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Financial Storm Chasing With Blinders On: How The Fed Is Driving The Next Bust

Tyler Durden's picture


Submitted by David Stockman via Contra Corner blog,

The latest iteration of the Fed’s meeting minutes is surreal. Its another economic weather report consisting of trivial, random observations about the quarter just ended that are as superficial as CNBC sound bites. Along with that prattle comes guesses and hopes about the next 30-90 days—including the expectation that the weather will “seasonally normalize” and that auto production schedules, for instance, which were down in March, will stabilize at that level “in the months ahead”.

Likewise, after noting that consumption spending moved “roughly sideways” during January and February, it detected that “recent information on factors that influence household spending were positive”—-a guess that turned out to be wrong based on data we already know from April retail sales. The data on new and existing home sales had indicated the continuation of a 5-month trend of sharp drops from prior year, but the minutes could muster only an on-the-one-hand-and-on-the-other-hand whitewash, accented with hopeful indicators on single-family permits and pending home sales.

Business investment was treated the same way—that is, it was down in the first quarter but “modest gains” are expected soon based on sentiment surveys. And as you read further the noise just keeps getting more foolish, including the hope that the negative net export performance in Q1 would be off-set by improving global developments. That fond hope included this doozy: “In Japan, industrial production rose robustly, and consumer demand was boosted by anticipation of the April increase in the consumption tax.”

That particular phrase actually translates into big speed bumps ahead, but that’s beside the point. What this item and all of the rest of the commentary amounts to is bus driver chatter about road conditions at the moment. Stated differently, the monetary politburo does indeed believe that it can steer our $17 trillion economy on a month-to-month basis, and attempts to do so with primitive “in-coming” data from the Washington statistical mills that is so tentative, imputed, guesstimated, seasonally maladjusted and subsequently revised as to be no better than anecdotal sound bites.

Worse still, it pretends to be executing its monetary central planning model without any of the “gosplan” tools that would really be needed to drive the thousands of variables and millions of actors which comprise an open $17 trillion economy that is deeply intertwined in the trade, capital and financial flows of the world’s $75 trillion GDP. Alas, its one size fits all control panel includes only interest rate pegging, risk asset propping and periodic open mouth blabbing by Fed heads.

But these are not longer efficacious tools for driving the real Main Street economy because to boost the latter above its natural capitalist path of productivity and labor hours driven growth requires artificial credit expansion—that is, a persistent leveraging up of balance sheets so that credit bloated spending rises faster than production and income.

As should be evident after six continuous years of frantic money pumping that old secret sauce doesn’t work any more because the American economy has reached a condition of peak debt.  During the Keynesian heyday between 1970 and 2007 the nation’s total leverage ratio—that is, total public and private credit market debt elative to national income—soared right off the historic charts, rising from a 100-year ratio of +/- 150% of national income to a 3.5X leverage ratio by 2007.

Since the financial crisis, the components of national leverage have been shuffled from the household sector to the public sector, but the ratio has remained dead in the water at 3.5X. That means that contrary to all the ballyhoo about deleveraging, it has not happened in the aggregate, but where it has happened at the sector level actually proves that the Fed’s credit transmission channel is over and done.

Total non-financial business debt has risen from $11 trillion to $13.6 trillion since the financial crisis, but virtually all of the gain has gone into shrinkage of business equity capital—that is, LBOs, stock buybacks and cash M&A deals which levitate the price of shares in the secondary market, but do not fund productive assets and the wherewithal of future growth.  In fact, as of Q1 business investment in plant and equipment was still nearly $70 billion or 5% below its late 2007 peak.

In the case of the household sector the 40 year tear into higher and higher leverage ratios has reversed and is now significantly below its peak at 220 percent of wage and salary income in 2007. But at 180% today it is off the mountain top—but still far above historically healthy levels, especially for an economy with rapidly aging demographics and soaring ratios of dependency on government benefits that require tax extraction from debt-burdened households or debt levies on unborn taxpayers.

