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"Now We Are At The Lower Bound": Draghi Reaches The Dead-End Of Keynesian Central Banking

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Submitted by David Stockman's ContraCorner

"Now We Are At The Lower Bound": Draghi Reaches The Dead-End Of Keynesian Central Banking

Europe is not growing much because most of its economies have been crushed under a mountain of debt, taxes, welfarism and statist dirigisme. Yet somehow the foolish pettifogger running the ECB thinks that driving the cost of  money to the “lower bound” (i.e. zero) will help overcome these insuperable—and government made—barriers to prosperity.

Yet in today’s financialized economies, zero cost money has but one use: It gifts speculators with free COGS (cost of goods sold) on their carry trades. Indeed, today’s 10 basis point cut by the ECB is in itself screaming proof that central bankers are lost in a Keynesian dead-end.

You see, Mario, no Frenchman worried about his job is going to buy a new car on credit just because his loan cost drops by a trivial $2 per month, nor will a rounding error improvement in business loan rates cause Italian companies parched for customers to stock up on more inventory or machines. In fact, at the zero bound the only place that today’s microscopic rate cut is meaningful is on the London hedge fund’s spread on German bunds yielding 97 bps—-which are now presumably fundable on repo at 10 bps less.

Needless to say, when your only tool is a hammer, everything looks like a nail. And when you are a Keynesian with a hammer, it is presumed that nothing much was hammered before yesterday.  That is to say, the whole mindless drive by the ECB toward the zero bound, which Draghi pointedly claimed to have achieved this morning,  presumes that balance sheets—–the accumulated record of past actions—don’t matter.

Instead, its all about the credit “flow” today and tomorrow. Accordingly, lower interest rates—no matter how trivial the  change—are ritualistically presumed to stimulate more borrowing in the real economy, and therefore more spending, income and virtuous circle of Keynesian growth.

Earlier this week I posted a chart on household debt growth in Portugal which had soared by 6X in the decade before the financial crisis compared to nominal GDP growth of 2X. Self-evidently, the household leverage ratio had escalated into uncharted territory, perhaps explaining why Portugal’s economy is struggling under the burden of “peak debt”.

And, yes, Portugal is an outlier—–the victim of getting German borrowing rates on Greek economic habits. But it aptly illustrates the futility of pushing credit on a string when balance sheets are already saturated with debt.

The Italian economy was in the debt pyramiding business much earlier, of course, but the same point holds true. As shown below, in just the eight years leading to the 2008 financial crisis, credit advanced to the private sector (households and business) nearly tripled, rising at a 10% CAGR during that period compared to nominal GDP growth of barely 3% per year.

Since 2008, by contrast, credit growth has flat-lined, but surely not because interest rates were too high. The self-evident problem is that debt and leverage were too high; the debt fueled boom after the euro was inaugurated simply consumed all the balance sheet runway that was available.

Now the Italian economy must grow the old fashion way. That is,  not through credit fueled spending but via supply side expansion in the form of investment, enterprise and more labor hours and labor productivity. And precisely what can the the monetary central planners in Frankfurt do about the latter?

Indeed, peak debt is a problem throughout the Eurozone.  In just 9 years the household leverage ratio in Spain, for example, nearly doubled from 55% to 93% of GDP. Since the crisis, it has been slowly receding, but, again, that is not a sign that Europe’s miniature interest rates are too high; its evidence that the Keynesian debt trick—-the one time ratcheting of leverage ratios—is over and done.

So getting (finally) to the zero bound leaves the ECB high and dry.  In the near-term, today’s actions will simply accelerate the exchange rate reversal, and thereby erase  the “deflation” hobgoblin that the ECB has used to justify its destructive financial repression.

Between Draghi’s mid-2012 ukase and this past April, the euro rose from 120 to 140 or 17 percent. And that’s how the inflation rate of goods and services in the Eurozone temporarily dipped from its historic 2% path to the most recent y/y reading of 0.3%.

But this wasn’t a calamity; nor was it permanent. It was just a measure of the degree to which the price of imported raw materials and finished goods—of which Europe records $2 trillion annually from the rest of the word—-had abated in euro terms. Factory gate prices, for example, are down 1.1% in the LTM period, and that’s precisely because imported production inputs have been cheaper.

