“2016 was supposed to be the year that the Federal Reserve ‘normalized’ its policies. As much as two years ago — after years of a near-zero target rate — the Fed was swearing that it would begin to raise rates back to ‘normal’ levels and cut its balance sheet. That never happened .. Looking at the central banks of Australia, the EU, Canada, Japan, China, and the UK, we find no tightening at all. Since 2012, with the exception of the Fed, it’s been nothing but cuts in the target rate. Excluding the Fed, the last time we saw central banks move was when the Australian central bank and the Bank of England lowered their target rates in August 2016. Meanwhile, the European Central Bank and the Bank of Japan continue to sit in negative territory .. The cumulative effect of all of this is to drive home, yet again, that the central banks are simply too frozen with fear about the true state of the economy to take any hawkish action on interest rates .. the world’s central banks are driving home yet again that we’re in a race to the bottom. Yes, the US is in the midst of an inflationary regime, but the ECB, BOJ, and others appear to have no qualms about keeping their own money spigots wide open.”

LINK HERE to the article

https://mises.org/library/worlds-central-banks-are-frozen-fear

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“As arduous as the path to interest rate normalization will be to the Fed, it will be far more chaotic for the BOJ and ECB to even hint at rate hikes .. By waiting until inflation is well entrenched in the mindset of investors and after pushing sovereign bond yields well into negative territory; the ECB and BOJ have unwittingly backed their sovereign debt markets into death traps. Therefore, even suggesting that it is time to gradually pull back from bond purchases will cause a colossal stampede out of Japanese Government Bonds and European Sovereign Debt .. Traders that have habitually been front-running the central banks’ bids will try to dump their holdings of negative yielding debt as bond prices plunge in response to a 2%–and rising—inflation rate. Throw in debt to GDP ratios that have absolutely soared since the Great Recession of 2008 and the result will be complete chaos in bond markets.”

LINK HERE to the article

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“Given the rise of inward-looking and panicked politicians around the globe and the monetary policy extremes after the 2008 crisis, a financial repression via blanket capital control regime could be the policy response to the next crisis. In this process, the global financial system would be totally fragmented, while wealth would be transferred from the private sector to the government. Investors could be caught by surprise; liquidity would evaporate in an instance, with devastating effects for asset prices. In this new paradigm shift, capital mobility will become a thing of the past.”

• Jason Manolopoulos is the co-founder of Dromeus Capital and author of Greece’s ‘Odious’ Debt

LINK HERE to the article

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

Charles Hugh Smith is an author, leading global finance blogger, and America’s philosopher we call him. The author of nine books on our economy and society including A Radically Beneficial World: Automation, Technology and Creating Jobs for All, Resistance, Revolution, Liberation: A Model for Positive Change, and The Nearly Free University and the Emerging Economy. His blog, http://www.oftwominds.com has logged over 55 million page views, probably more by now, and is #7 on CNBC’s top finance sites.

Last time we talked about the commercial real estate bubble and we thought today we’d do a special focus on the millennial generation and how financial repression through repressed interest rates and quantitative easing has resulted in asset bubbles that ultimately have affected the millennial generation in terms of their values, how they look at the economy and life and the way they’re conducting themselves in the economy: what they’re facing in terms of the housing market and the job situation.

Many millennials are carrying student loan debt, nowadays a small student loan debt is $25,000-$30,000. If someone can escape with a bachelor’s diploma and only have $30,000 in debt, they’re considered to have done quite well. But in reality, that’s a pretty large debt for somebody who doesn’t even have a full-time job yet.

In cases where the central state guarantees any sort of lending and the lender can’t lose money because the government will step in and cover any losses, there’s a huge incentive to lend out to marginal borrowers and to really push every loan you can. And that’s exactly what we have with student loans: anybody that is breathing can get a student loan in an immense amount, and these are non-recourse loans right? Talk about financial repression, you can’t take them to bankruptcy court or reduce them in any way short of a few government programs. The interest rates on student loans are not that low, sometimes they’re as high as 7.5%-8.5%, so millennials have that burden on them right from the start.

Many of the millennials grew up seeing their parents under a lot of financial stress mostly due to the bubble pop global financial meltdown in 2008-2009. So this has made them very wary of debt. And consumer debt still continues to climb. The total consumer credit owned and securitized chart shows a minor dip in the 2009 time frame, but has since rocketed even higher by another 1.2 trillion.

Marc Faber explores the concept that the millennial generation is much more risk adverse. We can see why, they’ve observed the damage and the stress and the losses that can result from taking on way too much debt and not having enough income or collateral to support it. So, they’re very cautious about taking on gigantic mortgages that their parents did and buying new cars and adding debt on top of debt on top of debt. And so as a generalization, they’re less willing to take the risk of taking on a gigantic mortgage, and I mean by that in the $700,000-$800,000 range, right? That risk aversion, it carries several potential consequences. One that was being discussed in the essay was that there’s less entrepreneurial activity for the same reason: why risk everything on a business that might fail?

Seattle and Portland top the list of where students would like to move after college, based on various surveys. And according to the Case-Shiller home price index, these two cities now have exceeded the 2007 bubble in terms of housing valuation.

And many other favoured cities that are attractive to millennials like the San Francisco Bay area is also exhibiting this enormous home valuation bubbles or expansions. So then that raises the question, what are the millennials going to do? I don’t think there’s any evidence at this point to presume that the millennials are going to suddenly in some magical point in the future start making a lot more money and be able to afford overvalued housing. There’s no evidence for that, all the trends are the opposite: stagnating incomes and a millennial income trend that will stay sub-par, below that of previous incomes for decades to come.

Joel Kotkin, who studies demographics and the economy, thinks millennials do want to buy and own homes, but they’re only willing to do so if they can afford them. So the opportunities could lie within some of the smaller cities. For example, a house in Columbus Ohio, which is a classic college town in the upper Midwest can sell for less than $50,000.

It will also more difficult for the millennial generation to inherit their parents’ home, because the cost of retirement is so high, and most of their parents are forced to sell their homes instead of just giving it to their children. Housing is becoming increasingly expensive to build due to government fees and regulations on building in most cities, and government programs merely subsidize this process at a cost to the taxpayers; and rent control has been a disaster because that immediately kills off any new construction and reduces the incentive for land owners and landlords to maintain their property because their income is fixed.

Because of this, we’re seeing many innovative alternative housing solutions such as the tiny house movement and retro-fitting dying malls, using them used for housing instead. In addition, there’s an increasing trend of millennials moving towards smaller cities and working at home, telecommuting, and utilizing internet online based businesses. Because of this, local governments that are willing to accept innovations and ease building regulations are the ones who are more likely to prosper.

Summary by Jacob Dougherty jdougherty@Ryerson.ca

LINK HERE to download the MP3 Podcast

FULL TRANSCRIPT

Richard: Today we have Charles Hugh Smith. He’s an author, leading global finance blogger, and America’s philosopher we call him. The author of nine books on our economy and society including A Radically Beneficial World: Automation, Technology and Creating Jobs for All, Resistance, Revolution, Liberation: A Model for Positive Change, and The Nearly Free University and the Emerging Economy. His blog, http://www.oftwominds.com has logged over 55 million page views, probably more by now, and is #7 on CNBC’s top finance sites. Welcome, Charles.

Charles: Thank you, Richard. That’s an introduction that’s going to be hard to live up to. I’m a beginner here, we’re just exploring interesting topics okay? I don’t have all the answers but we have some interesting topics.

Richard: Great insight as always, and last time we talked about the commercial real estate bubble and we thought today we’d do a special focus on the millennial generation and how financial repression through repressed interest rates and quantitative easing has resulted in asset bubbles that ultimately have affected the millennial generation in terms of their values, how they look at the economy and life and the way they’re conducting themselves in the economy: what they’re facing in terms of the housing market and the job situation.

Charles: Right, and you know Richard it’s hard to know where to start, but I think we could profitably start with the basic context of the economy and the millennial generation. And so in terms of financial repression, perhaps the one key sector that we need to look at is student loan debt because so many millennials are carrying student loan debt, and you know a small student loan debt is like $25,000-$30,000 if someone can escape with a bachelor’s diploma and only have $30,000 in debt they’re considered to have done quite well, but when you think about it that’s a pretty large debt for somebody who doesn’t even have a full-time job yet.

Richard: Yeah, mine was $13,000 I think when I came out, $13,500

Charles: Wow that was very low. And nowadays, 10 times that is not uncommon especially if you go to graduate school. And so we all know why this is but it’s worth touching on because the financial repression part is when the central state, you know the central government and its central bank, when the central state guarantees any sort of lending where a lender can’t lose money because the government will step in and cover any losses. Well, then there’s a huge incentive to lend out to marginal borrowers and to really push every loan you can. And that’s exactly what we have with student loans: anybody that is breathing can get a student loan in an immense amount, and these are non-recourse loans right? Talk about financial repression, you can’t take them to bankruptcy court or reduce them in any way short of a few government programs such as if you join the government service and then you get a reduction and so on. So it’s like the financial system on financial repression steroids. And so they’ve really tasted the worst of neoliberal banking, the interest rates on student loans are not that low, sometimes they’re as high as 7.5%-8.5%, and then the higher level education system, which is supposed to be concerned with educating the youth have just gorged on all this free money, built fabulous buildings on campus. And the administration, I just looked at this statistic, the number of administrators in higher administration in America went up 34 fold in like 30 years where the number of students barely rose, or that was much more modest. So anyways this is like the worst possible combination of financial repression and state guarantees, and so the millennials have that burden on them right from the start.

