Albert Edwards On The Upcoming Economic "Abyss"

Tyler Durden's picture

As always, Albert Edwards provides a solid dose of economic observations based on facts, not hope. And, as always, he is one of the few in his attempts at deductive logic: why bother with causal relationships when there is a scent of "change you can (almost) believe in" permeating the airwaves. Never mind that the next administration will have to deal with the massive fallout of this "change" once it realizes America is bankrupt: we hope they have their catchy slogan writers already on damage control. After all "debt repudiation you can really believe in" just lacks that certain pizzazz that may prevent the next president from being on TV 24/7.

Back to Albert, who shares his thoughts on the liquidity driven asset bubble:

Many clients believe it is inevitable that "excess" liquidity will continue to drive risk assets higher. The broken nature of the banking intermediation means that surplus reserves are not being funnelled into the real economy and therefore must, it is believed, inevitably cascade foaming and invigorating over risk assets. And all the while interest rates remain close to zero this process is expected by many to continue apace, driving risk assets higher.

This is wrong. It is the cyclical upturn that is sucking money into risk assets. This is exactly what happened in Japan in the 1990's. Japan enjoyed many decent economic and profit recoveries which regularly pushed equities and other risk assets substantially higher. But the underlying fragility of any cyclical recovery amid a secular balance sheet recession meant there were frequent lapses back into recession. This eventually drained hope away from zombie investors who then became sellers-on-rallies, rather than buyers-on-dips.

Additionally, Edwards presents the case for balance sheet-based deflation. In essence, even as the government tries to inflate its way out of all its problems, it is, even by printing trillion in new treasuries, unable to catch up with the non-governmental balance sheet collapse.

The US Federal Reserve recently published their comprehensive flow of funds data for the US. This showed that the household sector continued to pay down debt for the fourth consecutive quarter. Corporates also started to pay down debt sharply in Q2 at a similar $200bn pace. The non-financial private sector paid down debt at a $435bn pace in Q2. This compares to a $2,116bn pace of expansion in 2007 (see chart below). Add to that the financial sector unwind and the total private sector is unwinding debt faster than the government is able to pile it up (hence the red line is still negative)! The lesson from the balance sheet recession in Japan is that the massive private sector headwind to growth has a long, long way to run.

If that is the case, we can expect, just like Japan, frequent relapses back into recession. The market now understands how an end of inventory de-stocking can boost GDP, i.e. it is the change in the change that matters. Similarly as Dylan Grice points out - link, it is the change in the fiscal deficit that is a net stimulus or drag to GDP. A massive 6pp stimulus last year is likely to turn into a 2pp drag on growth next year (see chart below). With continued private sector de-leveraging likely next year and beyond, how can one seriously not expect the global economy to relapse back into recession next year taking nominal GDP deep into an abyss?

Most notably, Edwards discusses the red herrings of systematically focusing on the wrong economic indicators, whose recurring spin by the media exaggerates the scope of any nascent recovery:

Amid the excitement of this cyclical recovery, equity investors continue to focus on entirely the wrong thing. It is cash revenue growth that is relevant for profits, not volumes. Hence when we see that Japanese core CPI inflation suffered a record 2.4% decline in August, it emphasizes that we should forget volumes and look at values. Volumes are a red herring that are misleading investors into a frenzy of excess optimism. One of the reddest of red herrings was the recent Australian GDP data. Real GDP rose a surprisingly robust 0.6% QoQ in Q2 after a rise of 0.4% in Q1 and a single quarter decline of 0.7% in Q4 2008. Unsurprisingly equity investors liked this data. Yet less attention was paid to the fact that nominal GDP declined 1.5% in Q2 after a decline of 0.6% in Q1 and a decline of 0.1% in Q4 2008 (see chart below)!



In cash terms, Australian GDP is getting worse sequentially, not getting better. One last comparison worth considering: in Q3 2008 Australian nominal GDP peaked out at a 11% yoy rate and on the most recent data that had slowed to 0.9% yoy - a heady slide indeed (by way of comparison real GDP slowed from 2.4% yoy in Q3 2008 to 0.6% in Q2 this year). Investors should not be reassured by the minor 1.8 percentage point (pp) slowdown in yoy volume growth over this period. Instead, they should panic at the 10pp loss in cash GDP growth.

