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Guest Post: The Fleeting Beauty Of Bubbles And Bonds
Submitted by Charles Hugh-Smith of OfTwoMinds blog,
Whatever painlessly masks the dysfunction and corruption of the Status Quo will be the policy of choice.
Here's the challenge the Status Quo monetary and fiscal authorities faced in the 2008 global financial meltdown: how do we maintain the power structure and keep the masses passive while masking the fact that the Status Quo is broken?
The solution: sell bonds to fund benefits to the masses, lower interest rates to zero to keep the explosive rise in fiscal deficits affordable, and rapidly inflate new bubbles in assets that painlessly enrich the top 25% of households who then increase their borrowing and spending, i.e. the "wealth effect."
Lowering interest rates to zero is a two-fer, as it not only enables the central state to borrow vast sums by selling low-yield bonds, it also drives everyone with financial assets into a desperate search for higher yields in risk assets such as stocks and housing. This herding of capital into risk assets helps inflate the bubbles needed to generate "growth."
Here's the beauty of asset bubbles. How do you get trillions of dollars into households without having to borrow the money? You inflate the assets owned by the households: stocks and houses. This magically creates money out of nothing, money that the households can borrow against or sell for cash.
Why not create and distribute cash directly? Two reasons: 1) spreading around trillions of dollars in cash could eventually spark inflation, which would kill the entire project by pushing bond yields higher, and 2) politically, the only cohort the authorities care about are the wealthy who fund the political Elite and the half of the adult populace who votes.
The political calculus is simple: the bottom half of households don't vote, don't contribute to political campaigns and don't have enough income to borrow huge sums of money to enrich the banks. They are thus non-entities in the fiscal-monetary project of maintaining the power structure of the Status Quo.
All the Status Quo needs to do is borrow enough money to fund social programs that keep the masses passive and silent: food stamps, Section 8 housing vouchers, Medicaid, Medicare, Social Security, SSI permanent disability, unemployment, etc.
Unfortunately for the Powers That Be, the cost of placating the rapidly increasing marginalized populace is rising much faster than tax revenues. Here are two charts of interest (source: Kleiner Perkins Caufield Byers 2013 Internet Trends)
The happy story of 2013 is that tax revenues are rising fast while government spending has stopped rising. This is risible, as the same agencies drawing these projections have never forecast a recession or downturn. Taxes rise in bubbles, so no wonder tax revenues are up--and of course, tax rates increased on the margins.
Longer term, Federal expenditures will inexorably rise as the social programs for the elderly absorb 10,000 retiring Baby Boomers a day.
Here's the problem with bubbles: they pop, despite the best efforts of the fiscal and monetary authorities to keep them inflating forever. And when bubbles pop, assets decline in value. Borrowing, spending and tax revenues all decline.
Near-zero interest rates have problems, too: One, they stripmine pension funds and savers seeking save yields on cash, forcing everyone into risk asset bubbles, where those seeking higher yields are crushed when the bubbles pop, and two, nothing stays low or high forever. Piling up debt at near-zero rates is affordable fun, but when rates rise, the costs of servicing the debt pile skyrocket.
At that point, a feedback loop is set in motion that will bring down the entire system: investors will see fiscal authorities struggling to fund their social programs and pay rapidly rising interest on the vast mountain of government debt, and start wondering if the government will be able to meet its rapidly rising commitments with stagnant tax revenues.
The prudent investor, money manager and pension fund manager will demand a higher risk premium to reflect the possibility that the bond will be repaid with depreciated currency.
That will drive up the interest rate on all future borrowing, which will further stress government obligations which will increase the risk of default or depreciation of the currency, and so on.
The only way to stop this feedback from starting is for the central bank to buy essentially all the bonds sold by the government. This is the path that Japan and the U.S. have taken; both the Bank of Japan and the Federal Reserve are buying government bonds, essentially removing them from the tidal forces of the market with instantly created money.
Are there any limits on the balance sheets of the central banks? Why not transfer $100 trillion to the balance sheet of the Fed? Indeed, this path appears absolutely painless to all involved, and that's why Japan and the U.S. have pursued this strategy with such gusto.
Whatever painlessly masks the dysfunction and corruption of the Status Quo will be the policy of choice. And right now, that policy is transferring government bonds to the central banks so the fiscal authorities can continue to borrow and blow trillions of dollars rather than restructure their broken financial systems and economies.
The problem with neutering the market to mask systemic dysfunction is that the return on the policy diminishes at the same time that risk is transferred to the entire system. Risk cannot be disappeared, it can only be transferred or hedged. Burying immense debts in the balance sheets of central banks doesn't make risks disappear, it simply transfers the risk to the entire system.
And when you do that, you get a chart like this:
Anyone who is paying attention to the peculiar gyrations and dislocations in the Japanese bond and currency markets has to wonder if Japan has finally succeeded in entering Phase III, when official credibility and the illusion of central control both crumble.
The beauty of bonds and bubbles is fleeting. The fiscal and monetary authorities are claiming the beauty of bonds and bubbles is ageless, thanks to their magic; but no amount of false data and trickery can possibly eliminate the systemic risk piling up behind the rickety facade of illusory control.