Richard: Yeah, just trying to get out of the gate in terms of leaving the nest or getting a family formation how can they do that? How can they buy a home or a car, just getting out, right? A lot of them have difficulty even getting a job even given the large amount of debt to begin with.

Charles: Right, right. And you sent me several interesting articles talking about the impact of the last decade’s financial stagnation on the millennial frame of mind or their value system. And of course, a lot of them grew up seeing their parents under a lot of financial stress, during the bubble pop global financial meltdown in 2008-2009. And so this has made them wary of debt and again just for context, consumer debt continues to climb, and this of course is mostly people who are older than their early twenties, it’s hard for them to acquire much more debt than their student loans. I have a chart here from the St. Louis Fed, and it’s the total consumer credit owned and securitized. And it shows a minor dip in the 2009 time frame, and then it’s rocketed even higher, it’s rocketed another 1.2 trillion.

So I think that the millennials are well aware that the entire system, not just the student loans that they’re under, but the entire system is incredibly burdened with debt.

Richard: And so how does this resulting in their views, their values, how they’ve grown up, and what they see as prospects for jobs, and just where to live in general, does it make sense to live in the inner city or out in the suburbs exurbs?

Charles: Right, right. Well one of the essays you sent me was an excerpt from Marc Faber’s recent essay kind of exploring the concept that the millennial generation is much more risk adverse and we can see why, because they’ve seen the damage and the stress and the losses that can result from taking on way too much debt and not having enough income or collateral to support that debt. So, they’re obviously wary of taking on these gigantic mortgages that their parents did and buying new cars and adding debt on top of debt on top of debt. And so I think as a generalization, they’re less willing to take the risk of taking on a gigantic mortgage, and I mean by that in the $700,000-$800,000 range, right? You and I were speaking, a one million dollar house in Toronto or Vancouver or Seattle or the San Francisco bay area or Boston; you know you name it, I mean a million bucks you have to put down a quarter million, and so you’re on the hook for $750,000 that’s a lot of money. And so that risk aversion, it carries several potential consequences. One that was being discussed in the essay was that there’s less entrepreneurial activity for the same reason: why risk everything on a business that might fail?

Richard: Yeah, I mean the millennial generation is the least entrepreneurial.

Charles: Right, and that’s at odds with this sort of tech hub environment in which the assumption is here’s a bunch of 23-year-olds or 25-year-olds starting a billion dollar company in the living room. But that’s actually just the bleeding edge of a generation that’s generally risk adverse. So then we go look at housing, and I submitted a couple of charts that showed two of the millennials favourite cities at least judging by surveys of where you’d like to move after college, Seattle and Portland are quite high on that list. And according to the Case-Shiller home price index, those two cities now have exceeded the 2007 bubble in terms of housing valuation.

And I think that many other favoured cities, cities that are attractive to millennials like Austin Texas and San Francisco Bay area, I mean there’s a lot of other places that are exhibiting the same kind of enormous home valuation bubbles or expansions to the point that only the top earners can afford that, and so then that raises the question, what are the millennials going to do?

And so Joel Kotkin who’s a demographer, you know studies demographics and the economy, his view is millennials do want to buy and own homes, but they’re only willing to do so if they can afford them. And so that basically eliminates most of the super desirable core city centers of Seattle, Portland, Austin, San Francisco and so on, and Boston, Brooklyn, Manhattan you know. And so where do they go to buy a home? And his theory, he proposed that they are willing to move to the suburbs if that’s where it’s affordable. But my question on that is, I don’t think that suburban homes in super desirable urban areas like greater Seattle and around Austin, around the San Francisco Bay area, those houses are not much cheaper than the core houses, so I’m sure that that’s really an opportunity. So I kind of think that the opportunities at least in North America are in smaller cities. In the range of 50,000-100,000, maybe a quarter million residents, not these megalopoleis. And the only millennial I know, well I know a few millennials that have purchased homes, one bought a house in Portland for I think it was around $400,000 or $450,000. And they both work and they had a condo that had purchased a while ago so they had some equity. And then another couple bought a house in Columbus Ohio, which is a classic college town in the Midwest, the upper Midwest for less than $50,000. Now this was not a large house, and it was an old house, and you know it needed some work and all that. But I mean we’re talking about a house for less than 50,000 roughly a tenth of the values of these hot desirable core cities. So that raises some interesting investment questions about where the millennials going to go and where is real estate going to be desirable to them.

Richard: Yeah and it also factors into who are the baby boomers going to sell to, because if there’s nobody there or no demand to buy these houses due to lack of income or insufficient income, that could also pose some challenges to baby boomers looking to sell their house nest egg.

Charles: Right, I think that’s a huge demographic question that I haven’t seen any really good statistics on because of course most of the boomers are still in their late 50s or 60s, early 70s and they’re not yet to the point where the older generation like the boomer parents, the so-called silent generation, which has sold their houses or given them to their offspring, their adult children. But we’re talking about such huge numbers, and just for context, in general roughly two-thirds of the baby boom generation owns homes, about 65%, low 60s. So there’s a large percentage of the boomers who own homes, and typically they bought these homes when they were younger and had families and so there’s going to be a huge incentive for them as they age to unload these houses. And in the good old days when there was more family wealth, they might have been able to afford to basically give that house to their children, and then retire somewhere else on their income. But now, with the cost of retirement so high, and I know because I’m 63 and my mom is in a retirement home so I know if you can get into $4,000 or $5,000 a month on assisted living that’s usually quite reasonable and it can go as high as $7,000 $8,000 $9,000 a month. So almost everybody facing that kind of sum of money is going to have to sell their house in order to liquidate their equity in order to retire on that. So they’re not going to be able just to hand the keys over to their adult children. So that’s a question that I don’t think we know the answer to, but if millennials can’t buy the boomers house at the current value than basic supply and demand economics suggests that prices will have to fall to the point at which they’re affordable to millennials. Which in many areas suggests a 50% drop, right.

Richard: Yeah, yeah exactly. I mean they may be initially thinking perhaps I’ll just get the house through inheritance and therefore I can focus my current income on things like coffee at Starbucks and looking for trips to Machu Picchu or something, you know Patagonia. This is where their values and emphasis seem to be. So they might be saying let me just spend that money there and then I’ll eventually get the house. But the house is now likely going to be needed for retirement by the baby boomers, is what you’re saying.

Charles: Right, and so they won’t be able to inherit. The parents are going to be selling that house in order to extract the equity to retire on or downsize. In which case they’ll be competing with their children for affordable housing, small apartments and that kind of thing. So the other key element here is what can we expect in the future for millennial incomes? And every indication that we have currently, statistically, is that millennials are making considerably less money at the same age compared to the gen X and boomers made in their early to mid-20s and early 30s. And what we do see is a great concentration, a skewing of national income to the top 1% and 5%. I mean this is well established that the top 5% what we might call the techno-crack professional entrepreneurial class, is their income is continuing to grow ahead of inflation and expenses, but everybody else below that, their income is stagnating. I don’t think there’s any evidence at this point to presume that the millennials are going to suddenly in some magical point in the future start making a lot more money and be able to afford overvalued housing. There’s no evidence for that, all the trends are the opposite: stagnating incomes and a millennial income trend that will stay sub-par, below that of previous incomes for decades to come. So I don’t think there’s any magic bullet on that, and if we look at what’s the other magic bullet in financial repression armory, well it’s lowering interest rates to zero. Hey, we’ve been there for 8 years, right. Or near zero, and mortgage rates below 4% were basically unprecedented lows and they’re starting to click back up above 4, 4.5. So we’ve already used up all that ammunition about lowering interest rates to near zero, to push mortgages down to make very overvalued homes affordable, that’s done. In fact, the trend suggests we’re at a bottom there and mortgage rates may continue to click higher and put another sort of pressure on the incomes of millennials.

Richard: Yeah, so the repressed interest rates is sort of affecting a large number of age groups because the inability to get sufficient income off of fixed income assets and investments as baby boomers retire, looking maybe more to go into bonds or fixed income type of investments, with the interest rates being so low, that’s very difficult. And therefore maybe you go to the house and reverse mortgage and all that. But at the same time that’s all secondarily affecting the millennial generation as well so there’s not much discussion in that regard, you know how repressed interest rates have negatively affected the millennial generation.

Charles: That’s right, that’s right. If you’re a borrower, if you’re a saver then of course you’re receiving very little income. And that’s hurt the older generations which have been saving money for their retirement.

