stock market with respect to how it rises every time Trump tweets some inane and fake promise about the end of his China trade war is that algorithms were probably not created with any ability to discern the truth value of headlines that are input into their data streams. I presume they take all data at face value. So, garbage in, garbage out.
If Trump says China is about to accept a trade deal, the algos bid the market accordingly. Since presidential headlines are undoubtedly given high weight in the formulas, that makes it easy for Trump to tweet the market up. (Of course, I also began writing because mainstream financial reporters/commentators seem to readily accept what is fed to them at face value, too. I found it frustrating how readily they would just parrot the noises they heard.)
Finally, inflation may be getting factored in. Treasury yields, especially bonds — because they payout over long time periods — have to factor inflation in dollar-for-dollar on top of any yield investors want to see. The bond market moves yields to track with inflation, and inflation just took its largest jump in years.
That could be due to transitory tariffs, but it’s hard to say. In fact, tariffs don’t seem to be the most proximate cause because inflation rose most in services, particularly financial services, not in goods sold. Inflation in services for the first two quarters of 2019 rose 5.5% year-on-year with finance and insurance having risen 32%! Core inflation rose 2.39% year-on-year in August. It’s had similar YoY rises in July 2018, February 2016 and April 2012, but August’s year-on-year rise was the highest in eleven years (since 2008), though still not that significant unless it continues to rise. (See Wolf Richter for more on recent inflation.)
Bear in mind, we’re going with the inflation numbers the Fed uses for its decisions and that the bond market steers by, not your actual daily life effect. By those measures, overall inflation was not bad at all. Because energy costs sank, core inflation (the Fed’s preferred measure) was only a little higher than its past highs. (Again, I recognize the numbers the Fed and markets steer by don’t bear much resemblance to your daily reality with tuition costs, food, housings costs (poorly calculated by the Fed) and fuel costs.)
Since the bond market got a whiff a week ago of core inflation rising above its previous peaks over the last decade, maybe that added to its troubles this past week. It’s possible the bond market sees an inflation trap coming where, on the one hand, bond investors have been telling the Fed interest rates need to go down more; but, on the other hand, if bond investors see inflation rising, bonds could quickly reverse to make it so the Fed cannot cut rates, lest bonds anticipate more inflation and rise even more, causing the cut in the Fed’s rate to actually tighten the economy by raising financing costs. Treasury markets can exhibit a hypersensitive, knee-jerk reaction to a change in the inflationary picture.
(Note that, if inflation starts rising, the Fed’s rate cuts will actually hurt the bond market because they’ll be seen as being likely to drive inflation even faster. For that reason, the Fed may be less likely to cut rates because driving bond yields up to match anticipated inflation is counterproductive in terms of economic stimulus, as is inflation, itself. That would normally be the Fed’s concern; however, as reported in my Patron Posts, the Fed has said it may, in that kind of situation, choose to run the economy hot if necessary on an inflation basis as running above 2% now “makes up” for inflation’s decade-long run below a 2% average. However, reactive bond rates means running the economy hot in terms of inflation won’t help because numerous financing costs that are particularly effected by the ten-year bond rate will also rise. If the Fed does hold back on interest-rate cuts because inflation is rising, its stock-market step child isn’t going to love that and may throw a tantrum. That’s why I say this could turn into an inflation trap for the Fed — stagflation if the Fed goes one way and a stock market that is utterly dependent on Fed largesse throwing a tantrum and crashing if the Fed goes the other way.)
Bonds not bursting due to a treasury-induced meltdown
The fact that little of the current hit to treasury prices has anything to do with the larger government treasury issues can be seen in how the last three government auctions had rock-solid internals.
While yields rose ever so modestly in two auctions, the bid-to-cover ratio for all three of the last treasury auctions has been stable. (Meaning the treasury got a lot more bids than it needed to sell all the bonds it wanted to sell.) In fact, for one auction, the bid to cover was the best since June; for another it was only slightly lower than in recent months.
For the 30-year auction, the yield actually dropped to its lowest in three years!
The percentage of indirect takedowns (such as treasuries bought by foreign governments) in each auction held about the same or actually improved, leaving US dealers holding fewer bonds they have yet to sell.
In all, a stable, maybe slightly improving picture. Take the much-watched 10-year for example:
The uptick in yields was historically slight when compared to numerous other yield moves from one auction to the next in the same graph, and the bid-to-cover actually improved.
Bearing in mind that the US Treasury stated it would accomplish all of its debt-ceiling makeup this month and next, these are good results as far as treasury auctions go.
It’s a global bond breakdown
The fact that the plunge in bond prices is not constrained to the US is another indicator that the big change in the direction of the bond market doesn’t have much to do with treasury auctions. The Austrian hundred-year bond, which has been trading at deeply negative rates plunged in price (soared in yields) this month, too — so much that it entered a bear market in a breath-taking two weeks:
That looks like a melt-up where prices soar and then crash.
Likewise with the soaring problem in global negative-yielding debt, which had risen to a mountain of over $17 trillion as of August. In less than two weeks, it has plummeted worldwide to $14.5 trillion. Not a small fall for such a short time. So, something big is boiling over in the bond market worldwide.
Something wicked this way comes
Central banks are losing control, and are admitting they don’t even understand what is happening.
If you’re confused about what is happening, just as I am in trying to sort out where all of this turmoil is suddenly coming from, you’re in big company. James Bullard of the St. Louis Fed is also confused and seemed to admit recently that even the Fed doesn’t know what to make of the financial changes now playing out in the world:
The developed world had experienced a “regime shift” in economic conditions, James Bullard, president of the St Louis Federal Reserve, told the Financial Times. “Something is going on, and that’s causing I think a total rethink of central banking and all our cherished notions about what we think we’re doing,” he said. “We just have to stop thinking that next year things are going to be normal.”Financial Times
There is, in other words, no normal in our foreseeable future.
Even the central bank’s public narrative sounds confused. “Something is going on” does not exactly reassure one that central banksters have any better understanding than the rest of us about what is happening in their realm of finance.
You either have to believe they don’t understand the monster they’ve created (as Bullard sounds above) or that they are beguiling us into thinking they don’t know what is happening (making themselves look foolish) even as some insidious masterplan to crash the world plays out — the 4-D chess view. (As my readers know, I’m of the former camp; but either way gets you to the same serious trouble dead ahead.) The best one gets to, taking Bullard’s words at face value, the CBs are flying by the seat of their pants as they try to figure out why normalization of their policies proved impossible and scrambling to figure out what to do from here.
The banks appear to be losing control of interest rates and to be, themselves, controlled by market forces they can no longer contain or fully manipulate. Their policies clearly did not perform as promised, yielding a weak and unsustainable recovery that greatly widened the gap between rich and poor; yet they are already going back to them as if they will create anything more sustainable than they did last time. Our foolish leaders show all signs of being ready to go along with that, and certainly stock market investors are begging for it. Bond investors have, until recently, been pushing for it. CBs are going back because addicted markets demand it. (I’ll be continuing to explore the new emergency plans the CB world is plotting in the Patron Post I’m working on now.)