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I'll take some free money instead. How about a check for 10 million?
Imagine whaT would happen if all inhabitants of the usa received a 10 million check... would we all be rich? yes but only for a few seconds until we all tried to start spending it, then we would quickly discover that the amount of goods and services hasnt changed. Would we be reacher than people in all other countries? yes again for a few seconds as soon as we try to use that money to try to import staff we will quickly discover that they wont accept our dollars any more... that is why the fed fake money can only go into inflating the value of assets and never into the real economy. Bernanke him self said that QE would not work without an associated fiscal plan that increased government spending in the short term and reduced it in a credible manner in the long term. He was adamant on these points in every congressional hearing. So no surprise that it didnt work. He should have stopped the drugs and force congress to deal with the political fallout as he was asked by many in Congress, but he didnt, this makes him responsible for what is coming, as responsible as a father that pays the drugs of his children is...
With all the evil manipulators out there, there must be a balance right, so who is our Hero?
Edit: Or do we only have "Please do not worry" to make us feel better?
Ron Paul. Pretty much everyone else took the blue pill.
Well he seems rather defeated as of late, not that he is not willing to give his word but he has given up on the majority in my opinion.
His son however, if he has taken the red pill or will one day may give some hope to me and my Y Gen peers but I'm so tired and beat already, I'm starting to think it would be better to join the military and die in some foresaken desert where we should never have been rather then suffer through our dismal financial future.
The boomers are cashing in and the X gen is twisting the truth so much I hardly believe myself, never mind those people changing my furture on a daily basis...
Do join the military indeed, it will be good for you and you wont die in any desert, those times are long gone. Just swear to never ever shoot at the us population no matter what the legal orders say. We need youngsters like you joining!
Don't worry. There is at least one more generation to go before it all blows up - GenZ. Nothing comes after Z. Z is the end.
Just think, you will get to see the end of the world as we know it. That's pretty exciting when you think about it.
Janet Reno....now THAT was fleeting beauty.
ZIRP and QE currently benefit both banks and government. That's why it keeps right on going. Nothing changes until it stops being of mutual benefit to both those parties.
(At which point, probably all hell has probably broken loose, but there's your stake in the ground)
Need a "You are here" red X on the last chart.
We know the system is unstable, but unstability can persist longer than anyone believes possible. Failure is not imminent, though the endgame has begun.
http://dareconomics.wordpress.com/2013/06/03/around-the-globe-06-03-2013/
"Second, the Spanish budget deficit did not drop from 11.2% to 6.98% of GDP. The cost of the bank bailout raises the deficit to over 10% for 2012, and Spain is on track to have another 10% deficit for 2013."
I can see debt masters making a fortune here! 10% YoY not bad!
Meanwhile, the music keeps playing on and on.
Everybody is dancing.
Only, there are no chairs left, in this musical game of chairs!
The gold & silver physical chairs have been occupied for some time now, by occupants who are interested observers of this, most tragically comic of all dances!
"Exponential path of crisis"
That about illustrates the Ponzi and the reason things seem "contained" now.
look at this ten year bond keep coming back and kicking everyone in the nuts. somethings up.
fonz you are overthinking this.............really..................
I'm sure I am. I see the S&P barely up after a whoopin and knowing Tuesday is coming. That looks weak.
Don't worry! Revenue as % of GDP is expected to bounce anytime soon - NOW!
(ask the greeks what they think of this pornjection)
Great time for irrational exhuberance... AGAIN.
You forgot the rising graph of young Socialist immigrant voters willing to cut off the geezers, the elderly will slit their own economic throats with this amnesty, they'll give up our "nukes for food and drugs", then whatever's left of our freedom will be auctioned off to the Taliban
Short the IRS bubble popped............
Or
Krugman is right.
He left out the reserve currency game...i think that is what will make this party end...when no one wants what we are printing...theyn we can only play in our own sandbox...and there are not to many toys in that box....and it will get expensive....we will soon hear how much someones house has increased in value..and how much the stock market has gone up....all daily feeds to help the inflation game get going....no one will report on what hamburger is doing or hotdogs....they will be going up too...faster i think...
The real fun is yet to come when Benny starts buying Japan bonds too. We just can't be having any bonds (to support corrupted debts) going through the system without buyers. That'd be a heck of a thing to have happen, wouldn't it Benny? As long as interest rates remain calm and marginalized, the whole scheme will keep floating along like so much pond scum. Hail the CB'ers (no, not the truckers) who in their complete and honest wisdom have brought wealth to the wealthy and nickles and dimes to the welfare crowd.
All is depending of faith without confidence fiat is shat The world at large is getting a raw deal an when they figure out USD is screwing them Brazil South Afrika an the rest will demand more bernanke bucks to do business
The solution: sell bonds to fund benefits to the masses, lower interest rates to zero to keep the explosive rise in fiscal deficits affordable, and rapidly inflate new bubbles in assets that painlessly enrich the top 25% of households who then increase their borrowing and spending, i.e. the "wealth effect."
Yeah? Well I'm not enriched and I'm not amused.
PM's are starting to assume legendary status in my mind, along with ammo, food, water, tools, seeds, sense of community, networking and faith.
Not up to par, only one mention of the "Central State"