But the millennials who are the borrowers of student loans and auto loans and so on, other than the teaser rates that have been offered for auto loans, if you’re paying a student loan or a credit card, I mean the interest rates are sky high still, they’re very high. As we know credit cards are often 15%-16%. And so the millennials aren’t really getting an enormous benefit from this so-called zero rates because much of their debt is not at 1%. Yeah, you can get a 1% auto loan if you qualify, but most of the debt out there is at much high rates.

Richard: Yeah, exactly.

Charles: So, Richard maybe one of the key questions here going forward is, what happens to the United States, and perhaps we can include Canada with at least the high value cities of Toronto and Vancouver where young people that just have regular normal income jobs are priced out of buying a single family homes in those areas. What happens to the society and the economy when people can’t afford to buy a home, that they’re just renters? I mean what impact does that have socially, economically, and politically? I don’t think we’ve really explored that too much. And what Joel Kotkin was arguing against was the idea that oh the millennials will be perfectly happy to be renters their whole lives. And he was suggesting that well maybe that’s just a happy story without any actual basis, maybe they’ll be quite angry that they can’t afford to buy a house.

Richard: Yeah and just the sense of ownership that goes along with that, I mean there’s some other points that go to that regard in that Marc Faber article where he references a number of authors, so that we talked before about the risk aversion that’s infecting even now corporate America in terms of in the old days there was budgets for doing research and development. And now it’s being more money is spent on legal compliance and human resources instead and less on training less on research and development. That’s also related to the fall in entrepreneurial activity, innovation. And then Marc quotes Edward Gibbon in terms of how it ended up like in Athens in Greece in the ancient history where in the end more than they wanted freedom, they wanted security when the Athenians finally wanted not to give to society, but for society to give to them, when the freedom they wished for was freedom from responsibility, then Athens ceased to be free. And so that is a big issue in terms of what could happen resulting from the spirit of risk aversion and a sense of greater entitlement from the government.

Charles: Yes, that’s an excellent point, Richard. And kind of following that up, Joel Kotkin also mentioned that there’s a generational conflict brewing in land use and how we provide housing how we build housing. And as we all know that the last I’d say 20 some years has been dominated by nimbyism, like not in my backyard right. Don’t build any new housing, don’t build any high-density housing, don’t build a new complex by my house, right. And so that has really stifled construction in a lot of cities, especially those with very little open land left. And then, of course, the local governments have raised the fees on building, and so it can cost I think the number that he mentioned was $50,000 per unit just for the development costs, you know the permits and sewer connection, and you know there’s a $10,000 fee for everything right. For each item, and so if it costs 50,000 just to get a permit basically before you’ve even spent a dollar on the land, and then the whole process is dragged down so you spend two years basically paying interest and principal on the land you purchase before you actually get permission to build. All these things have made it so the housing that is built is super unaffordable. And so if we’re going to look at the millennial sort of tendency some people say towards socialism, like well the government is the entity that can fix this, if we look at what the government has done with housing, for instance rent control has been a disaster because that immediately kills off any new construction and reduces the incentive for land owners and landlords to maintain their property because their income is fixed. And the other thing that the government has done in response to this affordable housing crisis is it’s built so-called affordable housing, but the vast majority of cases that is merely subsidizing housing. In other words, it still costs $250,000 to build that tiny apartment per unit. And then the taxpayers subsidize $150,000 of it, making it affordable. But that’s only a subsidy, they didn’t do anything to lower the cost of construction or ownership. And so obviously there’s extreme limits on that kind of thing. And so many cities end up patting themselves on the back for building like 400 units because this subsidy cost is so extreme. And so maybe what the millennials could do, and I don’t know if there’s any potential for this, but if they took a political voice, they might do better than instead that government builds subsidize housing that just adds burden to the taxpayers, maybe they can overturn a lot of these super restrictive codes and nimbyism, you know that’s choking the construction of new affordable housing.

Richard: Yeah I think the regulation issue is big, and it’s also affecting if you look at the positive side of some of what’s happening, like this move towards tiny houses where you have maybe 160-1,000 square feet type, very small houses that can be almost like mobile homes. And then maybe the retro-fitting also of dying malls to have them go into housing, to housing developments to be retro-fitted from malls and just other things like containers that are being retro-fitted into houses as well, all of that. But there’s a lot of regulations in many communities that prohibit that type of thing to happen in terms of putting these tiny houses on property.

Charles: That’s right, there has to be a change in as you say the regulatory spirit of the law, and that’s a political process. But you know, Richard, to speak briefly in an investment potential here, where is there an opportunity here for people that want to participate in this huge demographic economic housing shift we’re talking about. Well, just anecdotally, I can’t give you national statistics, but just from people I talk to, it seems like the opportunity is in these small cities that have some assets. In other words, they have a port, you know they’re on the seacoast or they have a riverfront or they have some state universities, these kinds of assets that tend to be institutional or profoundly economic. Those small cities seem to be where the millennials can afford and where they’re interested in revitalizing. I was speaking with another blogger podcaster, and he was saying Buffalo New York, which was for quite a few years considered a poster child for urban decay upstate New York. And he said it’s actually becoming a happening place because young people are moving there and opening brewpubs because it’s cheap. And so I think the key here is to find places where housing and commercial space to open a restaurant of café or some sort of business, if you can find a place with super cheap rent super cheap housing you can buy for like I said in a neighborhood of $40,000 $50,000 $60,000 $70,000 $80,000 than that’s going to be a magnet for young people for the affordability and as we all know the trend for many decades has been the artist and creative types will go to a rundown neighborhood or town and then they will revitalize it because it’s affordable to them. And so that may be the opportunity going forward, is in smaller cities that have some assets, and by that I mean compared to a place that was dependent on one auto assembly plant, and so when the plant closes the whole place is shut down and there’s no other assets to draw on. But if you have institutions then there’s some foundation there that can support a revitalization and so just people have told me Buffalo New York seems to have some magnet potential and Columbus Ohio is two examples and I’m sure there’s many others, dozens. And so if I were a real estate investor I would start looking at places like that.

Richard: Yeah, no I think you’re right. And that’s also consistent with the trend towards a move to the center, the so called fly over America land between the coasts in the interior in the Midwest where there was places that have been very depressed, Buffalo, maybe Detroit. Very very low cost and the cost base is already beginning from a very low point. But at the same time you’ve got resources, you’ve got land, arable land for agriculture potential. And then the potential for fiscal spending on infrastructure, so you’ve got the Midwest that has the potential there, where it’s traditionally played a role. So that sort of whole manufacturing infrastructure agriculture in the interior of the U.S. that trend. And certainly, people moving out of California for various reasons in high-cost areas, highly taxed areas, going more towards the favourable areas in the interior.

Charles: Yes, absolutely, and you mentioned agriculture and arable land, well I also just, I don’t know them personally but through other millennials I know it turns out there’s quite a few millennials who are homesteady. In other words, they’re buying abandoned farms or they’re buying rural land and starting to raise pigs and chickens. And again, the cost is so much lower, and I want to make a last point here which is this could be a global trend. In other words, it may not be isolated to the U.S. or North America. Because I know, again anecdotally, that there’s evidence of this in Japan. Which is highly urbanized, highly expensive, you know basically housing is not affordable in Kanto plain around Tokyo. That there’s millennials there who are just giving up their full-time job, moving to these abandoned villages, or almost abandoned, there’s only a few old people left, and they’re renting these beautiful old farm homes for like 200 bucks a month including the land around it, starting a garden, and then they’re working part time online. Because a lot of them they’re illustrators or they’re graphic designers, or they’re programmers. And so that’s that other aspect of our economy, what I call the emerging economy or what a lot of people call the fourth industrial revolution, the digital economy for a lot of young people with technical skills, they can work anywhere. So they can actually afford to live in a small town that’s super cheap and just work part time online. So there’s a lot of positive things that the government can’t destroy here with over regulation. And there may be ways to get around the damage of the financial repression. And so anyways, those are the potential positives.

Richard: Yep, exactly ending on a positive note that through some type of regulatory reform process as we discussed earlier together with innovative ideas on housing in terms of tiny houses, container housing, retrofitted malls, with the trend of working at home, telecommuting, internet online based businesses, the whole retail sector, malls dying but everybody setting up businesses that are online through Amazon or Shopify. Maybe that’s the positive trend to allow more affordable housing and opportunities.

Charles: That’s right, that’s a good summary Richard because if it’s not affordable it’s not going to work for the millennials. They’re not interested in overextending themselves on debt. And so it has to be affordable and that’s where the opportunity is for everybody who wants to be part of this, I think is to provide affordable retail space and affordable housing and get in on that as you say with things like tiny homes. And maybe my final comment would be, the local governments, the local city governments, and the county governments who get in on this are going to prosper. The ones who allow tiny homes and make it easy for young people to start businesses, low-cost low fees, they’re going to prosper. And everybody who is in this high regulatory barrier, high cost, high expenses, overregulation, they’re going to die. And we already see that, and I’d say Chicago is probably a good prospect for a city on the way down from just too many expenses and overregulation. So, yeah.