But the euro has already crashed through 130/USD and will be heading back to 120 in the months ahead. With perhaps a few months of lag, the euro area CPI will rebound and the deflation myth will have been long forgotten.  Yet when the CPI regresses toward the ECB’s own target—just under 2%—-the rubber will surely meet the road in Frankfurt.

The only possible way that the Germans could have been hornswoggled into QE was on monetary grounds—that is, the onset of a “dangerous” bout of long-lasting deflation. But when the euro gets back into its weakening groove, inflation will get back to its historic path. So just where is the beef?

Not only that. A weakening euro will also accelerate a reversal of the hedge fund hot dollar flows into peripheral country debt that has occurred since mid-2012—-meaning that yields on Italian, Spanish, Greek and Portuguese debt will soon be marching back up the hill. Indeed, as the hot dollar bid vacates the market, the fellow-traveling commercial banks in the peripheral countries will find that perhaps they gorged too greedily on their own sovereign debt. And if they too begin lightening the load……well, its going to take more than “whatever” to stem the tide of selling.

Having arrived at the zero bound, Mario Draghi will thus find that he doesn’t remotely have “whatever it takes” for the next round. Inflation will be back. QE will be off the table. And european growth will remain hostage to debt, taxes, welfare and dirigisme.

But as a long-time servant of the Italian state, he should have known that all along.

 

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Thu, 09/04/2014 - 21:33 | 5182874 NoDebt
NoDebt's picture

I stand by my statement about this from this morning:  They know they're in trouble.

Thu, 09/04/2014 - 21:37 | 5182885 himaroid
himaroid's picture

Yeah but they are as good at economics as they are at foreign affairs.

 

Thu, 09/04/2014 - 21:49 | 5182927 Anusocracy
Anusocracy's picture

World fixers at their finest.

Thu, 09/04/2014 - 22:49 | 5183085 Mentaliusanything
Mentaliusanything's picture

10 basis points.. Well its as good to go as Obama's Plan for the ME

10 Basis points has the same power as a fart from a corpse.

Just give it up already

Thu, 09/04/2014 - 23:01 | 5183103 WhyDoesItHurtWh...
WhyDoesItHurtWhen iPee's picture

Dude, between 'hornswaggled" and "dirigisime" we are so fucked !!!

Fri, 09/05/2014 - 01:06 | 5183326 ilion
ilion's picture

"Do the companies really need more debt?
The strong growth we experienced in industrial production starting from 2009 has long ended. In fact the recent data indicates that we are currently on a decline. It is in decline because the consumers don't demand so many products. So why would companies need more financing if they already operate at below average capacity utilization rates and in light of the current turmoil around Ukraine (and the inconfidence it creates among consumers) it is very unlikely that consumers will suddenly want to buy another iPhone or a brand new car. Consumers are focused on pure necessities such as food and shelter."

Article here: http://armadamarkets.blogspot.com/2014/08/ecb-hires-blackrock-for-advice...

Thu, 09/04/2014 - 23:15 | 5183129 KnuckleDragger-X
KnuckleDragger-X's picture

Draghi should probably stay away from open windows and nail guns. As for the EU in general, I can hardly wait for the global warming winter about to roll oer them.

Thu, 09/04/2014 - 23:18 | 5183137 Al Huxley
Al Huxley's picture

It'll be fine - just because they'll be at war with Russia doesn't NECESSARILY mean Russia won't sell them gas.

Fri, 09/05/2014 - 08:38 | 5183766 HardlyZero
HardlyZero's picture

No war.  Judo.  All they need to do is lean-in on Ukr.  Gravity works.

Thu, 09/04/2014 - 21:34 | 5182878 nmewn
nmewn's picture

Suck that melon through a straw, you can do it!!!

Thu, 09/04/2014 - 21:42 | 5182887 Cognitive Dissonance
Cognitive Dissonance's picture

'Lower bound' is free money for all. I'm waiting for 'free money' to come in the mail. Time to clear the fall spiders off the mailbox. Don't want the postman dying before my Uncle Sam salvation can be delivered to my roadside can.

<The postman rings twice...right?>

Thu, 09/04/2014 - 22:07 | 5182911 Cursive
Cursive's picture

@Cog Dis

Bro!  Long time.  My mother literally gets money, albeit nickels, quarters and the occassional crisp dollar bill, in the mail.  I think it's the Paralyzed Veterans of America or something like that.....

