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The Path To Rate Normalization Will Not Come Without Pain

Tyler Durden's picture




 

Via Scotiabank's Guy Haselmann,

Beating the Long Bond Drum

Buy long-dated Treasuries.  In February 2014, I predicted the 30-year Treasury yield would drop below 3%.  Later in the year I predicted it would “drop below 2.5%, possibly even trading below 2.0%” (“a one-handle”).   I have been writing recently that I believe that the 30-year Treasury will take another run at sub-2.5% (and possibly sub-2.0%).

Is it possible that global indebtedness has reached its practical limit?  New issuance concessions are growing. The three decade era of credit expansion might be coming to an end.  Vast quantities of accumulated indebtedness means future economic growth will face a formidable headwind.  With interest rates at zero and balances sheets bloated, central banks’ desire to pursue ‘growth-at-any-cost’ may no longer be possible.

Excessive monetary accommodation over the past seven years was the primary tool used to deal with the excessive debt levels which characterized the 2008 crisis. The idea was to expand aggregate demand (GDP) such that revenues would grow enough to pay down the debt.  Unfortunately, the amount of economic growth expected to be generated from easy policies fell short of expectations.

The convenient excuse for the large shortfall in economic growth calculations is to say that the crisis was deeper and longer-lasting than anyone anticipated.  An equally plausible explanation mentioned by FOMC members is that the consequences of the experimental measures of pushing interest rates down to zero and buying $4 trillion of assets are poorly understood.

Here we are today with the large debt levels that characterized the 2008 crisis having not decreased (actually, aggregate indebtedness is far larger). Unfortunately, policy officials today have fewer and less effective tools to deploy if necessary, which means greater ‘left-tail’ skew for ‘risk assets’.

Some argue that things would have been worse without the Fed’s bold policy maneuvers.  This may be true, but such a comment is too counter-factual to have much substance.  As I have argued before, the long-run costs could easily be much greater than today’s benefits.  This possibility will constitute a key discussion point at the September FOMC meeting as they debate hiking rates for the first time in nine years.  Little information can be gleaned from today’s Minutes about what it intends to do four weeks from now.

The search for yield has allowed many ‘junk’ firms (even insolvent firms) to refinance debt, thus putting off default (at least temporarily). Greater levels of debt will need to be refinanced in future years, hence, defaults are likely to rise.  (Hence, investors should make a distinction between credit risk and Treasury risk.)

When insolvent firms were propped up through the ability to refinance, some competitor companies chose to defer capital investment. Propping up insolvent businesses has negative implications for the broader economy.  It destroys jobs in the long run. It is through creative destruction that new and better companies emerge and sparks hiring into better quality employment.

The future would look considerably rosier if the accumulated debt were being invested in the future, i.e., infrastructure, research and development, fixed capital investment, or education and training.  It is impossible for any economy to sustain credit-based consumption and debt-fueled speculation.  On numerous occasions, I have outlined this dangerous ‘use-of-funds’ dynamic.  It is the heart of what I have labeled in prior notes as the Fed’s “Time Inconsistency” challenge.

 Market pundits robotically suggest that the Fed should not raise rates because inflation is too low.  Well, if zero rates and $4 trillion in asset purchases did not boost inflation, do they really believe that another few months at zero rates will do the trick?  Some Fed researchers are actually asking whether policies have become counter-productive to their dual mandates.  (Please see link to St Louis Fed research paper:  https://research.stlouisfed.org/wp/2015/2015-015.pdf).

The path to rate normalization will not come without pain. On the contrary, there will be a difficult period, potentially even a damaging recession.  Fed doves will likely feel vindicated.  However, while a period of hardship is likely inevitable, purging both bad businesses and market speculation is vital for long-run economic health and will allow more productive businesses to evolve over time.

Fed policy aggression was partly due to the fact that they were “the only game in town”.  Should a mini-crisis unfold during monetary policy normalization, the political polarization (potentially enabled by Fed policy) could temporarily end.   After all, things only seem to get done by legislators in response to a crisis.  As reported daily in the news, ‘Americans are fed-up with our do-nothing elected officials in Washington’.  This is the reason many cite for the prodigious support of the Washington-outsider candidates, far-left Sanders and far-right Trump.