Household Leverage Ratio - Click to enlarge

Household Leverage Ratio – Click to enlarge

So the traditional credit expansion channel of Fed policy is busted, but the monetary politburo is like an old dog that is incapable of learning new tricks. It plans to keep money market rates are zero for seven years running through 2015 on the misbegotten notion that it can restart America’s unfortunate 40-year climb into the nosebleed section of the debt stadium.

That isn’t happening, of course, but the $3.5 trillion of new liquidity that it has poured through the coffers of the primary bonds dealers since September 2008 has not functioned like the proverbial tree falling in an empty forest. Just the opposite. It has been a roaring siren on Wall Street—guaranteeing free short-term money to fund the carry trades, while providing a transparent “put” under the price of debt and risk assets. In short,  it has fueled the Wall Street gambling channel like never before in recorded history.

Do the Fed minutes evince a clue that six years into this frantic money printing cycle that speculation, financial leverage strategies and momentum chasing gamblers are setting up for the next bursting bubble.  Well no.  Aside from pro forma caveats about future risks, the minutes claimed that all is well in the casino:

“In their discussion of financial stability, participations generally did not see imbalances that posed significant near-term risks to the financial system or the broader economy….

Perhaps they did not review the two charts that follow. Both  are ringing the bell loudly to the effect that we are reaching the same bubble asymptote—or curve that has reached its limit— as was recorded right before the crash of 2000-2001 and 2007-2008.

The margin debt explosion is especially significant because it had reached a higher ratio to GDP (2.73%) than either of the two pervious bubble cycles. Back in the day of William  McChesney Martin, the Fed watched margin debt like a hawk because it was comprised of veterans of the 1929 crash, and did not hesitate to take preemptive tightening actions when speculation began to get out of line, such as in the summer of 1958. But this month’s meeting minutes did not even take note of the data.

To be sure, it is always possible to claim that the broad market is trading at “only” 15X the forward earnings of the S&P 500 at $123/share.  But that’s ex-items and from analyst hockey sticks which always get sharply reduced as the future actually materializes. In that respect it is notable that at this very point in the bubble cycle during October 2007, S&P forward earnings were projected at $118/ share for 2008; they actually came in at $55/share on an ex-items basis, and a scant $15/share after a half decade of phony profits were written of by banks and non-financial business alike.

In any event, the landscape is riddled with froth and unsustainable speculative everywhere but most especially in the world of junk credit where the final blow-off has occurred in each of the last three bubble cycles. All the usual suspects are there including record junk bond issuance, soaring expansion of the debt-on-debt-on-debt Wall Street vehicles known as CLOs—along with “cov lite” loans and leveraged recaps whereby the LBO kings pile more loans on portfolio companies already groaning under massive debt in order to pay themselves are fat dividend.

And then the tentacles of junk credit expand far and wide. Sub-prime auto debt is at nearly 2007 peak levels, and now another flavor has emerged: Subprime business debt whereby struggling shopkeepers and home-gamers are invited to pay up to 100% annualized interest to keep the doors open a few more months.

And then there is the ultimate in sub-prime—-student debt that has now reached $1.1 trillion, and which already sports default rates in excess of 30% among borrowers who are actually in repayment status.

Monetary central planning at the zero bound embodies a destructive internal contradiction. It inherently generates rampant speculation in real estate and financial assets because ZIRP massively subsidizes the cost of carry. At the same time, its practitioners are institutionally disposed to bubble denial because they falsely believe that their policies are what is keeping the real economy advancing–even if currently it is at a sub-normal pace by historical standards.

Without fail, therefore, monetary central planners keep their feet on the accelerator to the very end, boasting that the “in-coming data” shows the macro-economy approaching the nirvana of full-employment. What they are actually doing, however, is driving the financial system to unsustainable extremes of valuation and speculation— and eventually to a crash landing. We have had two of these processions of the lemmings—that is, Fed driven cycles of bubble inflation and bust—- already in this century. Now we are at the asymptote of the third.