At this point it is passe to discuss green shoots. An early term coined to fantasize about a quick V-shaped recovery, has since been eradicated due to the ongoing concurrent data presentations that highlight on one hand an employment picture that keeps getting worse (over and above expectations, see today's number) and on the other hand stimulus funding trickling down into the economy. In a sense, Obama has bet the house, farm, and generations of unmanageable interest payments, that the second will overtake the first eventually, and that consumers will look beyond the fact that tomorrow they may be out of a job and get back to using their credit cards as the only real driver of the U.S. economy.

Yet all factual signs point to a continued divergence between cash in (government) and cash out (everyone else) in the US, and by implication, global economy. Layer on top the fact that global trade has been decimated and that currency imbalances will make it prohibitive for natural flows to resume (US core importer, everyone else exporters), courtesy of a worthless dollar, and if you were to remove your rose-colored glasses for a second, you will see why even in the face of a 55% rally in the stock market, strategists and economists (not David Bianco mind you, we mean objective, unconflicted ones) continue their bearish stance on the economy. Because unless you truly believe that the stock market is its own isolated bubble, which many do, at some point cash from assets will have to support equity and debt valuations. And once the government cash funding vacuum pops, the market-economy divergence will also collapse. At that point, every dollar used by the government via stimulus and Federal Reserve pumps will have an equal and opposite effect on stocks, thereby throwing America not just into a debt funding crisis, but a complete economic and capital market tailspin. Alas, it appears impossible to prevent this, as the administration and the Federal Reserve Chairman are dead set on executing their inherently flawed experiment...and the American middle class.

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Anonymous's picture

Yet another new high in total continuing claims (adding State and Federal numbers). The irony of this new high is that it was achieved by adjusting downward last week's Federal EUC number. That lowered last week's new high, allowing this week to touch a new high.

Here's the total claims numbers through Sept. 12 (Federal numbers lag State continuing claims by one week), adding State, EUC, and Extended Benefits:

12-Sep 9,878,254
5-Sep 9,874,772
29-Aug 9,677,514
22-Aug 9,791,551
15-Aug 9,629,696
8-Aug 9,660,992
1-Aug 9,557,535
25-Jul 9,577,202
18-Jul 9,487,075
11-Jul 9,260,272
4-Jul 9,305,347
27-Jun 9,726,080
20-Jun 9,589,660
13-Jun 9,474,884
6-Jun 9,431,551
30-May 9,453,166
23-May 9,159,030
16-May 9,244,953
9-May 9,021,607
2-May 8,944,249
25-Apr 8,621,170
18-Apr 8,612,554
11-Apr 8,525,310
4-Apr 8,212,325
28-Mar 8,012,824
21-Mar 8,006,800

monkeyshine's picture

Don't worry. Unemployment is a lagging indicator, doncha know?

Anonymous's picture

The ultimate neoKeynesian moral bankruptcy in the name of Cambridge Mathematics Don Fabian Socialist Pederast
turned political economist is on display for all to see. (Even the Baron, who ably managed university endowment money, balancing his own budgets.)
R&R Animal Farm Chupacabra Cosa Nostra Totalitarian Zombie banksters cannot ride productive Boxers to the glue
factory in the sky forever.
We cannot indefinitely get something for nothing
with free lunch debt and money-sucking inflation taxes
for all time.
We cannot forever claim to tax the rich while
indefinitely stealing working middle class jobs and
We cannot long continue to replenish vampire masters
of the universe losing food, healthcare, mortgage,
pension money gambling with derivatives.
We cannot continue to invent military pandemic
terrorist PsyOp schemes to maintain evil highway
robbery ascendancy to fool all the people all the time.
In fact R&R agents may be getting to the end of their
rope, where they cannot even fool some of the
people some of the time.
Review Barbara Stanwyck, Frank Capra, Gary Cooper, Edward Arnold, Walter Brennan, and Warner Brother's Fascist
New World Order, 'Meet John Doe' movie on Wrigley Field.
R&R agents may pull the ATM internet bank on-line
broker plug. They may kill all the telephones as they
monoplized the media. Or we may soon see the revolt of the
masses, holding on to precious ammo cash for black barter
farmer and flea markets. Or the remnant may move out of
crowded rioting mob cities to exurbs to pick and raise their own. Much better than throwing scarce dollars
away in rigged collapsing markets including T debt, T bills, gold and silver.
These may be heading for 1% and -10% yields, $600 and
$6 or prices of the Thirties before this mother of all bubbles pops, clears and corrects the markets for all to see.
It may not so much be cash accounting versus volume accrual, as cash or coins in hand, pocketbook or safe.
It may not so much be Japan as the credit collapse
currency defaults of Argentina and the USSR.
All that's left to prevent the latter are a few brave
people in the Corps, Courts, and Congress to say the Emperor and his Collaborators running this government monopoly media enabled Ponzi scheme are nakedly
Long shot: we could see deus ex machina, with the 0 Anti-Christs turning out to be the spirit Constitutional Liberties after all. Let's hope it's not the ghosts of
King George, Alexander Hamilton, George Washington, Honest Abe, or Hoover MacArthur Patton who put down the Tea
Party, Whiskey Tax Rebellion, violated Habeas corpus, Posse comitatus and brutally bulldozed the Bonus Army Camps...