Richard: Well, that’s great insight Charles, and how can our listeners learn more about your work?

Charles: Yeah, please visit me at oftwominds.com (http://www.oftwominds.com)

Richard: Great, and we’ll do another session on another topic in about a month.

Charles: Yes, looking forward to it.

Richard: Great, thank you very much, Charles.

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“I have warned that whenever a government creates a solution to any crisis, that solution becomes the next crisis. This is what I have called the Paradox of Solution.The unfolding of the exit of the central banks from the Quantitative Easing monetary policy will become a much more serious threat to the financial markets than anyone suspects .. The real problem lies with the European Central Bank (ECB) and the Japanese central bank and when they exit their Quantitative Easing programs, their economies are not the reserve currency and lack a solid bid from international capital. The end of QE will lead to a sharp increase in yields on the bond markets, and thus the financing costs for the states will explode far more rapidly today than at any time in past history. It is also possible that other sectors of the financial system, such as the stock markets and the foreign exchange markets in peripheral economies to the USA, will be cast into turmoil experiencing great difficulties without the financial support of the central banks .. The crisis emerges when governments, who are the ones who have been subsidized since 2008, find no bid for their paper. This will really send rates upward at a rapid pace .. The balance sheets of both the Japanese central bank and the ECB are unlikely to follow the Fed just yet. A withdrawal of the ECB’s purchases of securities could produced the most widespread damage in Europe since the Dark Ages.”

LINK HERE to the article

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

FRA is joined by Alasdair Macleod in a discussion of international monetary policies, particularly China and the Eurozone.

Alasdair Macleod writes for Goldmoney. He has been a celebrated stockbroker and Member of the London Stock Exchange for over four decades. His experience encompasses equity and bond markets, fund management, corporate finance and investment strategy.

INTERNATIONAL COORDINATION OF MONETARY POLICIES

The business cycle that the banks are trying to manage isn’t actually a business cycle, but a cycle of credit created by the banks themselves. Assuming you have an economy working with sound money, under those circumstances there can’t be what we call a business cycle because everything is random. You get creative destruction of businesses which are ill-founded. When they go to the wall, they do so on a random basis. There’s no cyclical behavior. Then the central bank comes in and feels that the economy isn’t performing strongly enough so it encourages the banks to create credit. Suddenly you have extra money going into the economy. Instead of people having to make a choice, they can have both. The creative destruction you see in an economy gets postponed, and accumulates the whole time under the hood. Eventually what happens is that the excess credit in the economy has to come to a halt.

The cycle of credit is what creates what we believe to be a business cycle. Central banks coordinate their stimulation of the economy to stop the economy from overheating. The effect of this is that they all do the same thing at the same time.

EFFECT ON CURRENCIES AND GOLD

It depends on the stimulation an individual central bank gives to its economy. On top of that, you’ve got what people actually do with the currency and the cycle is basically the change in purchasing power of the currencies the whole time. Underneath this you get an accumulation of debt that never gets washed out on this credit cycle. When you raise interest rates to the point where the economy suddenly shudders to a halt, you start lowering interest rates to try and expand the quantity of money in the economy to prevent people from going bankrupt. Generally central banks succeed in that, but the effect of this is to defer the destruction of debt which is completely unproductive. This rolls into the next cycle, and every time it just gets bigger and bigger. Then you look at statistics and you see the amount of debt built up has increased immeasurably, so the next financial crisis will be worse than the last one.

The protection the ordinary person has against fiat currency losing its purchasing power is to hold some money in gold. You want to be able to use this money when paper currencies either lose most or all of its value. In that sense, gold gives the most protection. If you want to insulate yourself from the collapse of the paper currency, then gold is the only thing you can use. Maybe silver, but silver has been demonetized. The only sound money in the market at the moment is physical gold.

You ask yourself, to what level would the Fed fund’s rate have to rise to trigger the next credit crisis, and that level is in the region of 2.5%. The credit cycle is really comprised of stimulation, inflation, and having to destimulate. You destimulate to the point where you collapse things, because there’s no fine line between slowing things down and creating the next crisis. You can’t just slow things down because it’s not enough of a response to kill price inflation; if you raise interest rates a bit, the market thinks the central banks are too afraid and then continue to advance purchases and dispose of money in favor of goods. The only way the central banks can stop this is to raise interest rates to the level where we change our behaviour.

The central banks raise interest rates to the point where the collapse occurs, then they crash interest rates and chuck money into the economy to ensure nobody goes bust. The idea that the central banks think they can manage what they think is a business cycle is just completely bizarre. Governments are effectively stuck in a debt trap as well. What we’ve got to look through is next time, is how much money does the Fed have to write an open cheque for this time, and what will be the effect on the Dollar. The Dollar, after all, is the currency to which other currencies tie themselves, and if the Dollar falls we all fall. This time around it will be considerably worse than last time.

TIMING OF NEXT CRISIS

The whole situation has become quite unstable. In Europe, there’s a movement of money away from the banking system and into principally Germany, Luxenberg, and the Netherlands. These banking systems are, as far as large depositors are concerned, safe relative to the banks in the Mediterranean countries.  The flight of capital from these weaker countries has hit record levels. The ECB is sitting on the situation and saying it’s not a problem, but the ECB has the eventual liability for the settlement system which is reflecting these imbalances. The total imbalance is in the region of 1.3T Euros. The important part is that the statistics coming out of the Eurozone indicate that there’s economic recovery going on. If there’s economic recovery going on, why do we have the continuing flight of capital?

Lots of people would say that China is a problem. What it’s now trying to do is deflate a bubble in the domestic market while inflating another bubble as it’s indulging in infrastructure spending. The annual spend on infrastructure is now in the order of $750B equivalent. That’s why you’ve got the demand for commodities coming out of China. But China finds that the wealth funds have been frontrunning her by buying commodities. This credit is getting more difficult for central banks to manage, and whole situation is becoming very unstable.

EFFECT OF USD INTERPOLITICALLY

If you pick up on China’s view as to what America is dong, you get a very different view from what’s reported in mainstream media in the West. The Chinese have worked out that America gains a huge amount from exporting the Dollar for value. They take it one step further and say that when Americans to raise funds, they encourage those Dollars back by destabilizing the region those Dollars have gone to. We’re now in a situation where Trump has been elected, but one of the problems he has is that he can’t raise any money because the debt limit has been reached and it’s not being extended. So how would you extend the debt? The Chinese would say that you destabilize a region where the Dollars are, and those Dollars are going to come flooding back. How do you get Congress on your side? You play the patriotic card and threaten to wage war with North America. No American can actually go against the idea of patriotism, so he got the extension up to October. This also explains why Trump moved from peace-making to warmonger in the space of less than 100 days.

Iran is also likely to be targeted later on this year, when Trump wants to increase the budget deficit after October, because the Middle East is one of the areas where there are lots of Dollars owned.

The Shanghai Cooperation Organization is set up by China and Russia, which started as an intention and security agreement and morphed into an economic unit. The idea is that the whole of Asia would become a free trade area. Between them, they are creating an industrial revolution throughout the most populous continent in the world. We’re talking about 40% of the world’s population suddenly having an industrial revolution that will link the whole continent. This is also impinging on Europe. It takes roughly two weeks to get a container from Beijing to Madrid right now, and it will be cut down. Compared to shipping by sea, which takes three weeks, you can see how the investment in these rail communications is massive. All the capital investment that is going to create this industrial revolution in Asia has to be financed, which is why the Asian infrastructure investment bank was set up by China and Russia jointly. All that infrastructure development has to be financed, and London is the center from which it is going to be financed. As far as the Chinese and Russians are concerned, they don’t want America to be involved at all. New York is completely frozen out of this for the reason that everything they do is reflected in bank balances back in the American banking system; they don’t want American interference or Dollars. London, working with Hong Kong, is how this is going to be financed. The big, big game is no longer Europe, it’s the whole of Asia.

EFFECT ON EXCHANGES IN SHANGHAI

China has been trying to promote the Yuan as an international trade settlement currency. It’s got a long way to go; the Dollar dominates this market. But one way they can promote the Yuan is by ensuring there are efficient financial markets that would allow people to do with the Yuan what they do with the Dollar. One of the things they have done at the outset is to set up a Yuan-gold contract in the futures market in Shanghai, settled in physical gold. We now have another thing that has been postponed: an oil contract in Yuan, that could result in oil priced in gold. America’s response to this is to be seen, but it’s clear that the future major economy in the world is going to be the whole of Asia.

In order to promote the Yuan at the expense of the Dollar, there has got to be some form of a gold conversion for trade purposes. Only when that happens can the Dollar be knocked off its pedestal as the major trade settlement currency.

There will be a point where China offers a gold option on trade settlements. If you want to do it at a gold price it has to be a far higher level, so the Chinese would move toward a higher level. But they don’t want to destabilize the world economically, so they’re reluctant to do it. As things evolve, they’re getting closer toward having to take that decision. To an extent it depends on what America does. China owns an awful lot of US Treasuries, which will have to be written off at some stage. Either America stops them selling, in which case China simply waits for them to mature and doesn’t reinvest their proceeds, or China forces the pace. We’re getting closer to the point where some decision has to be taken.