Even more peculiar than the admission above is the sound of banks that most benefited from the bankster bailouts of yesteryear now complaining that the changing financial world is the Fed’s fault due to its recovery efforts. Listen to Bank of America’s disingenuous complaint:
Ultra-easy monetary policies have led to distortions across various asset classes…. It [the Fed] also stopped normal economic adjustment/ renewal mechanisms by for instance sustaining economic participants that would normally have gone out of business….Zero Hedge
You mean like Bank of America? Economic participants like Bank of America and its ilk might have gone out of business –as they should have — if the Fed had not wrongfully interfered to sustain them (because they were “too big to fail”).
Find that an oddly candid admission? BofA goes on to even more bizarre admissions:
We fear that this dynamic could ultimately lead to “quantitative failure,…” which would in all likelihood lead to a material increase in volatility…. At the same time, and perhaps perversely, such a sell-off may prompt central banks to ease more aggressively, making gold an even more attractive asset to hold.“
O.K. I’m sure I never saw that coming. Talk about things you never thought you’d hear a major bankster say: “Buy gold; it may soon be worth more than our money.” That is the world we have now entered, which should tell you all you need to know about how perilous the present times are. Banks stating publicly that CB policies, if continued, will likely be a “quantitative failure” and will make gold more attractive than bank money? (And the banks are now set on continuing them with the European Central Bank having just led the new charge.)
As I’ve said for years, the Fed’s recovery plan never had an endgame, so the central banks are scrambling for an end game as their recovery crumbles into a myriad pieces, causing the banksters, themselves, to realize they may be facing “quantitative failure.” This clear failure that is already playing out led the head of foreign exchange at Deutsche Bank to boldly ask all kinds of stark questions at the recent Jackson Hole central-bank symposium:
Will the Fed/ECB buy equities? How far are central banks willing to distort underlying value, or is distorting value intrinsic to Central Banking as per the Austrian critique? How much are Central Banks going to be complicit in a collapse in fiscal standards, by buying public sector assets…? Has asset inflation hidden an even more meaningful deceleration in the natural rate of growth that will evident in the next decade? Is it the Central Banks job to do away with business cycle? And at what price? Are we witnessing … a great collapse in confidence and wilder big credit cycle, and greater long-term misallocation of resources?
Whoa! Those are some amazing questions for a high executive at one of the world’s largest failing banks (and one of the largest beneficiaries of central-bank largesse) to be asking. It would seem big banksters all over the world are now starting to see the problems manifest that I have always said were baked into their recovery plans. There is nothing happening in these realizations that was not posited on my site as a definite endpoint to the recovery plan we have been on.
The only hard part is sorting out whether the major moves in bond market right now mean the bond bubble is bursting or are something more benign. The certain part is the failure of central-bank recovery efforts and the banks’ current public struggle for direction along with their oft-stated concern about maintaining public confidence as their failures play out. Why should the public trust their next plans? (Obviously, it shouldn’t, but it probably will enough to allow them to happen, albeit with a lot more suspicion that makes those plans, as I’ve said from day one, all the more problematic in terms of efficacy.)
It’s interesting to see so much of what I’ve been writing about for so long now coming about. It’s also unfortunate.
Whether the present bond turmoil is the beginning of a glacial bond breakup or is just due to the rotation in stocks and trade concerns noted above, I don’t know. I’ll just say we had all better watch and be wary when even the biggest banksters can only say “something is going on” that may “likely” lead to “quantitative failure!” Maybe all will be fine soon in the bond world again, or maybe this great glacial ice flow is beginning to roll over — and we just don’t know that’s what is now happening because we’ve never witnessed something this big in order to know what it looks like!
On a related note, I’ll add that the sudden steepening of the yield curve that came about because of the past week’s bond carnage is makes my recession predictions all the more likely. As I’ve stated in a couple of previous articles, inversion of the yield curve cocks the gun for recessions, but the reversion back toward the norm, pulls the trigger.
Yes, recessions follow yield-curve inversions, as everyone now knows, but not before the yield curve reverts back toward normal. In fact, I’d say this is the penultimate forward indicator that needed to come in for my summer recession prediction to come about. (The ultimate being the first upturn in unemployment, which is also putting in signs of emerging soon.)
Whether the massive global bond bubble crashes first or the massive US stock bubble has always been a conundrum to me. What is not in question for me (at least, not much) is the recession we are entering and that the recession will take down stocks.
One reason I’m less sure of how and when the bond bubble finally implodes is that a recession may breathe new hot air into the bubble as the Fed reverts to more ultimately failing QE and interest-rate reductions. That QE will without a doubt be much less effective so may not last long before the Fed has to switch to even more drastic manipulations and controls, as I am teasing out this year from the central banksters’ own words.
Pretty good if you ask me. Most economic indicators this year have moved relentlessly in the direction of recession, and now the Cass Freight Index is saying a US recession may start in the 3rd quarter, fitting up nicely to my prediction that we would be entering recession this summer.Read the remainder of this entry »
Let me help remove the rose-colored glasses for anyone who still thinks GDP this year is good.
First, GDP growth in the first quarter was not “great” as I’ve heard some claiming. It was, by US historical standards, a little lower than mediocre. Second, the biggest tax cuts in history only got us down to 2.9% GDP growth for 2018. GDP growth had been pegged originally around 3.1%, but that was revised down, as is usually the case. Every administration tends to estimate GDP on the rosy side because bad news is swallowed easier the further back in time it lies. So, estimate high and revise lower seems to be the government’s perennial approach.
If you revise the number down after a little more the time has passed, people don’t care as much because they are now focused on the new number for the latest quarter. Revising actual GDP (not just the headline growth number) from past quarters down also makes it easier to show more growth in the present quarter. That means we are likely to see the second quarter’s number of 2.1% revised down to something like 1.9% when the third quarter comes in. That’ll make it easier to make the third quarter look a skosh better than it otherwise would.
Either way, the latest number is far from being the “healthy pace in the second quarter” that one market commentator I read recently claimed we just saw. A reading around 2% is actually a pathetic number for a number of reasons. When I was young, we considered that a pre-recessionary number. It was an amber light that said the economy was going soft.
GDP growth looks worse in context
It is when one considers all it took just to get us to this 2.1% growth, that GDP growth looks particularly pale compared to most years since the Great Recession. 2018 was the year of our discontent when the stock market crashed to a bear that is still growling around the market (what with Morgan Stanley saying 80% of the indices it monitors remain in bear mode since last year). Yet, 2018 was the first year of the most massive trickle-down tax cuts in history — bigger than the Reagan trickle-down cuts and bigger than the Bush trickle-down cuts! That makes 2.1% GDP growth a truly milquetoast number at best.