“Hard work pays off in the future. Laziness pays off now.” – Steven Wright

 

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Wed, 08/19/2015 - 15:46 | 6444847 JustObserving
JustObserving's picture

There is no path to normalization which does not involve a bankruptcy by the US and the collapse of the dollar.  US real debt is over $210 trillion. Or over $1.720,000 per taxpayer.

No rate normalization during my lifetime Bernanke

 

Wed, 08/19/2015 - 15:48 | 6444852 Creepy A. Cracker
Creepy A. Cracker's picture

"Rate Normalization"

Lets say 5%.  5% on the current $20 TRILLION debt is about $1 TRILLION per year - one fourth of the federal budget.

The only way out - which we are currenl;ty doing - is to devalue the debt as well as obligations and your income.  We are all poor becasue of irresponsible government spending.

 

Wed, 08/19/2015 - 15:52 | 6444880 Santini Air
Santini Air's picture

The funny thing about sites like Zerohedge... you can get 1,000 dumbasses all convincing one another of their brilliance!

Wed, 08/19/2015 - 15:54 | 6444883 Headbanger
Headbanger's picture

fUCK OFF.

Wed, 08/19/2015 - 16:30 | 6445039 Santini Air
Santini Air's picture

 

 

Tehy see me trollin'

Dey hate me

Be minin' dirty...

Wed, 08/19/2015 - 17:37 | 6445212 SeanJKerrigan
SeanJKerrigan's picture

Here are some Quotes to Consider During Times of Financial Instability:

"All of humanity’s problems stem from man’s inability to sit quietly in a room alone." —Blaise Pascal

"The conspiracy is not that they're going to kill us all - the conspiracy is to make us imagine that we are immortal." - Skip Mendler

“My life might be little and boring, but at least it’s mine - not some assembly-line, secondhand, hand-me-down life.” - Chuck Palahniuk

"We are all of us growing volcanoes that approach the hour of their eruption; but how near or distant that is nobody knows—not even God." - Friedrich Neitzsche

I hope no one minds a little self promotion. Here's my latest on Trump, Demagogues and Nihilism, which you may enjoy. Thanks for reading.

Wed, 08/19/2015 - 15:55 | 6444893 pods
pods's picture

Blow me foney, I don't need anyone to pat me on the back.

I am flexible enough to do it myself!

pods

Wed, 08/19/2015 - 15:56 | 6444900 TuPhat
TuPhat's picture

You have me convinced that you are a ZHer, Satani air, I see your posts more than any one else.  And by the way, what language do you speak fluently.  I know it isn't english.  Foriegners always have trouble with a 'th' sound and you can't spell 'the', it's always 'teh'.  Or maybe your brilliance just isn't educated.

Wed, 08/19/2015 - 16:03 | 6444927 pods
pods's picture

Just wait till he starts writing in the third person...............

Wed, 08/19/2015 - 16:05 | 6444934 El Vaquero
El Vaquero's picture

<fonestarHat>

 

Fonestar doesn't know what to do when the electricity is out.

 

</fonestarHat>

Wed, 08/19/2015 - 16:26 | 6445019 Santini Air
Santini Air's picture

solar powered mining....

Wed, 08/19/2015 - 16:34 | 6445051 El Vaquero
El Vaquero's picture

How much oil was burned mining the materials used in those solar panels?  How much coal was burned turning those raw materials into a solar panel?  Same questions for the batteries used to make the power non intermittent?  How long does all of that last?  (Hint:  Not forever.)

Wed, 08/19/2015 - 16:05 | 6444937 negative rates
negative rates's picture

Red eyes at mornin, SAILOR, take warning!

Wed, 08/19/2015 - 18:41 | 6445348 daveO
daveO's picture

Peak debt hit around 2000. That's when the interest rate turned down for good. Now, it bail-ins for everyone!

