Guest Post: Why Growth Is Dead

Submitted by Chris Martenson

Why Growth Is Dead

The end of the second round of quantitative easing (QE II) is going to be a complete disaster for the paper markets -- specifically commodities, stocks, and then finally bonds, in that order, with losses of 20% to 50% by the end of October. The only thing that will arrest the plunge will be QE III, although we should remain alert to the likelihood that it will be named something else in an attempt to obscure what it really is. Perhaps it will be known as the "Muni Asset Trust Term Liquidity Facility" or the "American Prime Purchase Program," but whatever it is called, it will involve hundreds of billions of thin-air dollars being printed and dumped into the financial system.  

A Premature Victory Lap

Bernanke recently stood at a lectern and announced to the assembled audience that the Fed's recent policies could be credited with elevated stock prices and an improved employment statistic while somehow keeping inflation low. 

It was his own version of a 'mission accomplished' speech, just like the one GW Bush gave. And similarly, it does not mark the end of significant difficulties, but the probable beginning of a very long period of treacherous economic and financial disruption.

Here's one recent version of how the Fed's actions are being interpreted, courtesy of Bloomberg:

Bernanke’s QE2 Averts Deflation, Spurs Rally, Expands Credit

Ben S. Bernanke’s $600 billion strike against deflation is paying off, as stock and debt markets rise, bank lending grows and economists forecast faster growth.

The Standard & Poor’s 500 Index has gained 13.5 percent since the Federal Reserve chairman announced on Nov. 3 the plan to buy Treasuries through its so-called quantitative easing policy. Government bond yields show investors expect consumer prices to rise in line with historical averages. The riskiest companies are obtaining credit at the cheapest borrowing costs ever and Fed data show that commercial and industrial loans outstanding are rising for the first time since 2008.

“Looking at market indicators, you have to be convinced it’s been a success,” said Bradley Tank, chief investment officer for fixed-income in Chicago at Neuberger Berman Fixed Income LLC, which oversees about $83 billion. “When you get into periods of aggressive central bank easing, and we’re clearly in the most aggressive period of easing that we’ve ever seen, the markets tend to lead the real economy.”

A rising stock market, low inflation expectations, and lots and lots of cheap credit for even the riskiest companies. What's not to like?

The main problem is that this is all an illusion. If it were truly possible to print one's way to prosperity, history would have already proven that to be possible, yet such efforts have always failed. The reason is simple enough: Money is not wealth; it is a commodity that we use as a temporary store of wealth. Real wealth is the products and services that are made possible by an initial balance of high-quality resources that can be transformed by human effort and ingenuity.

For some reason, however, this basic concept has managed to elude the high priests and priestesses of the money temples throughout time. Somehow it always seems compelling to give money printing a try, maybe because this time seems different. But it never is. And it's not different this time, either.

Even as the markets are beginning to correct in anticipation of the end of QE II (which I predicted in my newsletters as early as March 8, 2011), we should note that the Fed is still pumping an average of $89 billion per month into the markets.

When we compare the $370 billion that the Fed has printed and placed into the financial system year-to-date against the levels of money flows going into and out of mutual funds, exchange-traded funds (ETFs), and money market funds, we observe that the Fed's actions swamp those flows by a factor of roughly 2:1. That is, the amount the Fed is putting in is quite significant, and its disappearance from the markets is something that needs to be carefully considered.

On the plus side, we can all be thankful for the one thing that money printing can do, and has done, which is buying a little more time for everyone. As I consistently advocate, such time should be used, at least in part, to ready oneself for a future of less and to become more resilient against whatever shocks are yet to come.

While money printing can so some wondrous things in the short term - (Hey, give me $2 trillion to spend and I'll throw a nice party, too!) - it cannot fix the predicament of fundamental insolvency. The United States has lived beyond its means for a couple of decades and promised itself a future that it forgot to adequately fund. The choice that remains is between accepting an unpleasant but relatively steady period of austerity leading to a new lower standard of living -- and a final catastrophe for the dollar. The former is akin to walking down around the side of a cliff, and the latter is jumping off.

Too Little Debt! (or, One Chart That Explains Everything)

If I were to be given just one chart, by which I had to explain everything about why Bernanke's printed efforts have so far failed to really cure anything and why I am pessimistic that further efforts will fall short, it is this one:

There's a lot going on in this deceptively simple chart so let's take it one step at a time. First, "Total Credit Market Debt" covers everything - financial sector debt, government debt (fed, state, local), household debt, and corporate debt - and is represented by the bold red line (data from the Federal Reserve). 

Next, if we start in January 1970 and ask the question, "How long before that debt doubled and then doubled again?" we find that debt has doubled five times in four decades (blue triangles).  

