Wednesday, June 15, 2016

Central banks are becoming huge drivers of deflation. Fed adds to this today.


Central banks driving deflation

The Fed held interest rates steady today. It was the wrong decision. 

Central banks are increasingly becoming big drivers of deflation. Look at the ECB last week and its announcement that it was now going to buy high yield bonds. That was the day the markets topped out. Stocks and many materials markets turned south and have been heading down since.

The ECB has been driving massive deflation in Europe via its negative interest rate policy and ongoing asset purchases. Now it's buying high yield. That's HIGH YIELD income that would have gone into the economy. And Draghi wonders why deflation has been so hard to counter? For chrissakes, he's the one driving it.

Now we have the Fed and Yellen and her extreme cautiousness. The Yellen Fed is probably the most cautious Fed that I have ever seen. She did one rate hike back in December. That's it. Even so that was a success. It got things going. In fact if you go back and look at what happened after that December 16 hike you will see that gold bottomed and commodity markets all started moving higher. Stocks climbed, etc. Growth started to pick up. 

We've been lucky because so far this fiscal year government spending has been strong. It's up bout $90 billion over last year and last year was the strongest spending in five years. It's been the only thing that has kept us out of recession, but not by much. We're only growing at 0.8%. That's not enough..

We've been lucky with this government spending. However, we continue to face extremely strong headwinds most of those being injected by central banks and their insane deflationary policies. It's like a diseased academic dogma that's taken hold of policy and it's literally killing the global economy. Negative rates, income removal and the belief that all of that is stimulative? Utterly insane.

I have been correctly bullish since last year on the economy, stocks and risk assets. I have not been calling recession for the past three years like others because of the deficit. By the way, the deficit is now $93 billion higher than last year. Where are those people who have been screaming that the deficit is too small? Maybe it is, but at least acknowledge the fact that it's growing again. They don't. Why? Because they don't even know. They're too lazy to even look.

What we're facing now is probably a stall. I'm hoping that's the worst case. Maybe we continue to grow real, real, slow as spending continues to rise, but no acceleration. Not with the central banks fighting this recovery with everything they've got.

Let me finish by talking about gold. I've been bullish on gold since last December. That's when the Fed raised rates for the first time in 9 years. I wrote in this blog, BUY GOLD and gold's been going virtually straight up since that call. 

Last week it was all over the news that George Soros was buying gold and selling stocks. I laughed. Here's a guy who, recently at least, has been talking lots of nonsense. About China credit bubbles and global "uncertainty," and more. Based on this "rationale" it's an amateur move, buying gold. "Uncertainty" is not a reason to buy gold.

With deflation ratcheting up this could be 2014 all over again for gold. In other words, the beginning of a big decline. George better watch out. 

Had the Fed raised rates today I would have been bullish as hell, but that didn't happen and not only didn't it happen, but what came out of that meeting at least for me was a timid and confused Fed. Yellen's frightened and confused as hell. This is probably what a Hillary Rodham Clinton presidency will look like. Immense caution when it comes to the things we really need and bold, irresponsible action on the things we don't need. Like wars.

Great.

Anyway, I'm not saying dump stocks. Not just yet. The spending could pull us through. Barely. But right now it's all we got.

22 comments:

Diego Marcio said...
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circuit said...

While I doubt a one-time small increase in rates would be detrimental, a series of rate hikes probably would be. Do you agree that any positive impact of a rate hike on stocks would reverse should the Fed decide to increase rates in earnest?

Tom Hickey said...

Asset values are inversely proportionate to interest rates where leverage is a significant factor because of carrying cost of leverage.

In commodity and equity markets carrying cost increases with rates, affecting expected profits and making holding a position more expensive.

Leverage is also heavily used in real estate, both residential and commercial, and rising interest rates make deals more expensive and more difficult to structure.

Diego Marcio said...
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Diego Marcio said...

Thank you for ur knowledge Mike... apart from gold do you think will the dollar keep its track down or now it will also reverse up? thanks

Tom Hickey said...

I don't know if there is much to a "one-time" increase in the interest rate by the central bank.

Generally central banks choose to move slowly in a direction. The important thing for markets is direction.

Markets are expecting central banks to start raising rates gradually back to "normal." The question now is how soon and how incrementally.

Once the first rate increase occurs markets are going to incorporate expectations about the change of direction, frequency, amount, target, etc. This would impart a different dynamic from what has prevailed since ZIRP and QE.

The big question is how raising rates will fly in a lackluster economy when low rates supposedly spur growth. The big problems now are low growth and declining productivity.

Bob said...

More tax cuts for the wealthy are required. It's the only way!

Ben Johannson said...

Tom, I've seen no evidence low rates are an inducement to growth. If they were investment wouldn't be at record lows.

Tom Hickey said...

Tom, I've seen no evidence low rates are an inducement to growth. If they were investment wouldn't be at record lows.

Very low rates are a sign of low confidence and even lending at near zero doesn't induce investment if prospective investors don't see enough signals leading them to believe "build it and they will come." Growth is a function of investment.

This is the reasoning behind fiscal stimulus as "Keynesian pump-priming," that is, stoking demand from the side of government. If incomes increase, customers will commence spending and then when firms see rising demand coupled with low borrowing costs, they will have confidence to invest in order to take advantage of increasing opportunity. In fact, firms have to do this if other firms are jumping in, just to maintain market share, so there are knock-on effects.

Given normal conditions in which profitable opportunities are present along with business confidence, cost of borrowing is just another cost that gets figured into the spreadsheet. "All things being equal," lower costs imply greater profit and earlier breakeven, and are therefore an incentive to invest. Higher costs are disincentives.