Abstract by: Annie Zhou <a2zhou@ryerson.ca>

LINK HERE to download the MP3 Podcast

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“The International Monetary Fund (IMF) .. has told Germany it should raise its property tax, cut social welfare contributions and invest more to reduce income inequality .. The IMF argues for higher taxes on property are in fact necessary and that the government should demand higher wages .. Years ago, Italy simply imposed a tax on money in one’s account. This was called a ‘capital levy’. This was a one-time charge as an exceptional measure to restore the sustainability of the debt. The IMF is also suggesting that measure be invoked to help the coming Sovereign Debt Crisis. .. The IMF has already calculated how much the measure would cost every Eurozone citizen:
‘The amount of the tax would have to bring the European sovereign debt back to the pre-crisis level. In order to reduce the debt to the level of 2007 (for example in the euro area countries), a tax of about 10 percent is needed for households with a positive asset.’ .. As you can see, there is NEVER any discussion about reducing taxes or the size of government. The solution is always to raise taxes and to not even look at the old Italian trick of a 10% seizure of all cash in your account.”

Martin Armstrong

link here to the reference

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“The global markets have been lulled into an eerie calm–think Minsky—as the recent Dutch and French elections have driven the anti-euro populists back underground. I caution that the economic situation still remains a very serious concern as President Draghi continues to build the ECB balance sheet in an effort to bail-out the fiscally weak states of Italy, Spain, Portugal, France and others. Italy is still a major concern as the non-performing loans plague its domestic banks. Add in that Italy has a debt-to-GDP ratio of 136% and it will take the entire EU to backstop the Italian financial system. I WARN ALL READERS THAT THE GLOBAL DEBT SITUATION IS FAR MORE PERILOUS THAN GLOBAL EQUITY MARKETS REFLECT .. The world’s central banks have been busy adding liquidity to the financial system, which provides the backdrop for a Minsky Moment for complacency in the realm of ZIRP creates instability below the surface. We do not fight markets and therefore have not been sellers of equity markets by battling the power of central bank liquidity creation. But as geopolitics calm markets will return to focus on the fragile financial situation created by mountains of debt.”

LINK HERE to Yra’s related blog post

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

Martin Armstrong: “I wrote about that explaining that the central banks have been buying equities since 2014. The Swiss National Bank posted its latest 13-F holdings showing it has been buying equities at a stepped up pace during the first quarter 2017. Their total equity holdings have now reached $80.4 billion, up $17 billion from the $63.4 billion at the end of 2016 .. The central banks are trapped. Lowering interest rates to virtually zero reduced their yield on reserves and they cannot sell off government securities. The only viable hedge is US treasuries in the bond world against the chaos of the Eurozone. That offers no diversification just more government debt. The ECB owns 40% of European government debt. The Swiss are buying US equities as a hedge against the Euro and political unrest. This is not manipulation. They lost a fortune trying to maintain the peg the franc with the Euro. They cannot use pegs, so the only alternative to just buying US Treasuries is private equities .. The central bankers understand what our model is warning about. As confidence continues to decline in governments, the central banks can go bankrupt UNLESS they too diversify out of government bonds .. Granted, nobody wants to talk about this yet in public. This is NOT manipulation.”

LINK HERE to the article

Why Central Banks & Buying Equities

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“They are concerned about political correctness, about having the latest-model iPhone and the number of likes their photos receive and how many followers they have on Facebook. But most of all, they are concerned about extracting as much as possible from the government in the form of subsidies and other kinds of benefits. It is a generation that avoids hard work (such as on the factory floor), and is content to work part-time in bars and restaurants, and to live carefree .. It is also the generation whose major contribution to civilization may be the invention of ‘retirement before working’ .. Needless to say, this concept of retirement before working has been fostered and encouraged by governments, which, with their generous transfer payments, make it more economical for some people not to work .. Therefore, compared to the boomers it is only natural and completely understandable that the millennials’ drive for achievement and thriftiness are inferior to the one that their parents had. But can the relative decline of the financial condition of the millennials be satisfactorily explained by their less entrepreneurial spirit? .. ‘The spirit of risk-aversion is also infecting corporate America. The once lavish budgets companies devoted to research and development are now spent on legal compliance and human resources.”

LINK HERE to the PDF

FRA Commentary: The pillars of financial repression like repressed interest rates has resulted in high asset and real estate prices .. this is shaping the views by millennials in many ways – we will explore these ways with Charles Hugh Smith in an interview discussion this week.

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“This article gets to the heart of why central banks’ monetary policy will never succeed. The fundamental error is to regard economic cycles as originating in the private sector, when they are the consequence of fluctuations in credit .. Monetary inflation transfers wealth from savers and those on fixed incomes to the banking sector’s favored customers. It has become a major cause of increasing disparities between the wealthy and the poor .. The credit cycle is a repetitive boom-and-bust phenomenon. The bust phase is the market’s way of eliminating unsustainable debt, created through credit expansion. If the bust is not allowed to proceed, trouble accumulates for the next credit cycle .. Today, economic distortions from previous credit cycles have accumulated to the point where only a small rise in interest rates will be enough to trigger the next crisis. Consequently, central banks have very little room for manoeuver for dealing with future price inflation .. International coordination of monetary policies has increased the potential scale of the next credit crisis, and not contained it as the central banks believe .. The unwinding of the massive credit expansion in Greece, Portugal, Italy, Spain and France following the creation of the euro is an additional risk to the global economy .. Central banks should desist from using monetary policy as a management tool for the economy .. An economy that works best is one where sound money permits an increase in purchasing power of that money over time, reflecting the full benefits to consumers of improvements in production and technology. In such an economy, Schumpeter’s process of ‘creative destruction’ takes place on a random basis. Instead, consumers and businesses are corralled into acing herd-like, financed by artificial credit. The creation of the credit cycle forces us all into cyclical behavior that otherwise would not occur.”

LINK HERE to the article

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“The latest weekly report by Deutsche’s Credit Strategist Dominic Konstam finds something even more troubling: $1 trillion in central bank liquidity YTD – or roughly $250 billion per month – is not enough .. Konstam’s conclusion is that there are two outcomes: either asset prices drops, or central banks will ultimately be forced to inject even more liquidity .. The bottom line, however, boils down to the following chart first shown by Citi last September, demonstrating that the marginal cost of central bank liquidity injection is now negative…

… and is located in the lower right quadrant, something both markets and policy makers realize.

Which means that when stocks realize just how insufficient the record $1 trillion in central bank liquidity has become, central banks – which have stepped into every single market correction over the past 7 years with some ‘liquidity supernova’ – will, for the first time since the financial crisis – be out of tools… something Janet Yellen appears to have realized some time ago.”

LINK HERE to the article

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

FRA is joined by Yra Harris to discuss the current state of bond, currency, equity, and commodity markets.

Yra Harris is a recognized Trader with over 40 years of experience in all areas of commodity trading, with broad expertise in cash currency markets. He has a proven track record of successful trading through a combination of technical work and fundamental analysis of global trends; historically based analysis on global hot money flows. He is recognized by peers as an authority on foreign currency. In addition to this he has specific measurable achievements as a member of the Board of the Chicago Mercantile Exchange (CME). Yra Harris is a Registered Commodity Trading Advisor, Registered Floor Broker and a Registered Pool Operator. He is a regular guest analysis on Currency & Global Interest Markets on Bloomberg and CNBC.

Yra highly recommends reading The Rotten Heart of Europe – send an email to rottenheartofeurope@gmail.com to order

BOND AND CURRENCY MARKETS

We’re just coming off a Fed meeting in which they called the first quarter transitory, which means they’re not worried about it, yet they made no change to the current policy of maintaining the Fed balance sheet. The $4T will remain at $4T, and whatever expires will be renewed by the purchasing of whatever duration expires by the new instrument. With the Fed raising rates, even though GDP turned out to be low, there are other elements that are slowing down. Right now, if the Fed was looking to start unwinding its balance sheet, which would mean a dynamic act of actually starting to sell some of their assets, the first move would be for the curve to start to steepen. A lot of potential buyers would step back, and market would say ‘show me what you’re going to be doing’. You’re going to have others trying to front run the Fed, because the Fed model says there should be no problem. But what the Fed doesn’t model is the effect on the marketplace, and they’re hoping the marketplace allows them to do this. What the Fed is worried about is whether the market will be cooperative with what they want to do. It’s why they don’t want to acknowledge any pre-program. It’s the same problem the ECB has. A lot of people front run the ECB, and the market tries to rush ahead of it.

If the Fed tries to unwind by an aggressive type of action, which is selling the debt to unwind in a quicker way, the long end of the curve will go up higher than the short end in the immediate period, because the market will race ahead of them. We don’t know how the curve ought to be steepening in that environment. With the Fed doing nothing but raising rates, the curve has actually flattened quite a bit.