Anonymous's picture

bravo bravo!

Jim in MN's picture

You see, this is the thing.  In discussions over at Naked Capitalism it gradually became clear that the bond market would be preserved at all costs, to protect the insurance companies and pension funds as well as (by total happenstance) the uberrich and furriners.  So no bankruptcy (private failure) or true takeover (public failure) strategy would be forthcoming, other than occassional accidents and other exceptions.  Nothing....systemic would be done.

Ergo, we are doing a Japanese zombie dance, most likely a Lost Generation rather than a Lost Decade.  The investor psychology and sectoral returns in Japan, then, aren't a perfect guide but a critical datapoint (see also Cassandra Does Tokyo for sporadic but profound glimpses under the kimono).

The main points are, expect no real return across all traditional asset classes.  What you save is what you get to keep--if you can keep it.  Bond funds are as dangerous as equity funds.  401(k)s are killing fields.  We will mostly still participate in 401(k)s because of the honey trap of the corporate match.  But the money market funds are the only safe place there relatively speaking.

Savings will increase to make up for the carnage and the slow drip of bailouts and taxation.  Combined, increased savings and taxes will strip double digit percentages off of consumer spending.  For ever. 

Naturally, we are far worse off than Japan ever was, but that's a start.

Mos's picture

Deflation is not such a bad thing for an economy with ample private savings, see .  Unfortunately, the US is driven by credit expansion and thus deflation is roadrunner to our Wiley E Coyote economy.

Cognitive Dissonance's picture

Sorry, can't resist.

CNBC - Breaking news from Bernanke. There's no such things as a bad economy, it's just (severely) misunderstood.

Ben Graham Redux's picture

Jesse's piece was good but people will draw the wrong conclusions by focusing on Japan for two reasons:

1.  Japan experienced its "lost years" during a magnificent global economic expansion that lifted all boats - even the ones with holes in them.

2.  Japan has domestic savings.  The US is reliant on outside savings which can be both a blessing and a curse, depending on how our Economic Masters play it.


If we go into a deflationary fall, the world is going back to the dark ages.  Too bad Yankee Candle is private!

Anonymous's picture

and just who financed that global economic expansion that lifted all boats?

it was the japanese and their yen carry trade....

insolvent banking system plus 0% interest
and it becomes child's play to buy us or australian
assets and bloat those market values....

Ben Graham Redux's picture

Good point - but the Japanese were able to devalue their own savings - all we can do is devalue someone elses.  The more the world uses the buck to pay for the carry trade, the more the world sees the value of its collective savings go down the drain.  The Japanese have savers, we have borrowers.  This difference is critical.

Anonymous's picture

no real argument....any way you look at it
we can say that we have serious challenges
or that we are fucked - depends on how much
tequilla you have had at the time of contemplation

TeresaE's picture

"Deflation is not such a bad thing ... with ample savings..."

Only if daddy gubmint doesn't confiscate it because they have to.

They have done it before and look to be planning to do it again.

Savers and people with paid for assets will be the next to be slaughtered.  They are the only people with anything left of value for the gubmint to sell to China.

Anonymous's picture

Will Big G go the route of Argentina, Mexico and Russia
confiscating larger middle class savings and
pensions than gold, platinum and silver?