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Fri, 05/23/2014 - 19:10 | 4790016 LetThemEatRand
LetThemEatRand's picture

These guys are not wearing blinders.  Quite the opposite.  They are driving the bus straight and true to the vaults of their own banks, full of stolen loot.  It is not plausible that they have vastly enriched themselves at the expense of the middle class by accident or stupidity.   Paul Craig Roberts call these guys out as the ponzi scheme grifters they are.   You can do it too, Stockman.  Call a spade a spade.

Fri, 05/23/2014 - 19:14 | 4790024 Ham-bone
Ham-bone's picture

Doesn't seem an accident that the combo of the Cayman islands and Belgium have soaked up over $600 B in Treaury's from '08 til now...an increase of 845% and they now own almost $700 B of US Treasury debt?!?  Ummm...that's about 1/3 amount the Fed has purchased in the same period?!?

Obviously they love our debt and we need to ramp up the creation, if not for us let's do it for Belgium???  Why not sell $10 T now @ 0% since they supposedly can't get enough and only get more excited as the yields collapse.

Fri, 05/23/2014 - 19:17 | 4790036 LetThemEatRand
LetThemEatRand's picture

Knuckles floated the theory the other day that Belgium is being used as cover for some big banks using Fed money to buy Treasuries to conceal the full extent of monetization.  I think he's dead on. 

Fri, 05/23/2014 - 19:20 | 4790046 fonzannoon
fonzannoon's picture

even if that were the case, much like the decades long gold manipulation that is out in the open...what does it matter if no entity exists to do anything about it?

Fri, 05/23/2014 - 19:24 | 4790051 LetThemEatRand
LetThemEatRand's picture

I'm with you Fonz.  It's purely academic at this point.   

Fri, 05/23/2014 - 19:27 | 4790054 Ham-bone
Ham-bone's picture

Fonz - think you are right...it isn't hidden or clandestine...it's all in the open and generally in your face.  I don't know exactly how it's getting done but quite sure money is being pushed or pulled to ensure ever lower yields on ever more debt.  And not sure anything can be done about it. 

Sat, 05/24/2014 - 12:30 | 4791312 daveO
daveO's picture

Russia and China signed an oil and gas deal, bypassing dollars, last week. The ultimate abandonment of the dollar in world trade will do something about it! No one likes a thief.

Fri, 05/23/2014 - 19:27 | 4790056 NoDebt
NoDebt's picture

I have my own theory- people LIKE things that are manipulated.  They know they'll never let things get too out of hand, so it enhances the asset's "safe haven" status.  Applied to the S&P 500... well, it would look a lot like it looks now, wouldn't it?


Fri, 05/23/2014 - 19:31 | 4790062 Ham-bone
Ham-bone's picture

but absent fear there is no discipline and greed and leverage runs to the nth degree...classic Minsky moment stuff. 

Fri, 05/23/2014 - 19:40 | 4790077 fonzannoon
fonzannoon's picture

Listen this is important. I am drinking this stuff called Gonzo Flying imperial porter


any of you alcoholics should try it because it has a 9.2% alcohol content. So having 3 of them is like having a six pack and your wife does not break your balls because she thinks you are only having 3 beers.

Fri, 05/23/2014 - 19:43 | 4790087 LetThemEatRand
LetThemEatRand's picture

Now that's some useful information.  Thanks for the tip.

Fri, 05/23/2014 - 22:29 | 4790435 Ham-bone
Ham-bone's picture

thanks...just had a nice time w/ the wife and kids at the beer gardens on a beautiful evening here in PDX...I'll search out Imperial and drink it in your honor.

Fri, 05/23/2014 - 19:58 | 4790111 Dr Benway
Dr Benway's picture

Funny, I have had the same thoughts lately. You know the parable of the scorpion and the frog? It's most often interpreted as a parable about the irrational self-destructiveness of the scorpion, which can't resist its nature to sting even if it ultimately is fatal to both.