It’s interesting how the US 2-10 curve, the ‘investor’s curve’, just mirrors the German 2-10 despite negative rates in Germany. These two just continuously mirror each other. Ultimately, if the Fed is too aggressive in unwinding the balance sheet, that’ll tip us into a very flattening curve, which will fly in the face of what we think should happen. There’s going to be all sorts of things here because the market is going to set the tone. If the Fed were to actually embark upon an unwinding, the market will then set the tone unlike QE. Right now the curves are telling us that the Fed is a little too aggressive, and that’s why it’s flattening.

Everything is ‘transitory’. The Fed is not going to do this in a vacuum. If Marine Le Pen wins the election and throws the entire financial system into turmoil, the Fed has to change their perspective too. So we have a lot of things in play here. Yellen will be very reticent to raise rates too quickly; they want to see more from Trump and Congress before they get more aggressive.

OTHER FACTORS THAT COULD INFLUENCE USD AND BOND MARKETS

In the first quarter, central bank buying totaled a trillion Dollars in assets. The amount of liquidity is huge. The Dollar and all currency markets are all relative value plays. Even if everyone is moderately up, some are doing better and offering a higher return, but the US equity market is close to what we may discern as full value based on historical metrics. In a fairly stable world, the US is not where we should be chasing assets right now. The Mexican Peso and stock market is probably the most undervalued asset class in the world.  People are pushing India as a great place to invest, but India has a lot of enormous infrastructural and political problems that they’re trying to work on.

The best place for investment right now is Germany. If the Germans agreed to do whatever it takes to hold the EU project together, you’ll experience some inflation in Germany but the currency will be weak. On the other hand, if things got so bad that the whole EU project fell apart, you’re buying Germany with a low currency. If it were to pull out for some reason, German assets would convert to Deutschmarks. Germany could be bullish on assets, and you get the use of a weak currency. We get a cheaper currency with a much stronger economy. This is not an easy world to invest in. The political risks are phenomenally great; Italy is still a massive problem for Europe, Greece has not gone away, and there’s no trade in Japan’s JJB.

When you look at how central banks have single handedly destroyed the bond market, you don’t have to look very far. The Fed may be too self-confident, but their models have no respect for market reaction and they still think they can extract themselves with very little pain. If they deem to shrink their balance sheet, they’re going to find out the pent up power of the market and its ability to cause them a lot of pain.

THE GLOBAL MINSKY MOMENT

At the end of the day, interest rates aren’t high enough to attract people into leaving the comfort zone. They won’t let interest rates go high enough to ease some of this burden, so people take comfort in the equity market. Minsky must be spinning in his grave that we’ve gotten to this point and it’s so controlled by the central bank. The central banks have created a global Minsky moment because everyone is complacent. It’s everything approaching the Minsky moment because where are you going to go? There is a cost to everything; just because you don’t see it today doesn’t mean it won’t pop up tomorrow. This is all the outcome of central banks not knowing when enough is enough. QE1 in the US was absolutely needed to prevent a mass liquidation of US assets, but after that it stopped making sense. QE2 and QE3 were totally unnecessary and has created this mess that we are now in.

SILVER-COPPER RATIO TO EQUITY MARKET

Gold has depreciated against silver significantly over the last few weeks, while the equity markets have been holding up pretty strong. Usually silver tends to outperform because it also has industrial usage. Copper has a tendency to outperform the other metals when the equity markets are doing well, because people correlate it to the economy. Copper has been dramatically outperforming silver over the same period, which is highly unusual when the equity markets are holding.

The Chinese have gigantic warehouses full of commodities, which wreaks havoc on that market. You do hear some bad things about what’s happening in the Chinese economy. If that’s the case, commodity prices may come under pressure as some of the lenders call the collateral and start pushing it on the market to raise some cash to secure loans.

INVESTMENT POTENTIAL OF COMMODITY ASSET CLASS

The agricultural sector is a good sector to be in. We have massive crops around the world and prices are relatively strong historically. We’ve had a bit of a rally in the agricultural products in the last few weeks, but it’s something to pay attention to. You should take a look and see if there’s an opportunity for you. The one thing that we’re sure of is that China and India need grain, end of story. As their income levels move up, agricultural products and higher protein products are in demand.

The great thing about the commodity market, unlike the commodity markets which are manipulated, is that farmers and miners react to price. The markets do work.

Abstract by: Annie Zhou <a2zhou@ryerson.ca>

LINK HERE to download the podcast in MP3

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“It is Fed that is causing a recurrence of boom and bust. It initiates a boom through its easy money policy. In an attempt to reign in the excess it has created, the Fed at some point turns the boom into bust. To fight the bust it returns to an excessive monetary policy. The result is not only a volatile economy, but also an unsustainable build-up of ever greater amounts of debt on the part of government, consumers and corporates — making the final bust extremely costly .. The takeaway from the Austrian monetary business cycle theory is this: Either the boom goes on, and interest rates continue to remain at very low levels. Or interest rates move back to normal, and the boom turns into bust. An ongoing boom, accompanied with a return to normal interest rates, however, is the least likely scenario. If the Fed has learned from its most recent past, it wouldn’t be surprising if US interest rates will remain lower for longer.”

LINK HERE to the article

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

“We live in an age of asset bubbles rather than true economic growth. The investment world is skewed by the latest round of monetary policy experimentation by the Fed, including years of artificially low interest rates and trillions of dollars in ‘massive asset purchases,’ to paraphrase former Fed Chairman Ben Bernanke .. These bubbles are caused and magnified by supply constraints, not an abundance of credit. Whether you look at US stocks, residential homes in San Francisco or the dollar, the picture that emerges is a market that has risen sharply, far more than the underlying rate of economic growth, due to a constraint in the supply of assets and a relative torrent of cash chasing the available opportunities .. Likewise with the dollar, the image of the financial markets is one of constraints rather than policy ease. Since the middle of 2014, the value of the dollar against major currencies has risen sharply, suggesting a shortage of liquidity or at least a relative preference for dollars vs other fiat currencies .. Regards the prospect of a dollar drop, Megan Greene tells us on Twitter that ‘Only way I see it in the short-run is if everyone else gets in trouble and the Fed opens swap lines w other CBs to supply QE #unlikely’ .. We hear all of that, but can’t help but ask the question. All things do come to an end, including the seeming ability of the FOMC to painlessly levitate the fortunes of heavily indebted nations on a sea of easy dollar credit. This works really well when the dollar is strong, otherwise not so much.”

LINK HERE to the article

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

Danielle Park: “Advised and led by their US trained finance types, China has followed the same hide-your-debts-playbook that brought down Enron, Worldcom and global financial markets in 2001-03, as well as Bear Stearns, Lehman and global markets again in 2007-09. The difference this time is the unprecedented scope and scale: China is a whole country, the world’s largest population and the second largest economy. The main benefactor of credit-fueled cash flows from the west over the past 15 years, China forgot that credit expansion is a finite cycle and spent like a drunken sailor throughout. Now it’s left holding a leverage on leverage bomb of unprecedented proportions, with sketchy debts oozing out of every crack and crevice .. We should expect that the liquidity and solvency problems there will be felt though highly connected world markets. This is a necessary part of the great cleanse and reset so needed to reboot asset prices and the economy. So, long-run positive, but short to medium term dangerous for capital.”

LINK HERE to the article

Kyle Bass: “Some of the longer-term assets aren’t doing very well .. As soon as liabilities have problems – meaning the depositors decide to not roll their holdings – all hell breaks loose.” .. The wealth management products, or WMPs, have swelled to $4 trillion in assets in the last few years, he says., on a $34 trillion banking system .. “Think about this – in the US, our asset-liability mismatch at the peak of our subprime greatness was around 2%! … China’s mismatch is more than 10% of the system.”

LINK HERE to the article

Disclaimer: The views or opinions expressed in this blog post may or may not be representative of the views or opinions of the Financial Repression Authority.

Tonight’s podcast includes some insight on Europe’s current economic and political states, and how it translates into current economic trends.  We have seen the rise of the anti-European and anti-EU mindset all across Europe. This movement not only impacts European politics, but the entire state of the European economy as well, and has direct influence over Western economics in terms of trade agreements, investments in the European market, and the value of our currencies.

Megan Greene, an accomplished economist with a specialty in European economics, explores what Europe needs at the moment and what is most likely coming up in the European economy.

FRA:    Hi, welcome to FRA’s Roundtable Insight. Today we have Megan Greene. She is [the] Managing Director and Chief Economist of Manulife Asset Management. She’s responsible for forecasting global macroeconomic and financial trends, and analyzing the potential opportunities and impacts to support the firm’s investment teams around the world. Formally, she was with Roubini Global Economics, where she had a focus on the Eurozone, and she also holds a Masters [degree] in European politics from Oxford University. So, quite a focus on Europe and we would like to explore Megan’s thoughts on Europe. Welcome, Megan.

Megan Greene:    Thanks for having me.