Wed, 08/19/2015 - 15:54 | 6444870 Creepy A. Cracker
Creepy A. Cracker's picture

Down votes?  OK.. There are some Dear Leader Obama ball lickers on ZH who LOVE irresponsible government spending and the population being poor.  Fair enough.

Wed, 08/19/2015 - 15:55 | 6444892 El Vaquero
El Vaquero's picture

I, for one, am not licking any Obungholes or Oballs.  Unless this shitshow comes apart in the next year, give or take, the national debt will hit $20 trillion and 5% interest on that will be $1 trillion per year.  Anybody who downvotes me not only sucks at math, but they suck on assholes too.

Wed, 08/19/2015 - 15:58 | 6444909 TuPhat
TuPhat's picture

What wet dream gives you the 5% interest number?  Everyone else is talking .25 to .5%.

Wed, 08/19/2015 - 16:00 | 6444915 El Vaquero
El Vaquero's picture

Uh, 5% would be a "normal" interest rate, except for the new normal that we're currently experiencing. 

Wed, 08/19/2015 - 16:01 | 6444923 TuPhat
TuPhat's picture

I agree with that but we are many years away from normal.  And, you are right, we won't last that long.

Wed, 08/19/2015 - 16:52 | 6445102 divingengineer
divingengineer's picture

Incorrect, they can inflate the problem away.

Wildly unpopular, buy hey, THEY ARE NOT ELECTED!!!!!

At one point an egg cost $50 Billion in Zimbabwe.  

That $210 Trillion wouldn't be squat then, would it?

Wed, 08/19/2015 - 18:46 | 6445357 daveO
daveO's picture

I think that's why TPTB are pushing Trump from the shadows. Import tariffs would jack up prices, import a few jobs and hurt China, simultaneously. Blocking the border, would force employers to hire more expensive Americans, too. Trump can be blamed for it, instead of the FED.

Wed, 08/19/2015 - 16:11 | 6444954 Usurious
Usurious's picture

''The truth is that they can set the price of debt as they see fit.  The real world cannot cause the growth that is interest owed on today.''

trav7777

Wed, 08/19/2015 - 16:35 | 6445016 Usurious
Usurious's picture

 

trav7777

''The system is the master; all must serve it.  Credit must grow or else SHTF.  I told Douchinger too; if you do not borrow, they will borrow on your behalf.''

http://www.zerohedge.com/article/household-net-worth-plunges-most-q4-2008-government-borrowing-surges#comment-588917

 

Wed, 08/19/2015 - 16:01 | 6444919 pods
pods's picture

Well, I am good at math, and will not comment on the second.  Tossed Salad FTW. Oops, guess I did.

The title of this pieces says it all. If rates normalize, a lot of pain will ensue.
So that means rates won't normalize.  

We will just have an implosion.

Rod of God is math, and the system they run now won't stand up to the God Rod.

pods 

Wed, 08/19/2015 - 16:06 | 6444942 El Vaquero
El Vaquero's picture

Sooooo...

 

You're saying that a giant God Rod is going to come down and shaft the Fed and the rest of us?

 

Damned math.

Wed, 08/19/2015 - 16:10 | 6444951 pods
pods's picture

Yeah, I think so. Only it won't be an explosion, it will be an implosion.

Unless we get a double whammy of deflationary implosion to seize things up, and then raw money printing (print and hand out, not lend).

pods

Wed, 08/19/2015 - 17:33 | 6445204 RaceToTheBottom
RaceToTheBottom's picture

You will be alright if you wear a spaghetti colander on your head.

 

Wed, 08/19/2015 - 21:08 | 6445734 Sages wife
Sages wife's picture

Just not when you're golfing.

Wed, 08/19/2015 - 16:08 | 6444944 Raging Debate
Raging Debate's picture

The 'Rod of God' is a sattelite weapon that propels a large metallic rod onto its target. The speed of the sattelite and heating of the rod by the earths atmosphere makes this a pretty deadly weapon. This is public info man.