I now realize the parable is actually about the frog. It's in the frog's nature to trust, to have confidence, and to be deceived. Deep down the frog knows the scorpion will sting, but the frog irrationally can't resist its nature to trust.

Perhaps it has always been like this, perhaps there has always been a scorpion caste and a frog caste. I have come to despise the frogs more than the scorpions. They both die, but the frog dies wailing "why?" in confusion. The scorpion dies truly knowing itself.

Sat, 05/24/2014 - 04:28 | 4790848 BrosephStiglitz
BrosephStiglitz's picture

That's deep man.

Sat, 05/24/2014 - 05:43 | 4790896 Dr Benway
Dr Benway's picture

That's me, deep as the ocean


Sat, 05/24/2014 - 06:06 | 4790912 UselessEater
UselessEater's picture

so kissing a frog is a misleading fairy tale.........there goes my childhood ;)


Sat, 05/24/2014 - 06:44 | 4790944 what's that smell
what's that smell's picture

that's deep man?

do you mean: that's deep, man?

Sat, 05/24/2014 - 11:53 | 4791254 elephant
elephant's picture

schlemiel schlimazel

Sat, 05/24/2014 - 16:26 | 4791727 saveUSsavers
saveUSsavers's picture

Fed using currency swaps I bet !

Fri, 05/23/2014 - 21:59 | 4790354 SDShack
SDShack's picture

The Fed is just following it's dual mandate: Extend & Pretend.

Sat, 05/24/2014 - 06:36 | 4790934 what's that smell
what's that smell's picture

interest rates low? check. stock market at all time highs? check. gold suppressed? check. consumers taking on more debt? check.

is this a mystery? who has the power to make it happen day after day? low volatility is a sign all the players are doing what they're told to do.

The First Peoples Symphony Orchestra formerly known as the Free Market conducted by the crypto-maestro Yellen of FED.

Fri, 05/23/2014 - 19:10 | 4790020 q99x2
q99x2's picture

Don't you think they know exactly what they are doing by now? Especially since they get wealthier each time they do it.

Duh. David you have to arrest them. There is no other way.

Fri, 05/23/2014 - 19:15 | 4790031 LetThemEatRand
LetThemEatRand's picture

Unfortunately, Stockman continues to attribute what is happening to wrong-headed economic theory as opposed to outright theft and corruption.   A fair number of people in power still listen to what he says.  I understand his reluctance to go there, but it's time.

Fri, 05/23/2014 - 22:00 | 4790363 SDShack
SDShack's picture

The Rule of Law is not the sociopath way, hence the reason for our problems.

Fri, 05/23/2014 - 19:17 | 4790037 Cattender
Cattender's picture

OMFG... one More Time... (sigh) IT"S A RECOVERY!!!!!!!! JEEZZZUZZZZ Go Out And Buy A New House Or Car Or SUV!!!!!!

Fri, 05/23/2014 - 19:35 | 4790068 Slave
Slave's picture

I hear Barry bought a new buttplug. We should follow his lead.

Fri, 05/23/2014 - 19:18 | 4790039 Bruno de Landevoisin
Bruno de Landevoisin's picture
The equity market has been reduced to nothing more than a promotional billboard, central to justifying the existence of a parasitical financial industry which is subsidized by the subservient Fed and its subversive blood-sucking banking cabal.


   The giant squid is spinning its slick underwater subterfuge, spewing colossal clouds of black ink, so as to camouflage and cloak its pathological pilfering & predatory plundering. 
Sat, 05/24/2014 - 07:40 | 4790973 AdvancingTime
AdvancingTime's picture

To say the market is rigged is an understatement. After over 30 years of trading commodities I will flat out state without any reservations that lies and manipulation run rampant. If you think anyone is looking out for the small independent trader you are wrong. An unholy alliance of the Federal Reserve, the government, and the too big to fail has left the rest of us in a precarious position.