FRA:    What are your thoughts, what’s happening in Europe? The political situation there, the rise of anti-Europe parties, how that all affects what’s happening as far as the economics and the financial situation of the Eurozone and the European central bank?

Megan:    Sure. So I would say, first of all, that the far greatest risk coming out of Europe for this year, probably the next year (too) is the political risk. Europe has an incredibly busy election schedule over the next year-the next election coming up is actually in France. It’s coming up quite soon; their two-round presidential election. It seemed at first very likely that it would be a runoff in the second round between the right-wing populist national front’s candidate, Marine Le Pen, and the independent candidate Emmanuel Macron. But more recently, actually, two other candidates had a lot of momentum and those are the right candidate Fillon, and the communist candidate Melenchon.  This matters in large part because Le Pen and Melenchon both are running on a platform that’s very anti-European, very populist, and both have said in some form that they would like to renegotiate France’s relationship with the Eurozone, and potentially hold a referendum to see if France might want to leave the Eurozone. There is a chance that the second round of that election could be a “Le Pen, Melenchon” runoff, and that would be a market event for sure; it would be dramatic. More likely is still a “Le Pen, Macron” runoff, and it does seem most likely that Macron will end up winning. Even if Le Pen, the most anti-European candidate won, there’s a parliamentary election at the end of this year, and it seems very unlikely that her party would do well in those elections. It does seem that parliament would still be controlled, in which case it might be very difficult for Le Pen to actually have a referendum on France’s membership in the Eurozone. Even if they had a referendum, actually, the most recent opinion polls suggest that the French would vote to keep France in the Euro(zone). I don’t think that it’s very likely that, first of all, Le Pen would win, but secondly, that even if she did, that France would go ahead and exit the Eurozone. It’s a very low probability event, but such a high impact event-it’s something worth looking at.

The much bigger risk of a Le Pen win isn’t actually exiting the Eurozone, it’s just a series of bank runs starting in France but maybe spreading a bit wider. That would obviously have implications on the markets. Even bigger as a risk for the Eurozone than the French elections, I think, are the Italian elections which are due to be held by March of next year. It’s possible they might be held early…but probably not before the fourth quarter of this year. In any case, according to most opinion polls, the populist, anti-European five star movement isn’t in the top slot. It’s unlikely in an Italian election that the five star movement would actually win in absolute majority. They would have to find coalition partners and that won’t be easy given their ideology and the ideologies of the other political parties in Italy that might want to form a coalition with them. So even if the five star movement were to win the Italian elections, it’s not totally clear if they would make it into government. But if they did make it into government, they said that they too would like to have a referendum on Italy’s membership of the Euro(zone). Unlike in France, Europe is much less popular in Italy so it does seem plausible that if there were a referendum in Italy that Italy could end up choosing to leave the Euro(zone), and that would be dramatic-to have Europe’s third-largest country leaving the European project, that could really pose an existential challenge for the Eurozone. So those are two countries that could end up following in the footsteps of the UK in terms of leaving the European project.

Scotland is another country that could end up, actually, leaving the EU in its attempt to leave the UK. Its hopes given, of course, how pro-European Scotland is would be to rejoin the EU but they might end up having to get in the back of the line. That’s one concern. And then of course one issue that has been at the forefront of European risks since the beginning of the crisis, the global financial crisis, is Greece. Greece hasn’t been solved by any stretch of the imagination, it’s just garnering a lot less attention from the markets these days. Whereas before, the real concern was that there would be a stand-off between Greece and its creditors, and Greece would end up leaving the Eurozone almost by accident. Now, it’s very different. It’s very clear that the Greek government will just end up caving every time its creditors ask new reforms of this government, and just recently they came up with a deal for another round of funding  to ensure the government is signed up to what the creditors demanded. The problem now is that creditors themselves can’t agree on what they want, so the IMF would really like to see Greece have debt relief, which is necessary in my view. The other creditors, particularly Germany, don’t want to commit to debt relief now, particularly not in advance of the German elections coming up. If they don’t come up with a solution, the IMF could end up leaving the bailout program in which case there is a real risk that Germany, and more recently the Netherlands, has said that they wouldn’t participate without the participation of the IMF. If these countries don’t participate, then the bailout program would fall apart. Greece would have no means for funding, and could end up leaving the Eurozone, not because it was specific strategy on the part of the government or even on the part of the creditors, but again, almost by accident. There is a risk that you could have some EU and Eurozone breakup, even though the risk isn’t as high as it once was.

In terms of the actual economy in the Eurozone, in aggregate, I think that the Eurozone is roughly a 1.5% growth economy, but again that’s in aggregate so it masks the big divisions between the core countries like Germany and the weaker countries like Greece and Portugal, and Italy as well. Data has been looking better; much as in the US, much of the confidence data has looked good, a lot of the soft data, the PMI data for example, has been really improving. It’s the hard data that’s not looking as great so things like industrial production, new factory orders, that hasn’t really come in yet. Lending is actually expanding, so we might expect some improvement of the hard data such that there is a sustainable economic recovery in the Eurozone. That recovery can only really be so strong as long as the approach remains that if all the weaker countries doing all the adjusting and all the core countries just carrying along as they always had. Evidence in that is Germany’s current account surplus which continues to hit new record highs every month. Germany and other core countries aren’t adjusting at all and the weaker countries continue to cut their wages and pensions. In Greece’s case at least, we haven’t seen much wager-pinching growth, and they continue to try to increase their national savings as a percentage of their GDP to match Germany’s again, and that just means there’s not a lot of consumption or investment happening in the weaker parts of the Eurozone. That really cuts off any avenue towards domestic demand, it means that most of the Eurozone is relying on exports for growth. There is an economic recovery happening in the Eurozone, it’s just muted by the fact that it’s all the weaker countries doing all the adjusting and none of the stronger ones. I think that we can expect that to continue in the absence of any major policy change, so I think the Eurozone in aggregate will continue to be a 2% growth economy.

In terms of what the ECB is doing, the ECB would love to normalize monetary policy but it’s just taking them a while because the recovery is so weak and because inflation isn’t coming in. I think that the ECB will probably announce a tapering of their QE program at the end of this year, and at the end of next year, they might have to wait until the beginning of the following year. The ECB is very much going in the footsteps of the US in trying to very, very gradually normalize monetary policy. I think that if some of these political risks I mentioned materialize, then it’ll be incredibly difficult for the ECB to hike rates in to that for sure. There are other risks, in the banking sector for example, particularly in Italy, that might make it really difficult for the ECB to tighten monetary policy.

FRA:    You mentioned earlier on bank runs, could those be initiated from a catalyst of something other than one of the countries pulling out, like Italy or France, pulling out of the European monetary union? Would it be other factors potentially, in terms of the bank runs?

Megan:    Yeah, you could see bank runs happening as a result of financial instability in in of itself. Particularly in Italy, there are a lot of banks that are still requiring recapitalization, non-performing loans in Italian banks. Portuguese, Irish, Greek, even French banks are really elevated and it used to be that they would work at their non-performing loans by creating bad banks because they can’t create the same bad bank that they used to be able to. That’s no longer a solution which means that none of these countries really know what to do with the massive heap of MPL’s that are sitting on their balance sheets, and so if you see those non-performing loans start to be realized and turned into defaults you could end up having a real scare.

The Eurozone has made some progress on institutional change in terms of creating a banking union, but they haven’t gotten all the way there yet so rather than saying they have a banking union I’d say they have a loose banking federation. There’s still no risk sharing in terms of banks in Europe so that means that not only is there not a common deposit guarantee in Europe, but I do think that if any country that has a big bank that really needs to be wound down. Now, governments aren’t allowed to step in and bail them out, and I think that wounding down a big bank is absolutely politically toxic for any leader so faced with that choice, most leaders would just break the rules and completely undermine the banking union and that in itself could spark off bank runs as well.

FRA:    Do you see the potential for a move towards a fiscal union in terms of creating an actual European bond or just conducting fiscal policy across the entire Eurozone?

Megan:    I think part of a fiscal union is needed, though I don’t think we need, for example, a common fiscal authority. I think we do need to see asset class in Europe that is liquid and deep enough to withstand any sudden stops, so I do think they need to create mutualized debt like a Eurobond. But then actually I think that the private sector can go ahead and step in rather than having a fiscal authority. If we had a capital markets union, I think that that could go a long way towards achieving what a public fiscal union could achieve and I think that’s necessary because I just don’t think that there’s any political will either in the core or in the periphery to actually have a fiscal authority and have everyone sign up to the same rules. So I think that it’s unlikely and would be a waste of political capital to try to create a fiscal authority.

One way of explaining what I think that the Eurozone needs is a mutualized debt so a Eurobond, but then in terms of the private markets governing cross border investments and exposure, it’s a bit like our credit card companies like VISA and MasterCard, that’s mutualized debt with no real central authority to manage it. There is some precedent for, I think it’s possible, but I don’t think it’s possible to see a full fiscal union with a single fiscal authority. Unfortunately, Eurobonds aren’t at all on the agenda now. It would require several more acute crises, and existential crises in the Eurozone to get the core members and the peripheral members to sign up for it, but particularly Germany because Germany doesn’t really see why they should accept other countries’ risk, and they’re worries about creating a moral hazard by going ahead and mutualizing bonds. So I think it’s very unlikely, but I do think that we need Eurobonds eventually for the European project to stay together.