Wed, 08/19/2015 - 16:12 | 6444957 pods
pods's picture

<facepalm>

Why is it I can not write in metaphor?

pods

Wed, 08/19/2015 - 16:15 | 6444972 El Vaquero
El Vaquero's picture

Because anal sex is wrong, especially when it is perpitrated by God and his Rod on Yellen.  That is why you cannot write in metaphor. 

Wed, 08/19/2015 - 18:55 | 6445371 Implied Violins
Implied Violins's picture

Um, I don't see that font available anywhere, and Google shows no cities by that name either.

/literal

Wed, 08/19/2015 - 18:41 | 6445347 TeethVillage88s
TeethVillage88s's picture

Looks like another Banner year for Federal Spending.

Centers for Medicare and Medicaid Services:
2015, July Total Grants to States for Medicaid = $296 Billion (which is higher than 2014)
2008, Year Total Grants to States for Medicaid = $201 Billion
2015, July Total Payments to Health Care Trust Funds = $239 Billion (which is higher than 2014)
2008, Year Total Payments to Health Care Trust Funds = $193 Billion
2015, July Total State Grants and Demonstrations = $478 Million (which is higher than 2014)
2009, Year Total State Grants and Demonstrations = $498 Million

So we have Medicare Tax and Medicare Spending
But also we kept high levels of Medicaid Spending
And now have high levels of Obama Care Added on Top.

2015, July Total Centers for Medicare and Medicaid Services = $1.097 Trillion
2008, Year Total Centers for Medicare and Medicaid Services = $863 Billion
2002, Year Total Centers for Medicare and Medicaid Services = $499 Billion
1998, Year Total Centers for Medicare and Medicaid Services = $380 Billion

Medicare Prescription Drugs:
2015, July Total Medicare Drug Benefit Payments = $62 Billion (Which is higher than 2014)
2008 Year Total Medicare Drug Benefit Payments = $44 Billion

2015, July Total VA Medical Care = $42 Billion
2008, Year Total VA Medical Care = $34 Billion
2005, Year Total VA Medical Care = $26 Billion
2002, Year Total VA Medical Care = $23 Billion
1998, Year Total VA Medical Care = $17 Billion

Social Security Administration:

2015 Federal Disability Insur Benefit Payments = $119 Billion
2008 Federal Disability Insur Benefit Payments = $104 Billion
2005 Federal Disability Insur Benefit Payments = $84 Billion
2002 Federal Disability Insur Benefit Payments = $64 Billion
1998 Federal Disability Insur Benefit Payments = $48 Billion

Wed, 08/19/2015 - 17:20 | 6445179 OzFan
OzFan's picture

x2 @ JustObserving.

 

We're coming to the end of a 100 yr fiat central bank, 60 yr credit fuelled growth experiment, where rigged markets and a lack of rule  of law are all that's left, the last phase of a dying US empire if you like, about to crash and burn, and this article thinks that normal business cycles apply....like a nice little free market purge with some cute pain is next. 

Idiot article....really idiot....most likely written by some ABC media approved keynesian getting all ZH on us.

 

Wed, 08/19/2015 - 15:47 | 6444853 El Vaquero
El Vaquero's picture

"Is it possible that global indebtedness has reached its practical limit? "

 

It did so a long time ago.  It is now going to test its impractical limits via fraud.  I'll take on a loan, so long as the lender pays me to do so.  P + I is my bottom price.

Wed, 08/19/2015 - 15:48 | 6444854 KnuckleDragger-X
KnuckleDragger-X's picture

I've never liked long bonds and there's even less reason to like them now, but Treasury's are 'safe'.....

Wed, 08/19/2015 - 15:48 | 6444859 aliki
aliki's picture

funny how jack bouroudian said the fed should take a "victory lap". echos what paul mcculley said a few weeks ago on the cartoon channel. funnier thing is these clowns think this fight is over. its not. far from it and actually IMO the fed should just tap-out. its the only way to prevent your arm from being broken when your opponent has you in an arm-bar. the fed won't do this tho, like any egotistical fighter who is in a bad position. too much pride. they'd rather have their arm completely shattered than admit fault & live to fight another day.