Then if we perform an exponential curve fit (blue line), we find a nearly perfect fit with an R² of 0.99 when we round up. That means that debt has been growing in a nearly perfect exponential fashion through the 1970's, the 1980's, the 1990's and the 2000's. In order for the 2010 decade to mirror, match, or in any way resemble the prior four decades, credit market debt will need to double again from $52 trillion to $104 trillion. 

Finally, note that the most serious departure between the idealized exponential curve fit and the data occurred beginning in 2008 -- and it has not yet even remotely begun to return to its former trajectory.

This explains everything.

It explains why Bernanke's $2 trillion has not created a spectacular party in anything other than a few select areas (banking, corporate profits) which were positioned to directly benefit from the money. It explains why things don't feel right, or the same, and why most people are still feeling quite queasy about the state of the economy. It explains why the massive disconnect between government pensions and promises, all developed and doled out during the prior four decades, cannot be met by current budget realities.

Our entire system of money, and by extension our sense of entitlement and expectations of future growth, were formed in response to and are utterly dependent on exponential credit growth.   Of course, as you know, money is loaned into existence and is therefore really just the other side of the credit coin. This is why Bernanke can print a few trillion and not really accomplish all that much. It's because the main engine of growth is expecting, requiring, and otherwise dependent on credit doubling over the next decade.

To put that into perspective, a doubling will take us from $52 to $104 trillion, requiring close to $5 trillion in new credit creation during each year of that decade. Nearly three years have passed without any appreciable increase in total credit market debt, which puts us roughly $15 trillion behind the curve.

What will happen when credit cannot grow exponentially? We already have our answer, because that's been the reality for the past three years. Debts cannot be serviced, the weaker and more highly leveraged participants get clobbered first (Lehman, Greece, Las Vegas housing, etc.) and the dominoes topple from the outside in towards the center. Money is piled on, but traction is weak. What begins as a temporary program of providing liquidity becomes a permanent program of printing money, which the system becomes dependent on in order to even function.

In addressing these questions in Part II of this report: Positioning for the Coming Rout, I have become increasingly confident that the Fed's efforts to exit quantitative easing will lead to a substantial market rout that will roil all asset classes this year. That's just the short-term outlook. Continued and eventually greater turbulence will result from the government's subsequent response.

Click here to access Part II (free executive summary; paid enrollment required to access) for specific predictions on what to expect in the months ahead as well as recommendations for protecting your wealth.

Comments

[JR]

On the plus side, we can all be thankful for the one thing that money printing can do, and has done, which is buying a little more time for everyone.

“Buying a little more time for everyone,” is what a little more printing will do? “Just one more little drink before I head for home,” Father told Little Mary, standing at the bar-room door, / While the shameful midnight revel / Rages wildly as before.

Father, dear father, come home with me now,
The clock in the steeple strikes one;
You said you were coming right home from the shop
As soon as your day's work was done;
Our fire has gone out, our house is all dark,
And mother's been watching since tea,
With poor brother Benny so sick in her arms
And no one to help her but me,
Come home! come home! come home!
Please father, dear father, come home.

‘tis the Song of Little Mary to the banker’s plea…set em’ up for Joe, just one more…to fix our ravage economy, Joe... And Father won’t be coming home anymore.

While money printing can so some wondrous things in the short term - (Hey, give me $2 trillion to spend and I'll throw a nice party, too!)...

Unfortunately, Ben did not throw any money to me: I’m in cash and real estate.  Ben stole money from me to give to Goldman, JPMorgan, Morgan Stanley, AIG...and, I guess, to Chris Martensen.

The United States has lived beyond its means for a couple of decades and promised itself a future that it forgot to adequately fund.

What’s with this “us” collectivism?  I’ve in no way lived beyond my means. Speak for yourself, Chris. I’ve lived diligently within my means. And “forgot to fund” has a welfare state ring to it.

The choice that remains is between accepting an unpleasant but relatively steady period of austerity leading to a new lower standard of living -- and a final catastrophe for the dollar. 

Give me a break. No, the final choice is putting Goldman et al. on trial; forcing Ben to reveal  in just whose pockets he stuffed those trillions and making Ben and the boys accountable;  closing down the Fed and sending its cabal of the richest international bankers in the world packing. And getting the IMF’s fingers out of the U.S. taxpayer till. Otherwise, we WILL wake up homeless.

In order for the 2010 decade to mirror, match, or in any way resemble the prior four decades, credit market debt will need to double again from $52 trillion to $104 trillion. 

We already have reached “the Keynesian End Point” for crying out loud. Nathan Martin’s Diminishing Marginal Productivity of Debt in the US Economy chart is a very simple chart. Here’s how Nate explains it: “It takes the change in GDP and divides it by the change in Debt. What it shows is how much productivity is gained by infusing $1 of debt into our debt backed money system. Back in the early 1960s a dollar of new debt added almost a dollar to the nation’s output of goods and services. As more debt enters the system the productivity gained by new debt diminishes...”