Add this to the context: We got there after government “stimulus” spending that put all other deficits in the past to shame. We ran the largest deficit the world has ever seen during a time that was already growing at 2%! We’ve gone exactly nowhere since Obama who also averaged around 2% GDP growth. (See graph above.)
With so much government deficit spending, particularly in the corridors o military-industrial complex, it should have been easy to accelerate the US economy like a rocket ship, as Trump has claimed we could have done with the Fed’s help. Sure, we have had slightly higher deficits when trying to engineer our way out of recession (even then only once), but this deficit came after years of supposed “recovery” when we were already growing with unemployment already at all-time lows. It should have been rocket fuel. And we got nothing!
We poured fiscal gasoline on the entire economy and hit it with a flame thrower, and this 2% GDP growth is all we got for it! That is worse than no bang for the buck! We actually got a decline from the second-quarter growth rate a year ago! In fact, we are essentially right back where we were on the day Trump took office.
All of this speaks to how badly the Fed’s recovery failed as soon the US economy was taken off Fed life support because that is the big force that coincided with all those tax cuts and that stimulus spending. Throughout 2018, the Fed kept raising interest rates and reducing its balance sheet.
Being certain the Fed’s attempt to “normalize” the economy would create a downdraft so massive it would even overwhelm the Trump Tax Cuts and Trumpian-sized stimulus spending is why I have referred to this period as the Fed’s Great Recovery Rewind. The economy spiked briefly then sank rapidly right back to where it began, and the stock market crashed. One might look at it this way: even the new support of mammoth corporate tax cuts and stimulus spending couldn’t save the Fed’s fake economic recovery once the Fed removed its artificial life support from the economy.
The trickle that didn’t
It is not, however, simply that the Fed failed, as Trump would like to place the blame. Putting tax cuts on the supply side (in the hands of the rich) does not stimulate the economy. It stimulates the stock market and drives up asset prices. The Fed has stated that it intentionally orchestrated its money creation to channel through the supply side as well in the hope that driving asset prices up would cause capital investments, which would stimulate the general economy. So, the Fed backed off its supply-side supercharger at the same time the government kicked in supplyside stimulus.
What we saw during the Fed’s supply-side biased stimulus, however, was that almost all of its new money remained in the hands of stock holders. As far as I was concerned, it was a foregone conclusion that it would. Here’s why: If you put all of the tax cuts on the demand side, there would be only one way the rich could get their hands on those tax cuts. They’d have to make things and market them to entice the demand-siders to spend their tax savings in the direction of the rich.
Do you think the rich would just ignore this potential for new markets? If they did, I can assure you entrepreneurs would rise from among the poor to seize the day. Because the demand side (the consumer side) was empowered by the tax savings, they’d be able to demand the products the rich or the new entrepreneurs try to entice them with. That is the only way the rich would have reason to build factories and hire more people.
I guarantee you, tax cuts will always bubble up to the higher strata of society more readily than they trickle down. Far too many filters stop up the channels on the way down for anything more than the slightest trickle to make it to the bottom tiers — not even enough to slake your thirst.
Don’t you find it contradictory that we consider the US economy’s greatest strength to be the consumer and, yet, we repeatedly make sure the consumer who drives the economy gets the least of the tax cuts? That strikes me as the kind of self-contradictory thinking that can only be explained by greed.
If you think 35 years or so of repeated episodes of supply-side economics have trickled down to the demand side of the economy, you might want to take a look at how the average consumer is really faired over that span of time in this last article I wrote: “Bubble Bubba Isn’t Doing Fine Anymore.”
This month the economic expansion brought to you by your Federal Reserve and by US government largess becomes the longest expansion in the history of the United States! That’s something, right? Something? Let’s take an honest look at what we now call great.Read the remainder of this entry »
Laughable Larry Kudlow, as high priest of the Laffer Curve, has long been servant of “King Dollar,” as Larry has often reverently referred to US currency. The Laffer Curve is the central creed of trickle-down economics. It’s a bell-curve that demonstrates how lowering tax rates actually increases tax revenue to a certain point by stimulating the economy and then, beyond that point, lowering taxes lowers tax revenue. (If the latter were not true, the highest tax revenue would come in at a tax rate of zero, which is ludicrous. So, logically, you know at some point tax-rate reductions start to result in diminishing returns for revenue.)
Where there is room for disagreement is in determining where the high point for the revenue curve lies on that continuum between a 100% income tax and 0%. Larry places it a lot closer to a 0% tax rate than I would or than Larry’s former boss, David Stockman (head of Reagan’s budgeting office) places it. That’s because Larry lusts over tax rates that fill his own pockets, not rates that optimize the balance between government revenue and economic stimulus. (Just part of the voodoo in Voodoo Economics.)
Larry and his sidekick Stephen Moore are now on a journey to cajole the Fed into doing everything Larry has ever said the Fed should not do — dethrone King Dollar. Laffable Larry’s change of heart has come about because it is now unavoidable fact that the tax plan he concocted with Stephen Moore, based on Larry’s beliefs about the Laffer Curve, is not only failing to pay for its own tax breaks as Larry & Moore assured the world it would, but also not doing a whole heck of a lot to stimulate the economy any more.
Larry & Mo’s tax plan boosted the stock market … for awhile … but GDP got only one boost in the second quarter of last year and has been falling ever since.
This quarter, GDP growth is expected to come in well below where it was when Larry & Mo’s plan became law (diving to somewhere around 1%). And that is why Team Trump — the Trickle-down Trio of Larry, Mo, and Surly (the orange one) — is working the Fed to get some monetary salvation for their damned tax plan.
(I’m using the word literally because it is a tax plan from hell that is breaking the government financially, failing to stimulate the economy anywhere near as much as promised, and that ought to be damned because it is making the 1% wealthier at a faster clip than they have ever known while Larry is running at an even faster fast clip to the Federal Reserve for financial salvation in the form of more nearly free money.)
The White House pressure on the Federal Reserve heated up again on Friday after President Trump’s adviser Larry Kudlow said he wanted the U.S. central bank to “immediately” cut its benchmark interest rate by 50 basis points.MarketWatch
“Immediately” doesn’t sound like there is any great need, and Kudlow has often assured us the economy is going to come in like gangbusters.
The Fed, on the other hand, is only interested in holding interest rates right where they are now for the indefinite future, though numerous prognosticators, including those far more bullish than myself, are betting the Fed cannot. All the while, Chairman Powell insists he is paying no attention to the White House.
Krazy Kudlow’s prayerful petition to the Fed
King Dollar is the divine ruler in whom Larry Trusts. That is why the dollar has “In God We Trust” inscribed upon it. It is Larry’s god. It is many people’s god, but Larry is now beseeching the Temple of the Dollar, otherwise known as the Eccles Building (or the Fed’s HQ), to diminish the value of his god by dropping interest rates by the largest change in one drop the Fed has made in a long, long time.