Thu, 09/04/2014 - 22:54 | 5183088 HardlyZero
HardlyZero's picture

It will dead-end this fiat era when there are auto-deposit cash injections from the FED and ECB (or both at the same time to same household!) on citizen demand, to avoid going on the street to get food and avoid the hyper-inflation riots.  When the percentage of Amszon Fresh trucks (fully outfitted) in the cities exceeds 50% then we have our modern tipping point.  There may be many Omega Man households.  It will be different.

Thu, 09/04/2014 - 21:43 | 5182907 Cursive
Cursive's picture

I remember watching the evening news in the late 80's and these same wall street types were shaking their collective heads that the Japanese had a culture where they couldn't recognize bad loans and the bankers were being protected because of this.  We're about 25 years later and look at Japan now.  They are such zombies, the youth watch "anime" (whatever the fuck THAT is) instead of making time with the women folk.  You see it now with American youth and middle aged.  Head in the smart phone, oblivious to the world....

Thu, 09/04/2014 - 21:55 | 5182956 NoDebt
NoDebt's picture

It's nice to have a template.  Gives you comfort you're not heading anywhere somebody else hasn't already been.

I hear you on the anime thing, though I knew what that was.  Thought I had seen pretty much everything.  Then somebody posted about "tentacle porn".  And I was right back where you are now with anime.  Not a clue, not looking for one.

 

Thu, 09/04/2014 - 21:56 | 5182921 Caviar Emptor
Caviar Emptor's picture

Sometimes nothin' can be a real cool hand. Cool Hand Mario

Thu, 09/04/2014 - 21:56 | 5182959 Cursive
Cursive's picture

@Caviar Emptor

LOL.  Everytime I see this Draghiqueen clown I see Peter Sellers saying, "Does your dog bite."

Thu, 09/04/2014 - 22:03 | 5182973 Caviar Emptor
Caviar Emptor's picture

I see Peter Sellers as Chance the Gardner : "In the garden, growth has it seasons. First comes spring and summer, but then we have fall and winter. And then we get spring and summer again."

Thu, 09/04/2014 - 21:51 | 5182935 Cheyenne
Cheyenne's picture

OT: Paul Craig Roberts saw the video I made last week ripping apart the Krugmanite myth that the labor force participation rate is tanking due to retiring baby boomers. Tonight PCR posted a short piece we co-wrote on it…

http://www.paulcraigroberts.org/2014/09/04/lie-serves-rich-roberts-titus...

The video features a three-sport FAIL reel of Obama’s douchebaggery plus a cameo by WB7.

Thu, 09/04/2014 - 21:59 | 5182968 khakuda
khakuda's picture

Anything to allow more time to prove they are right by encouraging more debt and leverage.

Thu, 09/04/2014 - 22:02 | 5182981 techstrategy
techstrategy's picture

All the people on this website need to do is exit all float scams (anything less than 3% CF yield), raise physical cash and buy gold.   You'll be fully insulated from both tail and force those responsible to onboard all the risk. 

Thu, 09/04/2014 - 22:10 | 5183004 disabledvet
disabledvet's picture

What can Central Planners from Frankfurt do?

"Not wait for orders" apparently.

Next up...Konigsberg!

Thu, 09/04/2014 - 22:11 | 5183005 ebworthen
ebworthen's picture

Love David Stockman, so dead-on right.

New words too; "dirigisme", thank you David:

"Control by the state of economic and social matters."

Sounds kind of like "dirigible", as in Zeppelin, as in "Hindenburg".

Thu, 09/04/2014 - 22:31 | 5183047 Caviar Emptor
Caviar Emptor's picture

In the month of "Zeptember" no less

Thu, 09/04/2014 - 23:09 | 5183114 Al Huxley
Al Huxley's picture

What if they allowed 'the little people' to borrow at 0%?  With an interest-only payment plan, or maybe for a 30 year term with 1000 year amortization?  Because there are some really nice villas in South France I'd be looking at really closely if I could get those terms - I imagine that pretty much everybody'd be willing to borrow more 'to get the economy moving' on those terms.  So I kind of doubt their sincerity - they don't really give a fuck about my well-being after all!  Cocksuckers...