Doubtful, unless they are willing to give up
their lives for the mark of the beast.

That might create an implosive liquidity crash run on
banks and brokers, bases, caves and underground storage not
yet seen in the history of the world.

Doubtful Big Corp Guv wants to precipitate armed
insider militias breaking in to Armories, Fed NYC Deep Vaults, Grain Elevators, Grocers, Refinery Tanks, West Point Mint, Fort Knox, Strategic Petroleum Reserve and Warehouses across America to find they are empty.

All the FEMA Foreign Mercenary Homeland Security Zombie PsyOp contingency drill plans go up in smoke as
Big CG finds hell hath no fury like armed citizens defrauded.

Imagine National Guards called up, EMP Pulse Predator drones and Soldiers recalled from Afghanistan, Iraq and 1000 military installations around the world to fire on their own.

The ultimate Tiananmen Square Titanic sucking sound...?

contrabandista13's picture

Being slightly less insolvent does not make you a saver.

Anonymous's picture

sorry but deflation is a bad thing for the very same reasons that inflation is - it is an arbitrary
revaluation of the currency which benefits some
and hurts is a total monstrosity
without any merit except to those who like to
fuck with people's money....

Anonymous's picture

Pick yer poison.
Mr Market seems to have decided,
and it may not be inflation...

Anonymous's picture

no need to pick when you can do it right.

Anonymous's picture

Too bad Mr and Mrs Market do not honour discussions at
Naked Capitalism, or around the CNBS Latte machine for that matter.

The amount of derivative debts outstanding so dwarfs
the real economy it cannot be repaid.

Default, slow or fast, may be the only consequence.

Whether that defualt is by inflationary fire or
deflationary ice depends on the Fed in the short-run
and the citizens in the long-term.

To think money markets are safe is to forget what
happened last Fall when the largest money market funds
were closed because of a run. It is to ignore the
FDIC tapped-out credit line.

To think bonds, notes or bills are safe even in the
short run is to miss the facts stated here on ZH better
than most places:

At least half the T Bonds, Notes, Bills and Agencies
held by Fed Banks are unfunded worthless
intergovernmental IOUs.

At least Half the Treasury offerings were monetized by the Fed, with the other half sucked out of the world

The voracious government Treasury beast immunized (immobilized) money going anywhere else but to Big CG.
People are learning to barter, save and scrimp.

Only Benedict Arnold Congressionals willing to fall on their swords in 2010 and beyond may raise the debt
ceiling again.

Big CG know calls against agency, bank and corp bailouts went 300:1 against, despite government monopoly media full press with BB, LS and TG saying "Doing nothing was not a choice."

Doing nothing and trusting free markets is always the
best choice. Only those who worship the Beast think

We've seen many mentions on ZH in recent days re withdrawing cash from Big Banks to safety. In fact, the
Fed asked for it in their regrettable judicial appeal attempt to hide behind the Wizard of OZ curtain once

If there is a Constitutional Supreme Court left
worth respecting, they will deny the Corporate Fiction
Fed and protect sovereign citizens and their Creator.

Dollars of course dwarf gold, platinum, silver and even corporations, real estate, SDRs, stocks, and Treasuries, as bagholders may find out.

100% premiums on American Eagles bullion coins and unavailability last year were a good clue bars and
coins are not the practical safe solution.

The IOU financial alchemy of ETFs, Futures
Exchanges and off-balance-sheet over-the-counter
derivative bank swaps may not be trusted either if
they go humpty dumpty belly-up, bankrupt, insolvent,
out of business.

We think the Fed's short-term answer is already clear
if we study

Helicopter Ben, Hedge fund Larry and TurboTax Timmay
were powerless to stop the markets collapsing Fed M-3
Shadowbank funds since 2008.

Their year ago Panic Bailout injections and swaps are
now expiring while they try to keep the house of cards going until they can resign for personal reasons to
avoid political defenestration.

Like Mary Jo Kopechne, having embraced the devil,
they may be drowning between a rock and a hard place.

Energizer Bunny Wiley Coyote Markets may be just now
realizing there is not enough liquidity left to keep
the game going, going, gone.

Woe to trillionaires who play the game too long. When
the music stops, they take all the girls. On a long enough timeline, the survival rate for everyone drops to zero.