But costs are not the only factor. Conditions are also significant factors and after a shock when confidence is low, even seemingly good opportunities are not seized not matter the costs. And when confidence is high, even Ponzi looks so good that firms are not dissuaded by high rates and galloping price rises.

When leverage is involved in finance, low rates create an incentive because assets appreciate when leverage use increases fueling liquidity. Even in the crappy economic environment after the crisis, easy money and low margin cost drove equities up in spite of flagging business prospects. Financial markets got disconnected from the economy. Conversely, higher rates make margin use more costly, reducing liquidity, since traders figure carry.

High end housing area did well, too, as well as art and collectibles. Money spilled across financial asset classes but not into investment. In adding, residential housing lagged for the most part even with historically low rates as ordinary folks chose to reduce debt. Moreover, credit standards tightened as mortgage lenders went back to traditional practices like significant down payments.

Matt Franko said...

"Despite 41% Reduction in Energy CapEx, Spending Levels Still Close to Index Highs
Fixed capital expenditures for the S&P 500 (Ex-Financials) index totaled $170.4 billion in Q4, which represented a
9.8% decrease from the year-ago period. Despite the decline, Q4 still marked the third largest quarterly CapEx total
in the past ten years, with Q4 2014 and Q4 2013 being the only periods to post higher totals. The record level of
CapEx for the index in the year-ago quarter led to the YoY decline in Q4. On a quarter-over-quarter basis, fixed
capital expenditures for the S&P 500 (Ex-Financials) increased 8.4%."

SP capex is at all time highs....

http://www.factset.com/websitefiles/PDFs/cashinvestment/cashinvestment_3.21.16

Mike good one here:

" By the way, the deficit is now $93 billion higher than last year. Where are those people who have been screaming that the deficit is too small? Maybe it is, but at least acknowledge the fact that it's growing again. They don't. Why? Because they don't even know. They're too lazy to even look. "

They dont acknowledge their ZIRP/NIRP either....

I hope you MMT people like what your ZIRP/NIRP is doing... still seems like an ill-advised policy to me as it reduces leading USD flow...

francisca said...
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Matt Franko said...

"leading them to believe "build it and they will come."

Tom nobody does that only idiots ... its rather "build it when they come..." ... look at the airlines currently... the oil went down so airlines lower their prices too and then more people are hitting the reservation lines so the airlines put more aircraft on line...

You say here: "Very low rates are a sign of low confidence and even lending at near zero doesn't induce investment "

Read the excerpt from the FactSet report let me paraphrase: EX-FINANCIALS, capex is at an ALL TIME HIGH... so what are you talking about here?????

So the MMT top-end-of-towners want less financial sector so we can see here that capex EX-FINANCIALS, is at an all time high... so they should be doing back-flips no?

Youve got the deficit growing, financials in massive retreat, rates at zero and in some cases even better according to MMT they are negative, USD is "free-floating!", etc... yet these MMTers keep complaining ... what is their problem they have like most of their policies in place? According to them things should be booming... what the hell is up with these people???

Six said...

Matt, you're arguments always seem to revolve around misstating your opponents argument. You can do better.

Matt Franko said...

1. Deficit growing
2. Rates zero to negative
3. Finance in retreat

I am not mis stating anything

Tom Hickey said...

@ Matt

That's a rosy picture.

If all that is the case, why do you think things are not booming, or provide evidence that they are, despite the fact that many if not most working stiffs think that they are doing poorly.

Do you think it is just relative inequality that is pissing workers off and most workers are actually doing fine.

And why do you think that raising the interest rate marginally will make a difference if things are going so well already?

Tom Hickey said...

BTW, I admit that in many ways the US economy has recovered and it chugging along. Corporate profits are doing fine historically, and private debt/GDP has declined from its historical highs at the time of the crisis.

But the real US growth rate has slowed and non-farm productivity is low.

The problem may lie with the compensation rate not keeping up with the productivity rate, which is resulting in an increasing capital/labor ratio, as well as an increase in propensity to save/consume.

Tom Hickey said...

The conventional argument is that things are going really great but working stiffs just don't realize it: These poor self-deluded people are overcome with envy of people doing better than they are and don't recognize that distribution is based on marginal productivity implies distribution iaw merit and just deserts (which it does't, since macro analysis doesn't apply to particular individuals anymore than statistical analysis does).

Andrew said...

I don't really think anybody knows what a change in interest rates mean in this environment EXCEPT that raising rates makes housing less affordable in the short term and probably leads to depressed prices in the longer term. It probably also means that more rent and fewer own their homes.

People talk about the failing infrastructure in the U.S., and yes, there are lots of problems, but take a look at the state of private holdings and it's not much better. Drive through most cities and towns in the east coast and midwest (can't speak for other places) and they look like crap. And how can people fix them when either their money goes to student loans, rentier costs and healthcare? We tinker with the system at the edges and hope that it improves things, rather than addressing issues specifically. The system runs us.

Joe said...

I can't tell if Matt is being sarcastic or not, I don't have a very good sarcasm detector.

"And how can people fix them when either their money goes to student loans, rentier costs and healthcare?"

I think that's a huge part of the problem, a distribution issue, the deficit we do have ends up in the hands of too few people. The average schmuck on the street is just barely treading water while the people at the top have rarely had it so good.

Matt Franko said...

Joe I'm saying they should be more pleased with the way it is going

How the hell do they think we can take the financial sector out back and shoot it with ZIRP without a short term hit to their illustrious GDP?

They have over 50% of their policies what the hell do they want?

Matt Franko said...

Joe to be clear I have lost a lot of respect for the MMT elites over time...

Random said...

"In fact, firms have to do this if other firms are jumping in, just to maintain market share, so there are knock-on effects."

Or to compete for labour with introduction of JG.