Larry is begging. Never mind that only a few months ago Larry was pontificating about the superior health of the American economy. If you believed him then (in November) and now (when he blames economic decline on the Fed going to far with interest increases), then you are forced to believe a mere quarter-percent raise in the Fed’s target rate (in December) snuffed out a vibrant and potent economic expansion!
Right now Larry claims the economy needs the devotion of the Fed to greater stimulus to the tune of dropping its interest target half a percent. (Consider that, for the past seven years, the Fed hasn’t moved more than a quarter of a percent at a time.)
Axios reports that Kudlow “would love to see” such a downward move, adding that the central bank shouldn’t have ever set overnight interest rates past 2%…. The problem for Kudlow in calling for this immediate rate-cut is this – the last three recessions all saw a Fed rate-cut three months before they started.Zero Hedge
So, the economy that Larry has repeatedly said is doing admirably well under his plan cannot survive a Fed benchmark interest rate above a “highly accommodative” (as the Fed likes to call its relaxed monetary policy) 2%. What is Larry so worried about? Normally, the Fed has never dropped its prime lending rate down to 2% unless the nation is already deep in a recession.
You can see in the following Fed graph that a rate of 2% never happens outside of efforts to recover from recessionary times. In fact, a rate that low rarely happens at all. Moreover, as Zero Hedge noted above, the first drop in interest from any level after an extended period of rate increases almost always happens shortly before a recession. Never has a reversal from a protracted period of raising the Fed Funds rate to dropping that rate happened when the Fed’s rate is already this low:
Larry is imploring the Fed to do something it has never done before! How desperate is that?
Why the desperation?
Sven Henrich of Northman Trader calls out the obvious regarding Larry’s laughable claim that the economy is great but needs major stimulus:
My take here: The budget is blowing up in their face and they know it. The tax cuts did not pay for themselves and deficits are ballooning, federal spending is the highest in 10 years as tax receipts have been slowing. It’s a receipe for budget disaster. Don’t give me this two faced nonsense: “I don’t think the underlying economy is slowing” when everyone with a brain and basic understanding of data knows it is. It’s cheerleading and playing the confidence game, while at the same time demanding a 50bp rate cut by the Fed, an utterly ridiculous suggestion especially in light of the earlier statement.Northman Trader
As Sven goes on to argue, you have to be really “worried about a lot of things” in order to utter such a request out of one side of your mouth while you are praising the strength of the economy under your tax cuts out of the other side. You have to know that is going to look stupid and irreconcilable, so you have to be desperate to hope that somehow you can pull it off.
Trump wants Moore, Moore wants more
The Fed already acquiesced to President Donald Trump’s efforts to humiliate Powell into stopping the Fed’s plan of raising interest rates and downsizing its balance sheet (methods of tightening the monetary system). The Fed learned a harsh lesson that the economy (fake as the recovery has been) cannot survive any more tightening so it abruptly curtailed its plans to continue down that path just as The Donald required.
Desisting from damaging the effete economy, however, was not enough capitulation to the president’s requests. So, now the president is appointing a henchman to infiltrate the Fed and cajole it internally into re-relaxing monetary policy. One might well say that, according to Larry, the nearly flatlining economy already needs a major shot of adrenaline to lift it back into the land of the living.
Stockman warned, as did I, that there was never a snowflake’s chance in a modern university (I mean hell) that the Trump Tax Cuts would ever pay for themselves or that the economy would ever survive a move back to normal monetary policy by the Fed. Yet, the government is even ramping up its deficit spending. It has spent more in the first five months of Fiscal 2019 than it did in any five-month period since 2009 during the Great Recession. (At the same time, federal tax revenue has hit a four-year low.)
Remember that was a time the Washington Post billed as “what may be the biggest government bailout in American history,” after the biggest economic downturn in modern history. That same fiscal year 2009 included the Obama stimulus package, which Obama called “the most sweeping financial legislation enacted in the nation’s history.” For further perspective consider that, at the time, the government believed the net longterm cost of its recovery programs would come to “increase federal budget deficits by … $787 billion over the 2009-2019 period.”
Hah! The federal government is now running at almost that deficit level every year now just to maintain normal annual operations. Its budget is a sea of red ink as far as the eye can see. Yet, the Trump government believes it needs to maintain that spending in order to get re-elected because … well, imagine how much worse the economy would be doing if all that fiscal stimulus ground to halt, stalling the great military-industrial complex and all the jobs created by creating all those weapons of mass uncreation.
So, it is no wonder that the Trickle-down Triumvirate is demanding more stimulus. More, more, Moore! Since Powell claims he is paying no attention to the White House, some infiltration was necessary that would put the Trump tax planners directly at the Fed’s cerebral cortex. Thus, Trump has anointed Stephen Moore to fill one of the empty posts on the Federal Reserve’s Board of Governors. (In the three-headed team’s defense, it is not as if they can make the Fed hydra any more of a monstrosity than it already is.)
To reassure us all that the White House is not staging a Fed coup, Larry said of Powell,
He’s our chairman. We’re not going to displace himMarketWatch
“Our chairman?” As if he’s wholly owned by the White House?
“Not going to displace him?” As if they believe they even can?
Moore has assured us all that his monetary policy is a perfect match to President Trump’s monetary policy. That assurance should not leave us thinking that Trump is trying to implement his own monetary policy for his own political reasons via an inside operator. To assuage our concerns, “Growth Hawk” Moore, as he calls himself, says repeatedly in the embedded video below that he believes in his own independence (though he says nothing about Fed independence, which must, therefore, be less important).
Am I distrustful of human sincerity or contemptuous or distrustful to think Moore is being embedded in the Fed to steer it by his own independent actions toward more economic stimulus throughout this laborious presidential election cycle? What incumbent president would want to do that? According to Trump’s endorsement, Moore is joining the Fed because he is “a very respected economist.” (Not by me. Moore is an economist from the trickle-down Heritage Foundation, and I find him as dizzy as Lunatic Larry.)
Federal Reserve nominee Stephen Moore called the Fed’s December interest-rate hike “a very substantial mistake” while adding that he looks forward to working with Chairman Jerome Powell to help ensure the U.S. economy continues to expand.Bloomberg
Sure he does because the plan he and Larry concocted certainly isn’t doing the trick! So, they need to get into the Fed to “help” make it happen there.
“I really believe we can have 3 to 4 percent growth for next five to six years.”
That’s what he said last time, and the Fed’s plans to keep raising rates and to start reducing its balance sheet were already widely known.
I’m glad, however, to hear all the president’s men declare the Fed’s monetary tightening was a “very substantial mistake.” I’ve said for years that the Fed will come to realize its tightening is a substantial mistake but will realize it too late. (Actually, the mistake was starting down the path to recovery that the Fed chose in the first place, but my point has been there is no exit that doesn’t crash this fake recovery, which is why I call it fake. It is dependent forever upon huge fiscal and monetary stimulus that is not sustainable, and THAT is what we are now seeing.)