For the big boys, its insider information and computer trading, this includes computing patterns that exploit where stops are placed, this improves their ability to wash the weak out of their positions. The bottom-line is that the higher the market goes the more vulnerable it becomes to a major collapse and sudden downward move. More on this subject in the article below.


What more proof do we need than to enter this holiday weekend with all new market record highs!


Fri, 05/23/2014 - 19:20 | 4790045 RaiZH
RaiZH's picture

Oh this is going to be sweet. 

Fri, 05/23/2014 - 19:23 | 4790049 CrashisOptimistic
CrashisOptimistic's picture

Look.  Just go write a check of $104 for a barrel of oil.  Ask the Fed to cover it.  Then go burn the oil and come back in a few months and write another check.

Everything else is hand waving.

Fri, 05/23/2014 - 19:46 | 4790091 JR
JR's picture

“Capitalism has been transformed by powerful private interests whose control over governments, courts, and regulatory agencies has turned capitalism into a looting mechanism. Wall Street no longer performs any positive function. Wall Street is a looting mechanism, a deadweight loss to society. Wall Street makes profits by front-running trades with fast computers, by selling fraudulent financial instruments that it is betting against as investment grade securities, by leveraging equity to unprecedented heights, making bets that cannot be covered, and by rigging all commodity markets.

“The Federal Reserve and the US Treasury’s “Plunge Protection Team” aid the looting by supporting the stock market with purchases of stock futures, and protect the dollar from the extraordinary money-printing by selling naked shorts into the Comex gold futures market.

“The US economy no longer is based on education, hard work, free market prices and the accountability that real free markets impose. Instead, the US economy is based on manipulation of prices, speculative control of commodities, support of the dollar by Washington’s puppet states, manipulated and falsified official statistics, propaganda from the financial media, and inertia by countries, such as Russia and China, who are directly harmed, both economically and politically, by the dollar payments system.

"As the governments in most of the rest of the world are incompetent, Washington’s incompetence doesn’t stand out, and this is Washington’s salvation.

"But it is not a salvation for Americans who live under Washington’s rule.”

--Paul Craig Roberts


Fri, 05/23/2014 - 20:50 | 4790191 Frilton Miedman
Frilton Miedman's picture

I cannot begin to express how important it is to listen to Roberts.

Specifically in an age when political whores in the pockets of Wall St lay claim to being aligned with Reaganomics.

Roberts is the co-founder of Reaganomics.

Reagan, for the record, opposed a lower cap gains & carried interest tax vs income tax.



Fri, 05/23/2014 - 23:15 | 4790520 DOGGONE
DOGGONE's picture

Hey Roberts et al.
get this ONGOINGLY in people's faces
The Public Be Suckered

IMO, info. has to be repeatedly received to be accepted,
AND this helps:

Fri, 05/23/2014 - 20:04 | 4790118 AUD
AUD's picture

the landscape is riddled with froth and unsustainable speculative everywhere but most especially in the world of junk credit

Is it any wonder then that the stockmarket is at all time highs? Stocks are the pinnacle of junk.

Stockman is a better economic anal-yst than most, but despite calling the Fed, the issuer of the currency, a bunch of morons, he still treats Fed credit "good as gold". He is an establishment man, not prepared to call a spade a spade.



Sat, 05/24/2014 - 07:33 | 4790968 AdvancingTime
AdvancingTime's picture

"Stocks are the pinnacle of junk."

If faith drops in these intangible "promises" and money suddenly flows into tangible goods seeking a safe haven inflation will soar. Never before has mankind diverted such a large percentage of wealth into intangible products or goods.  I contend this is the primary reason that inflation has not raised its ugly head or become a major economic issue. The timetable on which economic events unfold is often quite uneven and this supports the possibility of an inflation scenario.

The  key issue is one of timing. If the price of gas jumps to $8 a gallon overnight do you buy gas and not make your car payment or stop driving the twenty miles to work? Answer, it could be months before your car is repossessed so you buy gas. It is important to remember that debts can go unpaid and promises be left unfilled. Is this possible and if so where would that leave us? Chaos and major disruption would result from such a scenario. As we have seen from the economic crisis of 2008 and following many other unsettling developments legal actions can continue to drag on for years.  More in the article below.