With Benny’s continued printing, “a funny thing happened along the way. Macroeconomic DEBT SATURATION occurred causing a phase transition with our debt relationship. This is because total income can no longer support total debt. In the third quarter of 2009 each dollar of debt added produced NEGATIVE 15 cents of productivity, and at the end of 2009, each dollar of new debt now SUBTRACTS 45 cents from GDP!”

Sorry Chris. No more for the road. It’s closing time.

[bid the soldier...]

“Buying a little more time for everyone,” is what a little more printing will do? “Just one more little drink before I head for home,” Father told Little Mary, standing at the bar-room door, / While the shameful midnight revel / Rages wildly as before."

If you want to conflate buying more time with buying more beer, it's a free country. I think of Mary as just turning 9 and loving the 2nd grade. She reads very well now and has been Student of the Month twice. Dad got her skates for her birthday, but she still has to tie a pillow around her butt. She doesn't know who Ben Bernanke is but if she did, I'm sure she'd say "Thank you Mr. Bernke."

"Unfortunately, Ben did not throw any money to me: I’m in cash and real estate.  Ben stole money from me to give to Goldman, JPMorgan, Morgan Stanley, AIG...and, I guess, to Chris Martensen."

You could have left this restaurant hundreds of times if you didn't want to get stuck with the check. Unless you didn't know what was going on on Wall Street till now. But that's hard to believe.

"What’s with this “us” collectivism?  I’ve in no way lived beyond my means. Speak for yourself, Chris. I’ve lived diligently within my means. And “forgot to fund” has a welfare state ring to it."

A lot of Germans who had nothing against the Jews were in Dresden on that fateful night.

"Give me a break. No, the final choice is putting Goldman et al. on trial; forcing Ben to reveal  in just whose pockets he stuffed those trillions and making Ben and the boys accountable;  closing down the Fed and sending its cabal of the richest international bankers in the world packing. And getting the IMF’s fingers out of the U.S. taxpayer till. Otherwise, we WILL wake up homeless."

Where shall we hold this trial? Nurenburg? The Revolutionary Tribunal of the Comite du Salut Public? Or mabay Judge Lynch will hear your complaint?

[JR]

Thanks. I think your approach needs work.

[bid the soldier...]

"I think your approach needs work."

You're not going to get an argument about that from me. (Muffled demonic laughter.)

I've been in trading since the mid-60s after graduating from Penn (a year in Wharton), with a degree in history. Profitable trades were few and far between.

But I watched how corrupt the markets and the brokers were and learned a few of the tricks of the trade (pardon the pun.)

Your complaint isn't the corruption; it's the size of the corruption. And maybe being on the wrong side of it. No one complains when the markets are fixed and they're riding the fix.

And your complaint is that the government is funding the financial firms with make-believe money. What's the difference between doing that and the decades of funding them with the 60 to 100 trillion dollars that went to 'money heaven' and would have been used to buy U.S. Treasury bonds if the bubble hadn't burst?

Finally, don't pretend that you don't know why growth is dead. You know why as well as I. But that's a topic not for the Silver Surfers who hang ten here.

[JR]

It’s not a matter of picking the winning or losing side in this crisis, on that I’m sure we can all come to agreement: rather it’s what is the best avenue to proceed in saving our country from its spiral of decline.

And, yes, I do know why “growth is dead.”  And thanks for the sincere reply: you “watched how corrupt the markets and the brokers were and learned a few of the tricks of the trade,” and I commend you for that and wish you well in breaking their bank; I watched the corruption, and decided to fight it. IMHO, we’re both needed.

[bid the soldier...]

"It’s not a matter of picking the winning or losing side in this crisis, on that I’m sure we can all come to agreement: rather it’s what is the best avenue to proceed in saving our country from its spiral of decline."

With respect, JR, is this the time for idealism or is this the time for 'any port in the storm?'

I am not as worried about the digital money printed by the Fed as I am about the obvious (to me) reason we came to this pass in the first place. I'm referring to 'peak oil. I don't know any more about the topic than you do. And vice versa. Both of us are completely reliant on unverifiable data released by interests with an agenda to promote.

The effects of Hubbert's predictions on the growth, not only of our
country, but of the world itself, if made known could cause perturbations
off the Richter scale/p><

Peak oil hit in 2005. In the last 4 years we've seen the greatest transfer
and/or loss of wealth in history. The beneficiaries of that transfer are just
as disinclined as you to watch the downward spiral. Their support and
their assets are essential to the outcome of the cause.

Right now Bernanke seems to be the only one with a plan. Let me know
yours and I'll be happy to help.

[Lady Heather...UNCLE]

...is TARP related to HAARP?