With the president scurrying to insert his own tax planner into the Fed and Larry crying in public for the Fed to cut its interest rate target half a percentage point (a 20% reduction of the 2.5% rate), I’d say it sounds like they all believe the Fed learned too late and went too far.
Moore said that Powell and others members of the Fed board “should be thrown out for economic malpractice’’ after raising rates….
The Fed’s attempt to return to normal, not only killed its recovery (which was totally predictable) and cropped the stock market by 20% last fall, but it zapped all of the mojo out of the great Trump Tax Cuts. So, this is damage control by Team Trump — “substantial mistake” recovery time.
“I’m worried more on the deflation side right now than the inflation side,’’ [Moore] said
But, hold it, deflation increases the value of King Dollar, and Larry has always said he loves a strong dollar. So, why are they trying to create inflation with interest-rate reductions when that reduces the value of King Dollar?
These luminaries of irreconcilable interests and beliefs are our brilliant planners!
Bears, like myself, picked the meat off market bulls throughout 2018. We scoffed at the start of the year when bulls concocted a narrative that said bears would starve because 2018 was going to be the year of “global synchronize growth.” We bears bawled that this was euphoric nonsense.
Global economies fell off a cliff as soon as the bulls’ narrative took hold, and all economies continued to falter for the entire year. The US was the only major economy to get a significant boost, due to absolutely massive tax cuts, which piddled away after two quarters (fourth quarter now estimated at 1.5%).
The more polar opposite from bulls the bears went, the more right they were
I’m going to make my first prediction for 2019; but, first, I’ll offer the following points as proof the bears were completely right for 2018:
- Global cooling of all economies continued all the way into 2019, with IMF and central banks writing down their future estimates. It turned out to be the year of globally synchronized slowing. This happened largely due to the unwinding of the Fed’s balance sheet, and in spite of massive US tax cuts.
- The Retail Apocalypse grew worse throughout 2018 just as bears said would be the case for the full year. Retail sales, originally reported by wishfully bulls who hoped December would finally make them right, turned out to have tanked miserably. Just like “globally synchronized growth,” holiday sales flopped on their head.
- The bears boldly claimed 2018 would be the year of Carmageddon. US auto sales fell so badly that 2018 became the absolutely historic year in which multiple lines of US cars were discontinued for good, and several US auto factories were permanently closed. The country that brought mass manufacturing of cars to the world practically went out of the car business, though SUVs, vans and trucks continue.
- The US housing market worsened one gradient at a time every single month after the first quarter of the year. Canadian, UK, and Australian housing markets have done about the same.
- Bears said (cynically to the bovine mind) nearly 100% of tax money repatriated to the US along with money from massive corporate tax breaks would go into stock buybacks, and your most polar of bears right here said, vast as those buybacks would be, they still would not save either the US economy or the US stock market from becoming a train wreck in 2018. Neither would money fleeing out of other economies into the US. Testosterone-hot Bulls thought that was ludicrous because the tax cuts were enormous. However, the Fed’s unwind was just as enormous, so Ursa Major rose in ascendancy throughout the year, and Taurus fell into an icy winter. Emerging market stocks and developed markets all fell. Even the US stock market fell to pieces right at the start of the year and looked like a mess all year.
- Nevertheless, a deafening chorus of bulls maintained through the year that the US stock market would end the year higher … even after the October surprise (for bulls, not bears) had begun. Bears, on the other hand, held their line and predicted US stocks would end lower than at the start of the year. Bears proved resoundingly correct as the dumbfounded bulls fell silent in the nights of December.
- Bears, including yours truly, had claimed throughout the decade-long recovery that the Fed would never be able to unwind its balance sheet or return to normal interest rates without crashing its “fake” recovery. Yours truly even said 2018 would be the year this claim proved true. Stepping up to that proof, Jerome Powell volunteered himself for a face-plant in late December, which he reinforced again this January. Having valiantly promised in September that Fed rate increases would continue apace and balance-sheet reduction would continue on autopilot, Powell reversed himself less than three months after his balance-sheet reduction hit full speed. China also moved back to massive easing, and the ECB just indicated it may return to more easing, having only just stopped easing at the end of 2018. The Bank of Japan has simply said it will continue with its quantitative easing program. Central banks appear to be scrambling to stop the wreckage their tightening has already caused.
- The dialogue about synchronized growth is ancient history, replaced predominantly at the end of 2018 by talk about the possibilities of global recession starting in 2019, which is where I’ve said for two years a bad 2018 will take us, and of late by talk of a “Goldilocks” economy that is just bad enough to re-engage the Fed in economic stimulus but not so bad as to kill the market. Good luck with the replacement narrative. It won’t hold any better than “globally synchronous growth” did last year.
I predict we are caught in an economic polar vortex
This particular polar bear said for the past couple of years the Fed will continue tightening right into a recession because that is what it does. Though the Fed has stopped raising its target interest for interbank lending and has said it may stop unwinding its balance sheet and, it continues unwinding its balance sheet, apparently still believing it can.
The yield curve has already twisted and contorted into portions that are flat or inverted. Nomura’s Charlie McElligot notes that steepening of the curve after inversion is the actual point at which we have almost always gone into recessions historically. My way of putting it is that “flattening of the yield curve cocks the gun; reducing interest rates again fires the gun.”
My first prediction for 2019: I believe the US will go back into recession as soon as the Fed actually reverses course on interest rates. I believe things will be generally bad enough by late spring or summer (for all the reasons I laid out in my Premium Post titled “2019 Economic Headwinds Look Like Storm of the Century“) that we’ll see the Fed actually stop QT and reverse interest rates.
However, we will already be in a recession when they do, though it will not be officially declared that the US entered recession until the end of the year or start of 2020 because recessions are only declared a month after GDP has receded for two straight quarters.
The first quarter of receding GDP is when “the recession” officially begins. In other words, data only tells us in hindsight that the economy has been receding, and often we don’t know until GDP numbers get revised.
The past is prologue to the future and history rhymes
I expect the Fed to live up to its historic reputation of declaring no recession in sight even as it is standing in the middle of one. While we won’t likely have any official delcaration until next year, the rest of us will feel the polar swamp wetting the seat of our pants before the Fed feels a thing.
(Bear in mind, the Fed has to keep as good a face on everything as it can because if it actually said it saw a recession coming, it would crash the stock market all over again. Its words would become a self-fulfilling prophecy because investors hang on every shade of meaning of every word the Fed chair speaks. And another market crash would take a crumbling auto, retail, housing economy down with it.)
Now bulls are back to saying the fact that market fear is gone and greed is back is good reason to believe we are on the rebound. They find a narrative for their wishes no matter what. Who you gonna trust?
Before you answer that …
Consider that stock market mania throughout the past decade has been supported with a misleading narrative of rising earnings per share. As I continually pointed out, EPS was mostly rising due to stock buybacks, not due to the soaring health of corporations. We would not be seeing major retailers falling right and left for the past two years, automakers shuttering factories, Caterpillar sales constantly struggling to slow their descent, high-tech stocks crashing 40% … if companies were fundamentally doing better and better.