Sat, 05/24/2014 - 07:51 | 4790984 AUD
AUD's picture

Are you just trying to pimp your blog? The stockmarket has inflated to all time highs, and you still don't think inflation has soared? 

Sat, 05/24/2014 - 00:34 | 4790275 Frilton Miedman
Frilton Miedman's picture

I don't agree the Fed is causal, not completely, though I DO agree the result of Fed policy has been more beneficial to the elite.

Bernanke repeatedly stepped outside the traditionally apolitical nature of the Fed to specifically say the current problem is structurally fiscal, stating the Fed alone would not resolve this.

The Fed has reacted to political gridlock in the worst fiscal/credit crisis since 1929, the only way it could, by reducing the cost to service extremely high levels of household debt, buying time for a recovery in hopes that wage growth might match household debt.

That hasn't happened, it's not the Fed's doing.

It's not the Feds doing that globalization avails dirt cheap labor to multinationals in place of Americans, nor that technology greatly reduces labor demand.

The fact is simple, while total net wealth & income in America has grown, wages & net wealth for the lower 95% has shrunk, forcing most Americans to increasingly depend on debt in the bad times, making cost to service that debt a drag on consumption in the good times.

The ONLY solution is to get income up, not just for the highest bidders on K st, but for everyone.


Sat, 05/24/2014 - 06:42 | 4790943 andrewp111
andrewp111's picture

OR to wipe out most of that debt with a massive global storm of bankruptcy.

Sat, 05/24/2014 - 12:48 | 4791346 daveO
daveO's picture

The only solution is to get prices and debts down. By 'reducing the cost to service extremely high levels of household debts', the FED sent the wrong message to the marketplace and ENRICHED it's bankster owners at the same time. The only way to get real incomes up is productivity. They are capturing all the productive gains of the economy and then taxing us via inflation and even more inflation. Move along debt serfs, back to work!

Fri, 05/23/2014 - 22:25 | 4790411 DOGGONE
DOGGONE's picture

David Stockman,
Look at the Real Dow here:
The second bust you cite, ending in March 2009, ended when QE began. Why can't QE promptly stop another bust?
Personally, I do not know.

Sat, 05/24/2014 - 07:24 | 4790965 AdvancingTime
AdvancingTime's picture

A mirage is a naturally occurring optical phenomenon in which light rays are bent to produce a displaced image of distant objects. Joining the idea of a mirage and contagion with the reality of collapsing debt forms an interesting subject.

It is important to remember all debts and obligations do not come due at the same time. Also, it must be noted when a bill is not paid or defaults it often starts a long and drawn out legal battle, this collection process that may extend years without harsh consequences. This my friends is the reality of modern life in America and much of the world, but can it contiune forever? More on this subject in the article below.


At some point the ruturn on a loan is just not worth the risk!

Sat, 05/24/2014 - 08:49 | 4791011 d edwards
d edwards's picture

I want to predict that "asymptote" will soon surpass "pragmatist" as the most looked-up word at Merriam-Webster.

Sat, 05/24/2014 - 09:27 | 4791045 Doña K
Doña K's picture

Disputed debt equals disputed credit which can no longer be used as collateral and it starts unraveling the whole system. It only takes one small event of mistrust and here she goes

Sat, 05/24/2014 - 09:05 | 4791022 J J Pettigrew
J J Pettigrew's picture

It is a planned economy now....

and they can keep this up forever.....or a few more months, which ever comes first

Sun, 05/25/2014 - 03:41 | 4792810 Remnant_Army
Remnant_Army's picture

Friday, July 8th, 2011

"Tell My children to wake up now and see the turmoil in the world, where financial crises abound. Tell them that while people’s greed was partly responsible for plunging them into debt, that the banking crisis was deliberately planned by the One World Order."



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