Wed, 08/19/2015 - 15:50 | 6444867 El Vaquero
El Vaquero's picture

Good.  Fuck the Fed.  I hope the other fighter shatters its skull into a million pieces after it's done with the arm.

Wed, 08/19/2015 - 16:52 | 6445103 Berspankme
Berspankme's picture

Hope he kills Bernanke piece by piece

Wed, 08/19/2015 - 15:49 | 6444861 Hype Alert
Hype Alert's picture

Countries would never borrow so much money if they thought they would actually have to pay it back.  That alone should worry the hell out of people.

Wed, 08/19/2015 - 15:51 | 6444877 El Vaquero
El Vaquero's picture

Start bringing up facts and figures, and a lot of poeple will revert to "But government budgets aren't like household budgets, therefore we shouldn't worry." 

Wed, 08/19/2015 - 15:55 | 6444895 Hype Alert
Hype Alert's picture

Krugman and Stiglitz?  I guess they'll be around until the fighting starts.

 

But sure, households can't print, and there's a reason they can't. 

Wed, 08/19/2015 - 15:57 | 6444904 El Vaquero
El Vaquero's picture

But they can print.  Every time a household takes out a loan, they're creating more credit.

Wed, 08/19/2015 - 16:51 | 6445098 Berspankme
Berspankme's picture

I heard a worthless money manager cunt named Bob Brinker say on the radio that bonds are not meant to be paid back, only to service the interest. I swear to god, he said that and I almost ran off the road

Wed, 08/19/2015 - 15:50 | 6444868 Bill of Rights
Bill of Rights's picture

" That giant sucking sound "

Wed, 08/19/2015 - 15:51 | 6444871 kchrisc
kchrisc's picture

"The Path To Rate Normalization Will Not Come Without Pain"

I love the Orwellian NewSpeak here.

"Printing" and interest rate manipulation are schemes of grift, fraud, THEFT. It is not "normal."

Zion is a scheme, not an ethnicity.

 

The pain will be delivered by the guillotines to those involved in the grift.

Wed, 08/19/2015 - 15:55 | 6444888 csmith
csmith's picture

"The future would look considerably rosier if the accumulated debt were being invested in the future, i.e.,...education and training."

 

I call BS on this one. How many $ billions have millenials "invested" in nearly-worthless college degrees, including graduate degrees, over the past 10 years, only to end up $100K or $200K in debt? 

How many millions of these bad loans will the Fed end up buying, just like the bad mortgages from 2008?

Wed, 08/19/2015 - 16:48 | 6445087 Berspankme
Berspankme's picture

it hasn't been education for a long time. Try indoctrination

Wed, 08/19/2015 - 16:01 | 6444921 liquid150
liquid150's picture

That moment when you realize there are writers for ZeroHedge that don't understand what "normalization" means in the context of the market economy...

Wed, 08/19/2015 - 16:01 | 6444922 I Write Code
I Write Code's picture

>Well, if zero rates and $4 trillion in asset purchases
>did not boost inflation, do they really believe that
>another few months at zero rates will do the trick?

Exactamundo.

>Is it possible that global indebtedness has reached its practical limit?

Well, if that's the case, the Fed will just have to cancel part of its indebtedness.  Only wait, they can't can they, it will have to be Treasury that cancels a few trillion dollars worth of its bonds, with the Fed's blessing.

This is the old, "We owe it to ourselves" theory, beloved of crackpots for generations, and now it's all going to come true.  Exciting, isn't it?

Wed, 08/19/2015 - 16:04 | 6444930 Raging Debate
Raging Debate's picture

The headline says it all. This author from Scotia Bank also suggested macro economic policy. In other words, targeted stimulus which is what should have happened in 2008. Instead it was more capital flight with continued inbalanced trade policy, the discount window helping IB's dump funds into oil causing further economic damage and bailing out states entitlement/pension programs, oh yeah forget a biggie, IB bank and corporate behemoths like GE getting bailed out for bad, overeleveraged positions making them whole.

All the wrong decisions for the nation but such were awsome for a very, very few. Way too much lobbying going on, it must be made illegal if we want a real Republic.