Fundamentals were repeatedly and readily ignored as EPS rose. What we saw was historically massive buybacks reducing the number of shares in the denominator of the EPS number. Nobody cared that buybacks were the primary reason EPS was rising and were the sole financial fuel buying the rise. All that mattered was that EPS looked nominally good while buybacks were on a rampage.
However, Morgan Stanley, which was in my opinion the only major bank right about last year, now says EPS is about to bomb:
Mike Wilson, chief equity strategist at Morgan Stanley, on Monday downgraded S&P 500’s earnings-per-share growth target for the year to 1% from 4.3% and warned of a looming earnings recession. “Our earnings recession call is playing out even faster than we expected,” said Wilson in a report. “When we made our call for a greater than 50% chance of an earnings recession this year, we thought it might take a bit longer for the evidence to build….” For the current quarter, U.S. companies are projected to report an earnings contraction of 4.1%, based on analysts’ median estimates in January. That is significantly deeper than the average 1.7% decline over the past 15 years.MarketWatch
The benefit of the Trump Tax Cuts was as fleeting as I figured it would be, while the exponential rise in the US national debt as a result of those cuts goes as far as the eye can possibly see. (Bears were also right that the tax cuts have failed to pay for themselves.) The pressure on bond interest is upwards, curbing the future potential for stock buybacks even as repatriated cash to fuel buybacks also starts to fade.
Many share my opinion that stock buybacks, once mostly illegal, are nothing more than obscene market manipulation:
For much of the last decade, companies buying their own shares have accounted for all net purchases. The total amount of stock bought back by companies since the 2008 crisis even exceeds the Federal Reserve’s spending on buying bonds over the same period as part of quantitative easing. Both pushed up asset prices.”
Another way of saying that is, if you take buyback out of the historic stock market timeline, what remains would have left no growth whatsoever over the last decade. Take Fed money out of the equation as a good part of the fuel for buybacks before the tax cuts, and none of that would have happened.
Moreover, it has been reported many times, including here on The Great Recession Blog, that corporate CEOs and executives do an inordinate amount of trading around their own buyback announcements to their own advantage.
Well, guess what, with cash spending from tax repatriation starting to fade into the rearview mirror and with interest rates rising due to the Fed’s balance-sheet unwind (monetary tightening) and the US government issuing a growing supply of bonds to fund its endless deficits, buybacks will be diminishing until the Fed goes back to quantitative easing and to sopping up (monetizing) the government debt.
The bears were right on the money for all of 2018, and the economic climate will remain perfect for polar bears for as long as the Fed remains on its tightening program. By the time the Fed completely figures out a few months from now that it cannot remain on its tightening program, the economy will have receded over the edge of an arctic basin.
My own writing winter has almost thawed, thanks to generous and committed readers for whom I intend to work diligently this year if we clear my goal. The thermometer is now just one mark from the goal I set as necessary in order to continue writing on the economy. Since past is prologue for reader generosity, too, I’m going to venture my second prediction for 2019, which is that readers of like mind will put this fundraising thermometer over the top by the end of February so this writing does continue. How that prediction turns out is fully under your control, and I’ll willingly depart the scene if I am wrong. If you prove me right, I’ll stop making so many fundraising pleas and stay focused on the work of trying to beat the establishment before it beats us all.
We are in the end time of an unprecedented era of financial expansion — the greatest expansion of the world’s money supply ever attempted, expansion of the Federal Reserve’s vast and unchecked powers far beyond what the Fed could do before the financial crisis, and super-sizing expansion of banks that were already way too big to fail.
I am calling this time in which we are now unwinding this monetary expansion the Great Recovery Rewind because I believe this attempt by the Federal Reserve and other central banks of the world to move us away from crisis banking is taking us right back into economic crisis. That is why this was the top peril listed in my Premier Post, “2019 Economic Headwinds Look Like Storm of the Century.” It is more potent in possible perils than all the trade tariffs in the world.
Even the CEO of one of the Fed’s largest member banks says no one knows what devastating effects the Fed’s unwinding of its balance sheet will cause. JP Morgan Chase’s Jamie Dimon warned that the Fed’s unwind is a massive experiment as untried as the quantitative easing that is being unwound.
“QE has never been done on this scale,” he said. “We cannot possibly know all of the effects of its reversal.”Financial Times
Jamie Dimon, the chairman and CEO of JPMorgan Chase, is one of many prominent figures in finance who warn that this reversal of direction could send stock prices plummeting and derail the U.S. economic expansion. “I don’t want to scare the public, but we’ve never had QE [before]. We’ve never had the reversal [before]. Regulations are different. Monetary transmission is different. Governments have borrowed too much debt, and people can panic when things change….”
Earlier this year, noted bond fund manager Bill Gross expressed his own concerns about the effect of this unwinding. Last year former Fed Chairman Alan Greenspan warned of a massive bond market bubble that will be deflated in the process….
Former U.S. Treasury Secretary Lawrence Summers says, “tightening involves real dangers and needs to be carried out with great care.”
According to Peter Bockvar, the chief investment officer (CIO) of … Bleakley Advisory Group, “I believe the market … is headed for a brick wall the deeper quantitative tightening gets.”
Ray Dalio, founder of hedge fund Bridgewater Associates, observes that quantitative tightening is bound to produce effects entirely opposite to those from quantitative easing, namely, “higher interest rates, wider credit spreads and very volatile market conditions.”Investopedia
Sounds like now.
Even the Fed Prez, himself, uses language that casts the Great Recovery Rewind as experimentation:
“We are looking carefully at that [the unwind’s impact on interest rates], and the truth is, we don’t know with any precision,” Fed Chairman Jerome Powell told reporters on Wednesday…. “Really, no one does. You can’t run experiments with one effect and not the other. We’re just going to have to be watching and learning. And, frankly, we don’t have to know today.”Bloomberg
However unprecedented the Great Recovery Rewind is, some outcomes can already be readily extrapolated; and they are playing out as I thought they would.
The withering economic effects of the Great Recovery Rewind
Rising reserve risks. You may recall the Fed pumped up its member bank reserves to make us all more secure in case of runs on banks as we almost saw during the financial crisis of 2007-2009. Now, as you’ll see below, the reserves in the accounts of member banks have been bleeding out faster than red ink in the last days of a failing Ponzi scheme.
For those banks to drain their reserves, the Fed has to reduce its reserve requirements; so the Fed has to be involved in this great reserve flush. It may be allowing this on the basis that it believes the world is more financially secure now, so it thinks the concern about runs on banks is long gone; but we all know from the last financial crisis that the world can become financially insecure in a small window of time, while the scars from an economic crash can endure a lifetime.