Thu, 09/04/2014 - 23:21 | 5183141 KnuckleDragger-X
KnuckleDragger-X's picture

Yeah, there are some pretty castles on the market too and I need a summer place.

Fri, 09/05/2014 - 08:36 | 5183746 HardlyZero
HardlyZero's picture

Yes a castle with a moat to store the goald.

and a cutout house for all the shipments.

Thu, 09/04/2014 - 23:41 | 5183193 AdvancingTime
AdvancingTime's picture

 Both people and governments have lived beyond their means by taking on debt they cannot repay. Over the last several decades we have created entitlement societies built on the back of the industrial revolution, technological advantages, capital accumulated from the colonial era, and the domination of global finances. Promises were made on the assumption that the advantages we enjoyed would continue.

Ever greater prosperity and entitlements were to be sustained through debt financed consumption growth. In that eerie fantasy world, debt fueled consumption was to be the catalyst to bring about evermore growth. Now reality has begun to come into focus and it is becoming apparent that this is unsustainable. The entitlements and promises that have piled up have become overwhelming. More on why this system will fail in the article below.

http://brucewilds.blogspot.com/2014/08/modern-monetary-theory-is-wrong-d...

Thu, 09/04/2014 - 23:58 | 5183233 WillyGroper
Fri, 09/05/2014 - 01:05 | 5183325 Womb Service
Womb Service's picture

"the new axis of Russia, China, Germany is emerging which will promote the return to Gold Standard"

Jim still thinks bankers are going to give up credit-money and give us a gold satndard. And he's still maintaining the fiction that this isn't all orchestrated between east and west. New axis indeed. I guess it sucks in subscribers.

Fri, 09/05/2014 - 00:51 | 5183312 Bunga Bunga
Bunga Bunga's picture

he can always go back to Goldman.

Fri, 09/05/2014 - 01:31 | 5183343 GoldenDonuts
GoldenDonuts's picture

Not an economist.  Nor if I was would I be a Keynsian.  But I wish that people would stop blaming his ideas for what is going on right now.   It seems to me that the "new keynsians" that I keep hearing about only got half of the theory right. 

I believe that Keynes theory stated that in bad times the government should spend more to keep the economy from deflating BUT that in good times that same government should curtail spending and pay back debts incurred during the slower times.

Doesn't sound like all that bad of an idea to me.  But building bridges, dams, and other inftrastructure would be expenses that would fit the theory.  They are activities that have a defined beginning and end.  Once finished they stop costing money and hopefully generate investment.  They leave the builders with valuable assets as well.   Ever more social programs and defense spending do not have end dates where the costs end and they do not leave society with valuable assets.

Keynes must be cringing in his grave whenever he hears his name associated with the idiots running our world today who have bastardized his ideas to build their teetering empires.

Fri, 09/05/2014 - 01:52 | 5183367 damicol
damicol's picture

They should have aborted Keynes by cutting his fathers nut sack off long before he was born.

That retarded  fuck wit has a lot to answer for.

And no, not one single thing he came up with even relotely resembles reality.

A fucking moron writing drivel from day one

Fri, 09/05/2014 - 02:10 | 5183382 JoJoJo
JoJoJo's picture

Thank the hedge funds for keeping negaive housing bubble afloat. They bought 200,000 depressed inner city properties  at bargain prices + other housing in Detroit lke cities. They'll be sorry.

Fri, 09/05/2014 - 05:36 | 5183515 IPURDOM75
IPURDOM75's picture

Needless to say, when your only tool is a hammer, everything looks like a nail.

 

aha ah!!  Stockman and his incomparable style!!

Fri, 09/05/2014 - 07:40 | 5183618 Raoul_Luke
Raoul_Luke's picture

Yes, indeed!  What the Klueless Keynesisns don't get is that people need a reason to borrow, and lower rates isn't a reason, in and of itself (unless you are a speculator).  These statist regimes have hamstrung business creation and given existing businesses plenty of reasons to move production elsewhere, and no amount of CB "pushing on a string" is going to overcome that.  The sooner we all get comfortable with that fact and start making the changes necessary to get big government off the backs of the entrepreneurs (jettison the "you didn't build that" agenda), the sooner these economies will start to recover.

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