FRA:    And actually just recently this week US president Donald Trump made some comments on the dollar that it was too strong and so there was some movement on the dollar going lower; pushing the euro higher. Could that be a trend, and if that were to happen, if the euro would strengthen, could that cause global havoc and the countries’ struggle on their economy and debt burden?

Megan:    Well, I think that’s its really unlikely that the general trend will be that the dollar weakens, I think that it’s much more likely that the dollar ends up a bit stronger even though the US president is trying to talk down the dollar at the moment. It’s really hard to conceive of a situation in which it’s in the US government’s best interest to see the dollar depreciate. The only scenario I can really think of is if there were huge problems in other economies, and the US fed opened up slop lines with other central banks to essentially fund their QE program so the Bank of Japan and the ECB, and the Bank of England. I think that’s really unlikely. We have seen the dollar weaken a little bit but the general trend is for the dollar to strengthen and that’s relative to a basket of currencies but that includes the Euro. I think generally the Euro will be weaker. Also, we will have movements, depends on your time frame of course, but I think if the French election results in Macron at the helm of government, then I think that the Euro could strengthen off the back of that.  But if Le Pen were to win for example, I think the Euro would weaken off the back if that, so it will depend to some degree of political developments and in the long term, I do think that the Euro will probably weaken relative to the dollar. Not so much necessarily because of the factors that mean the Euro should be weak but in large part because of what the US and the fed are doing.

FRA:    Given these political developments, do you see Germany continuing to bear the debt of the rest of Europe in terms of transferring its current account surplus to the less fortunate states of the union…or could it be that Germany considers on leaving the Eurozone?

Megan:    I think that Germany has really been taking on risk through the target to balance this at the ECB, so the target to imbalances is now at record high, or higher than they were back in 2012, when there were much greater concerns about countries leaving the Eurozone. That’s largely because of Italy, actually, so it’s largely because of German investors pulling out of Italy. Now that only becomes a problem if a country actually leaves the Eurozone and that seems unlikely, I think. It’s certainly not my base case scenario over the next couple of years. Otherwise, Germany isn’t really funding everybody else’s debt, but I do think that there is a discussion about whether it’s really in Germany’s best  interests to stay in this project. I think that it definitely is. Germany benefits from an artificially weak currency because it is connected to so many weaker countries, and that’s been really helpful for Germany given that their growth model has been pretty reliant on exports for the past several years so the domestic demand now stand for a slightly larger percentage of GDP than it has in the past, but its only really slightly larger. Germany is still dependent on exports for growth. If Germany were to go ahead and leave the Eurozone, it would probably see its currency appreciate massively and that would completely undermine its entire growth model so it would have to come up with an entire new model and that’s not really in Germany’s best interests so I do think it’s in Germany’s best interests to stick in the Eurozone.

I will say that I’ve spent a lot of time talking to the EU governments and my argument with them has always been that Germany always had a very high national savings rate, and so they’ve had a really low national investment rate, which hasn’t really served them well. I mean they’ve invested in Greek government bonds, and Portuguese retail, and Irish property, which (those investments) turned out to be really bad investments. It also means that German investment domestically has been really low, so Germany suffers from chronic underinvestment and as a result their roads are in bad shape, their bridges are in bad shape, so my argument has always been that maybe the German government should encourage domestic investment and that would boost Germany’s growth, and that would also trickle out and help the growth of the rest of the Eurozone. The German government’s response to me every time is to ask me why they should care about growth, which as an economist you can imagine, seems like a weird question but according to them, they don’t have incredibly high growth but they have a really high standard of living and very low unemployment. In their view, growth is kind of an Anglo-Saxon obsession and they’re doing just fine. So this approach to growth in Germany, and this approach in the entire region whereby Germany does the same as its always done and everybody else tries to look more like Germany, I think that’s here to stay for a number of years.

FRA:    Interesting. And what are your thoughts on the UK and Brexit, how that’s playing out, and could there be any changes between now and the next two years after they receive their Article 50 notice like a few weeks ago?

Megan:    I think there are still some that are hoping that the UK will take back triggering Article 50. I spoke with the guy who wrote Article 50, John Kerr, and he says you can and he intentionally left wiggle room in it. I think it’s very unlikely that the government will do that given that they’re acting on a mandate that was given to them by the people. Also if they were to go ahead and revoke it, they probably would have already damaged their relations with the rest of the EU given that they’re negotiating to leave.

I did a lot of consulting on Brexit and testified in the House of Lords, and before Brexit I would’ve said that the worst possible option was the UK going for a so-called “hard Brexit”, which means leaving the single market all together. Now, I think that’s no longer the worst option, I actually think it’s the most likely option. The prime minister has said that’s what they’ll pursue. I think there’s a worse option out there which is that after two years of negotiating, both their divorce from the EU and their new relationship with the EU, they actually don’t have any agreement on what their new relationship with the EU should be, at which point the UK would just kind of stumble out of the EU. They would have to rely on the WTO for their trade relationships. The problem with that is that right now the WTO has relatively robust rules and some credibility, but in two years from now it actually might not, so, you could conceive for example the US government trying to implement a border adjustment tax which is most likely illegal according to WTO rules. Having the WTO turn around and say, “Well, that’s illegal you can’t do that” and the US administration could just reply by saying well, “We don’t care anyhow”. That would completely declaw the WTO. That’s just one example and there are a number of potential trade policies coming out of the US in particular that could really undermine the WTO, so the UK’s plan is to actually rely on WTO rules so that at the end of two years the WTO might be severely undermined by then, in which case, that’s a terrible plan for the UK. I think that’s the worst scenario.

The only way, I think, that the UK could actually have a deal at the end of two years is if they cut and paste it from somewhere else. Two years is not a lot of time to negotiate their divorce from the EU first, and of course not much will get done before the French elections, and then the German elections in September, and then the Italian elections in March, so, there will have to be breaks in negotiations. They’ll have to negotiate the divorce and then they’ll have to negotiate an entirely new relationship-that’s a lot to do in two years. If they can cut and paste a new relationship from somewhere else, they might be able to pull it off. One way to do that is to copy the deal that Canada and the EU struck: the Ceta deal. The problem with that is that it doesn’t include anything on services and more than half of the UK’s economy is services so they’d have to write an entire new chapter to cover services, and that in itself could take two years. That’s problematic. There’s one other option that’s currently being discussed behind closed doors in the UK and that’s to copy the deal that the EU just struck with the Ukraine which does include services so that is really feasible. It is mainly being talked about behind closed doors because the UK doesn’t want anyone to realize that they’re trying to follow the Ukraine as a model. That is one option but it’s too early to say whether really is possible or not but it’s something that they’re looking at.

FRA:    Finally, just wondering your thoughts on the investment environment, what this all means, not mentioning any specific companies or securities, any thoughts on asset classes or types of investments that could make sense in Europe given all the scenarios, assuming there could be some investments that could make sense regardless of all the different scenarios like whether Germany stays, whether they pull out and different countries leaving, the effect of political parties getting elected. And would it make sense for Europe in general now from a contrarian perspective? Perhaps like German corporations or German real estate, if they were to pull out their currency would appreciate, but if they stay in there could be more inflation generated to ease to burden of debt across the Eurozone. Your thoughts?

Megan:    German real estate certainly is one potential opportunity but generally I would say given even all the risks that I’ve highlighted particularly the political risks, I think that the most likely scenario over the next year or two is that we go through all these elections and actually in the end we just have the status quo, which would be market-positive. I’m hesitant to get too excited about that because I do think that there are real restraints on the economic recovery in Europe because of the politics as they currently stand, so the status quo means that would continue. Still, I think that would be a risk on development in which case given that you have the ECB continuing to ease now and I think that they’ll continue to maintain accommodative monetary policy going forward, and you have the fed in the US tightening actually, that does means that there might be opportunities and equities in Europe generally so I do think that that is one place that investors could look. In terms of banks in Europe, there are some real problems in terms of the health of bank balance sheets particularly in Italy, Portugal, even France, but banks are incredibly cheap so there might be some valuable investments there. Generally I do think that the valuations for companies in Europe will go up so I would say that European equities are probably a good opportunity now.

FRA:    Great. Great insight. How can our listeners learn more about your work?

Megan:    You can follow me on twitter, its @economistmeg to not only see what I write myself but to also see my commentary on the latest, greatest in Europe and the rest of the world.

FRA:    Great, thank you very much for being on the show and again, thank you.

Megan:    Pleasure, thanks for having me.

Abstract by Tatiana Paskovataia, tatiana-p28@hotmail.com

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Greenspan thinks U.S. President Donald Trump has a math problem with his budget .. Greenspan says that interest rates will have to rise because of very large budget deficits if big programs are not cut .. Interest rates and inflation will go up right along with it.

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