Compounding US government debt. One of the side-effects of the Fed sucking money out of the global monetary system is that the Fed used to roll over its holdings in US treasuries by purchasing more at an incredibly low interest rate for the US government. The government is now forced to sell a lot more treasuries in auctions to its primary dealers (member banks in the Federal Reserve System) without the Fed backstopping that by sucking them all up.
That presses the government to either pay higher interest on its treasuries to attract new buyers or raise less money with each $1,000 bond it issues. (Say, sell a $1,000 bond for $945, instead of $950.) Either results in higher yields on government bonds. (See: “BOND PRIMER: What is the difference between bond yield, bond interest, and bond price?“) That accelerates the government debt vortex.
Interest impact. Here’s another side effect that justifies calling this time the Great Recovery Rewind: Because government bonds are foundational in the credit market, higher yields on government bonds result in higher interest on all kinds of things, including home mortgages and auto loans. On large items, people shop payments, so those items are now less affordable. Therefore …
Housing Collapse 2.0 and Carmageddon. Rising interest is already taking us into another housing crisis and Carmageddon. I’ve been writing about these as the first major industries that will get the impact of the Fed’s Great Recovery Rewind. (My next article will show how deeply into a new housing crisis we have already fallen, and we’ve all heard about the number of automobile factories closing in the US.)
I think there is an insidious way rising mortgage interest is taking down the housing market besides just making houses more expensive. While mortgage applications are down by almost half due to rising interest, an even more interesting development is that the percentage of applications that are getting approved is also down by about half.
With total applications being down, you’d think banks would be inclined toward approving a higher percentage of the apps they get. So, why are they approving a lower percentage from an already much smaller stack of applicants? Losing half of your applicants and then cutting the percentage of those that get accepted in half is a 75% drop in approved loans! (See Business Insider‘s “Americans stopped buying homes in 2018, mortgage lenders are getting crushed, and an economic storm could be brewing.“)
Here is what I think is happening: Banks don’t usually issue loans to carry them until they are paid off. They issue them to resell them to other banks and investors. In terms of the loan resale market, loans are somewhat like bonds. In the same way that the bond you hold falls in resale value (price) when bond interest on other bonds is rising, fixed-interest loans a bank issues today will be worth less when it resells them in a month if interest rates are rising quickly. (Who’ll want to buy that loan when they can buy one that pays higher interest?)
Even if a bank plans to carry the loan itself, it might think it makes more sense to wait another month or two to loan out its money at an eighth-of-a-percent more interest for the next thirty years than to loan it out now if it is certain rates will rise that much in a short time. (Or it might just want to use its money to buy and hold those risk-free government bonds now that interest is getting interesting again!)
A full rewind back into the housing market collapse that began in 2007 could be readily foreseen as an obvious effect of the Fed’s tightening because 1) tightening after a period of sloppy easing triggered the last collapse; and 2) one of the reasons the Fed gave for buying government treasuries was to reduce mortgage interest and other long-term interest specifically to prop the housing market back up and stimulate the economy.
This is why I’ve repeatedly maintained that, when the props are pulled, we’ll fall back into the same recession. It took total denial to believe doing the opposite would not have the opposite effect. We have seen the opposite effect happening with long-term interest ever since the Fed began its balance-sheet unwind. Falling back into the same pit by winding back what we did to get out of the pit is why I call this the Great Recovery Rewind.
Hence, my prediction a couple years ago of a major stock market upset last January (as began in the last week of January) with a much worse one in the fall of 2018 when the Fed would hit full Recovery Rewind speed. (O.K., I also said something big would happen in the summer with stocks, and not much did, except the deFAANGing of the high-tech market that drove the bull market for a decade.) That’s why I was so certain of the timing of these stock market’s major plunges turns and of the summer start of a repeat crisis in housing and automobiles that certainly materialized.
Stock drop. This brings us to another inevitable side effect of the Federal Reserve’s Great Recovery Rewind — loss of stock values. Think about it: Another one of the main reasons the Fed eventually admitted for hoovering up government bonds was to save us from the 50% crash in stock values that happened between 2007 and 2009. It did this by taking interest so low on bonds that it pushed investors into riskier assets in order to make money. In the process, this created money in bank reserve accounts that banks could use to buy those riskier assets. That worked.
Naturally, reversing that flow would raise bond interest and correspondingly suck money back from stocks by providing safer assets that are starting to provide a profitable return again. How could it not? We witnessed that throughout 2018, seeing each major increase in the Fed’s Great Recovery Rewind speed immediately cause greater damage to stocks.
That is why I’ve always maintained the Fed cannot unwind without crashing its fake recovery. (Fake in that it’s not really a recovery if the patient has to stay on artificial life support forever. It’s just prolonged dying. It’s only true recovery when a patient becomes capable of living on his or her own.)
Another effect of all this, of course, has been the flattening of the yield curve, which typically presages a recession (as I wrote about in two recent articles titled, “Does Inverted Yield Curve Indicate Recession?” and “What is an inverted yield curve and what does it mean?“)
How could the Federal Reserve not see its great recovery rewinding?
When the Fed merely suggested it would begin tapering its purchase of bonds (quantitative easing) in 2013, it created what became known as the “Taper Tantrum,” a full-scale financial panic that I remember well because the Fed made this surprise announcement the day after my wife and I decided not to lock in the interest rate on our pending home purchase. Over the weekend, we saw our new interest rate rocket upward; so, we locked in as fast as we could on Monday and have forever paid a little more because of what felt like the fastest rise in mortgage rates even known to humankind.
Stock prices plummeted then, too, as the 10-year treasury note soared a full 100 basis points to 3% yields. The Taper Tantrum cost a lot of people a lot of money, and that was just an announcement many months out that the Fed would slowly begin to buy fewer additional treasuries, not that it would start rolling back the actual number it already held. The Fed was very careful this time to telegraph its unwound intentions more slowly and sedately.
So far, the Fed’s Great Recovery Rewind has certainly not been “as dull as watching paint dry,” as Fed Chair Janet Yellen assured us would be the case. The crisis in stocks grew so severe so quickly last fall when the Fed finally kicked its rewind up to it full projected speed that the Federal Reserve has already voiced possible capitulation to the market’s fear by stating it is taking its balance-sheet unwind off of autopilot after all.
Fed Chair Jerome Powell pivoted and said the Fed will be monitoring the stock market with a more patient approach in the Fed’s deliberate raising of interest targets. He’s even hinted the Fed may slow or pause its balance-sheet unwind. That contradicted his own auto-pilot statement in the fall when the Fed rose to full rewind velocity. Such an abrupt about-face makes it clear the Great Recovery Rewind sure ain’t paint drying.
While flattening of the yield curve happens before recessions, the recessions don’t occur until right after the Fed reverses policy and starts lowering interest rates again due to the problems a flat yield curve creates. With talk already of reducing rewind velocity, a move back to easing may not be far ahead.