Wed, 08/19/2015 - 16:04 | 6444933 Consuelo
Consuelo's picture

 

 

"The path to rate normalization will not come without pain. On the contrary, there will be a difficult period, potentially even a damaging recession.  Fed doves will likely feel vindicated.  However, while a period of hardship is likely inevitable, purging both bad businesses and market speculation is vital for long-run economic health and will allow more productive businesses to evolve over time."

 

This is the kind of rhetoric that comes from someone who, while 'in the game', is completely 'out of touch'...   In short: It's O-V-E-R, Mr. Haselmann - you just don't know it yet, because a big ship takes on a lot of water before it sinks...

Wed, 08/19/2015 - 16:09 | 6444948 orez65
orez65's picture

"... there will be a difficult period ..."

No fu.king shit!!!

As in the bond bubble bursting!

Thank you for the warning Captian Obvious.

Wed, 08/19/2015 - 16:11 | 6444953 Getting Old Sucks
Getting Old Sucks's picture

Good read.

Wed, 08/19/2015 - 19:22 | 6445425 Farmer Joe in B...
Farmer Joe in Brooklyn's picture

\sarc

Wed, 08/19/2015 - 16:18 | 6444986 coast
coast's picture

So, basically, we are screwed no matter what happens...we are already screwed and a decision hasnt been made yet...

 Off topic:  I wonder about countries like Greece and Cypress...the people in those countries who held gold, where could they sell it?  Another country? That cant get money from banks so who has the cash to buy it?   If the U.S. goes thru something like that who ya gonna sell your gold to?  Canada?  Mexico?  They wont have any money either...This may be a dumb question, it was just a thought.

Wed, 08/19/2015 - 16:25 | 6445015 ToSoft4Truth
ToSoft4Truth's picture

Watch the flick, “Walking Dead”.

Gold won’t be a good thing to have right away.  Nerve and a weapon will take you further.  The dust will need to settle.
 

Wed, 08/19/2015 - 16:44 | 6445075 coast
coast's picture

thx tosoft...actually, what got me thinking about it was i watched the old mad max movie last night....lol...thx...seems like weapons, food, gas, and a 4x4 were the most important.  :-)

Wed, 08/19/2015 - 16:20 | 6444990 Chuck Knoblauch
Chuck Knoblauch's picture

Captain Freedom's workout will save us.

https://www.youtube.com/watch?v=LazUZz3K6IY

Bitcoin will rescue us.

Wed, 08/19/2015 - 16:23 | 6445009 large_wooden_badger
large_wooden_badger's picture

"Normalization", it's the new "relative".

Wed, 08/19/2015 - 16:32 | 6445042 Chuck Knoblauch
Chuck Knoblauch's picture

Russia made its move.

Now its China's turn.

Wed, 08/19/2015 - 16:44 | 6445077 MASTER OF UNIVERSE
MASTER OF UNIVERSE's picture

The 'path to rate normalization <sic>' is the same path that one takes that is always viewed as the one with the best of intentions, I guess. Rate normalization was not a course in Ecnomics that I attended, thank God.

 

 

Wed, 08/19/2015 - 17:42 | 6445220 Marco
Marco's picture

There is too much debt and consequently too much wealth imbalance (the former results in the latter, but the latter can exist without the former, ie. neo-feudaism). Combined with "too" entitled a population recession can not right this boat, and I'm not talking about the people on wellfare here, the working class people won't accept a crash in living standards to third world levels to make growth possible. Fascism or communism would take over politics long before that process plays out.

Wed, 08/19/2015 - 19:03 | 6445385 daveO
daveO's picture

Fascism or communism would take over politics long before that process plays out.

^ You are here.^

Wed, 08/19/2015 - 18:37 | 6445341 22winmag
22winmag's picture

Normalization?

 

Oh, that's funny.

 

In fact, it's a real knee slapper.

Thu, 08/20/2015 - 09:33 | 6446800 Herdee
Herdee's picture

If you look at a graph of the 3 month Libor rate,just compare it with some futures curves.It says liftoff is going to happen very soon.

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