Meanwhile, we will count our cash, happy we do not have so much that we don't know where to keep it.

Anonymous's picture

French banks =/= American patriotism.

True Constant's picture

Excellent points in this piece.

Is there a link to the full doc?

rhinotrader's picture

Watch what happens when China wants there money back. I am sure most people know who made this absolutely correct statement.




Naturally, the common people don't want war; neither in Russia nor in England nor in America, nor for that matter in Germany. That is understood. But, after all, it is the leaders of the country who determine the policy and it is always a simple matter to drag the people along, whether it is a democracy or a fascist dictatorship or a Parliament or a Communist dictatorship. ...voice or no voice, the people can always be brought to the bidding of the leaders. That is easy. All you have to do is to tell them they are being attacked, and denounce the pacifists for lack of patriotism and exposing the country to danger. It works the same way in any country.[40]

Cognitive Dissonance's picture

Sounds like your friendly neighborhood (US Government) Nazi to me.

Anonymous's picture

"But, after all, it is the leaders of the country who determine the policy and it is always a simple matter to drag the people along"

That may be. But when it comes to going to war, no western country's population falls in line with the government faster the US' - despite the oft-repeated supposed revolutionary "roots".

Nobody wants to be accused of being an unpatriotic "liberal" after all.

Anonymous's picture

which makes the technique quite effective against
the low rent mind occupying space in this country...

that's why the plutocrats are in charge and the
sheeple canon fodder for wars of imperial
aggression and for reducing undesirable populations....

Jim B's picture

Unfortunately, I must agree completely.  The rampant goverment spending will end eventually and it will be ugly.  

monkeyshine's picture

Unless, and I'm just thinking aloud here, government spending replaces the entire tax code.  That will drive up savings in the short term (but unlikely in the long term) and create inflation simultaneously. In essence government spending and the concurrent inflation replace taxation.  We pay tax in the form of inflation.  That forces us to spend our dollars faster (to avoid them losing value) and gets us out of this liquidity trap.

A side benefit for the people is, it gets the government out of our hair. But government won't like it since it eliminates the best lever of control over our lives.  In fact it turns the tables, since all government spending has a direct effect on all people (by devaluing their currency in the form of inflation) the government will be much more sensitive to debt and spending and the people (both foreign and domestic) would be much more vocal about government largess. 

economicmorphine's picture

I like the comment about executing the American middle class, although I imagine it feels more like rape than execution at this point.

TeresaE's picture

Ask a few former small business owners if they feel the same.

It changed from just a friendly brutal rape to outright execution sniper in the past year or so.

Blackened buildings everywhere prove this point.


Anonymous's picture

Classic argument from the arrogant elite.... "You don't understand" Thanks Ben but we are on to you.

Anonymous's picture

Where is it written in stone that government spending posilutely, absotively must end?

Why can't governmnet spending go on fuhevauh?

Anonymous's picture

Gresham's Law

Anonymous's picture

Why not do a poll on tax rate expectations in 2011?

Anonymous's picture

Oscar Carboni = SCAM ARTIST

Anonymous's picture

We're so sorry, uncle albert,
We're so sorry if we caused you any pain.
We're so sorry, uncle albert,
But there's no one left at home
And i believe i'm gonna rain.

We're so sorry but we haven't told the truth all day,
We're so sorry, uncle albert,
But if anything should happen
We'll be sure to give a flip.

Anonymous's picture

Umm, I've just got to say that Ron Paul has been predicting this kind of thing for over 20 years now and he's still waiting for that bill to come due that will finally teach people a lesson. It never has - I predict it never will.

A word to the wise - you are not going to look very smart in a few months when armageddon doesn't actually come.

You are destroying the brand you have created: a brand about challenging the conflicted financial media. You have just become a guy with a billboard that says "the end is near."

Anonymous's picture

the reason for the protraction of the day of
reckoning is that the usa started its game
with a huge capital base which requires
decades to destroy....

we are in the midst of the final destruction....

it will are free to bloviate as much
as you want but the wise will take heed and
plan accordingly....


Anonymous's picture

Can somebody explain the Argentinia 2001 collapse where there was a deflationary headfake quickly followed by knockout inflation ?

Do we face the same circumstances here or does the dollar's reserve status act as a giant buffer (or accelerant?)