I think the Fed actually sees the recession coming but can never say so because its mere change of a pronoun reverberates throughout markets. What would happen if it ever said it sees a recession developing? Why else would the Fed start easing if it didn’t see trouble coming? By the time the Fed returns to easing, a recession is already foaming at the mouth. So, either they see it coming but lie and say they don’t — as Ben Burn-the-banky famously said in the summer of 2008 — or they are blind in the area of their supposed expertise.
My reservations about reserves
If the Fed continues to tell banks they must hold a certain ratio in reserves-to-loans as the most liquid form of protection against runs, then liquidity is going to tighten up if reserves fall and interest rates are going to rise due to shorter supply of loans. That could also explain why banks are not approving as many loans because reserves are falling.
It appears that the Federal Reserve’s member banks are buying up US treasuries with their reserves and holding them, rather than reselling them, because their excess reserves are depleting rapidly. (Remember my comment above about how banks may not be issuing as many loans if treasuries with rising rates are looking attractive because they are seen as completely safe?)
It also appears the Fed is telling banks they have to maintain that ratio:
One reason why people may have underestimated bank demand for cash to meet the new rules is that Fed supervisors have been quietly telling banks they need more of it, according to William Nelson, chief economist at The Clearing House Association, a banking industry group.Bloomberg
The Fed’s Great Recovery Rewind is reducing bank reserves as follows:
By shrinking its balance sheet, the Fed reduces the amount of reserves in the financial system, therefore lowering the amount of money banks have to lend to consumers and businesses.FXCM
In a Premium Post that accompanies this post, I contacted the Federal Reserve and got a direct explanation of how the unwind actually draws down member bank reserves. (I was never satisfied with the answer that they are just evaporating the money, and they are not.) Even without that complex explanation, you can see how the balance sheet unwind is playing out in the following graphs from the Federal Reserve with the top graph showing the Fed’s own holdings and the bottom graph showing the reserves of all its member banks that are held in Federal Reserve banks:
First, the Federal Reserve stopped quantitative easing (flat part of the black and blue lines in the top graph), which meant the Fed stopped buying government treasuries (black line) and mortgage-backed securities (blue line) from its member banks, which it had been doing by creating deposits in the banks’ reserve accounts that they could lend against. Then you can see how, as the Fed began unwinding its balance sheet (were the black and blue lines in the top graph begin to fall), bank reserves (red line) plunged more.
Finally, you can see how bank reserves (red line in the bottom graph) have declined by almost half already during this time. Although Janet Yellen recently reminded us that “correlation is not causation,” I can tell you that my correspondence with a Fed economist in the Premium Post says there is direct correlation to what is happening in bank reserves.
What I cannot prove is motive, but I believe the Fed encouraged banks to start reducing their balance sheets in order to provide liquidity to the stock market and other markets during its tapering from QE and now during its final runoff of bonds. The member banks may even be holding government treasuries to protect the government from rising interest rates just as the Fed did. The consumption of bank reserves looks to me like a massive buffer for the government and the economy as trillions flow out of bank reserve accounts and into sopping up treasuries.
The Fed’s largest member banks are the primary dealers for Fed treasuries, which they buy in auctions. They transfer money from their reserves to the government treasury when they buy those treasuries. Now that the Federal Reserve is no longer buying those treasuries back from banks by creating new money in the bank’s reserves, their reserves are dropping, whether it is because the banks are choosing to hold the treasuries for the interest or because they cannot resell them all or because they are putting the money they make from selling treasuries to other uses. The bottom line is their reserves are plummeting in step with the Federal Reserve’s Great Recovery Rewind.
The Fed has told me it deletes money from the government’s bank account as treasuries mature because the Fed is the government’s banker. So, the Fed loses its treasury asset in the roll off, but it also wipes out an equal liability in the government’s reserve account as its payment from the government. Thus, both sides of the Fed’s balance sheet come down the same amount in order for the sheet to “balance.” (Deposit money is considered a liability by banks because they have to give that money back upon demand.)
That, however, would not deplete the nation’s money supply, except that the government has to replenish its bank account (or build it up in advance of the Fed writing it down), which it does by selling new treasuries to the Fed’s member banks that are the government’s treasury dealers. Those banks transfer money from their reserves to the government’s account at the Fed to pay for their treasuries.
I suspect the member banks’ purchases of the new treasuries the government has to issue to replenish its funds have been the mitigating factor that has kept government bond interest from soaring during the roll-off by providing a market as ready and large as the Fed, itself. However, if they buy and hold the treasuries, it depletes their reserves, which means they have less money to loan against in the general marketplace. That would be how money exits the monetary system.
Alternately, they may buy and resell the treasuries but not put the money from their treasury sales back into their reserve accounts because they now have better investments than the interest the Fed pays them on their excess reserves (“excess reserves” meaning those that are above what their Liquidity Coverage Ratio is requiring of them). Either way, the money from all those treasury sales the government is making is not going back into the the member banks’ reserve accounts.
If the banks don’t soak up those treasuries by holding them as their own assets, they resell them on the open market. That would likely drive the government’s financing costs up in order to find enough buyers. That can happen in the form of higher interest on the open market or a lower bond price (as described above). That would feed back through the system to what the primary dealer banks will expect in government auctions in order to assure a retail profit on the treasuries.
While I don’t have all the facts about what banks are doing internally, it is obvious from the graphs above that the monetary is tightening up in direct correspondence with the termination of QE and its unwinding. We know banks are approving a smaller percentage of a smaller pile of loan applications, and we know their reserves have plummeted, which means they have less money to loan against and could easily explain why they are approving far fewer loans.
We are seeing declines in housing prices, declines in the auto industry leading to closing factories, increases in the government debt due to rising interest (in addition to the increases that happened due to declining revenue and the increases that are due to rising spending). The rise in interest that is happening due the Fed’s Great Recovery Rewind will also mean a decrease in stock buybacks just as the extra cash from the Trump-Tax-Cuts repatriation (a one-time occurrence in 2018) is used up so that corporations have to return funding buybacks with credit if they’re going to do them. Stock buybacks have been one of the leading drivers in the stock market’s climb over the past decade. So, all of this is a complex and toxic brew of chemical reactions.
Some have opined that the Federal Reserve’s Great Recovery Rewind will not be as potent as its initial easing because it created new money at the rate of $80 billion a month and is only backing out of that at the rate of $50 billion a month. However, it could actually become more intense. Consider that the Fed was creating $80 billion a year when the economy was shrinking and needed a push. So, it was pushing against the drainage. Now the Fed is subtracting $50 billion a year just as the economy has started shrinking again and still needs a push. So, the unwind pulling things down with the drain.
The Fed is also tightening as global trade is tightening and as tariffs are going up, making things more expensive to consumers. It’s also doing something that makes a lot of people feel unsettled, rather than something that makes them feel happier. No one is likely to enjoy unwinding as much as they enjoyed economic stimulus. The Fed is unwinding in an unforgiving environment that might be more reactive to withdrawal than a stifled economy is to stimulus.