Earlier today, we presented the latest outlook [13]by reformed bull Hugh Hendry, who had one message for his readers : "it is ironic that we are perhaps best known for advising “that you panic”. However, if you are anxious at the wrong time it can prove very painful. Today, we would advise that you don’t panic!" He said a bunch of other things too (you can read his full letter here [14]).
So lest we be accused of being overly biased to the "rose-colored glasses" side, here is the counterpoint straight from Elliott management's founder and prominent activist, Paul Singer who, contrary to Hendry, thinks panicking may not be a bad idea after all.
The Calm Before The Who Knows What
Businesspeople in today's world are either concerned, actively sweating or oblivious to the rumblings and dangers around them. We recommend that both investors and businesspeople be highly alert to the implications of populism, the increasing concentration of power into the hands of unaccountable elites and the dissipation of the rule-of-law protections of liberty.
It is very odd and dangerous that governments, satisfied with policies which, by raising asset prices (stocks, bonds, real estate, high-end art), are seemingly designed to make the rich richer, nevertheless simultaneously excoriate inequality as the cause of slow growth and societal disquiet. It is also strange that policymakers are not concerned by the obvious failure of monetary extremism to achieve the predicted levels of growth, or by the risks that may exist either in the continuation of the monetary experiment or in its ultimate unwinding. Policymakers who are sticking with the failed policy mix have invented creative explanations for why growth has been so bad for such a long a period of time. The most prevalent (and tautological) of these explanations is "secular stagnation," a theory that the developed world simply cannot grow faster due to ageing populations, growth-destructive technologies and competition from cheap labor around the world. We disagree with this theory, and assert that it can be examined for validity only after a full range of first-line "fiscal" policies (as we have defined them) has been put firmly and comprehensively in place. In contrast to the "secular stagnationistas," we believe that there is a great deal of low-hanging fruit (that is, far higher rates of growth in incomes, jobs and national wealth) to be had from simple changes in leadership and policies.
The question of the day is: What will be the policy response of the developed world toward the currently deteriorating (at least in EMs and China) conditions, and the policy response if the deterioration spreads to Europe and the U.S.? If we know anything about the policy decision-making landscape in developed countries, it is that policymakers are all on super-keen-alert for signs of deflation (which they basically equate with credit collapse — a false and misleading connection, but that is a topic for another day). They will not remain passive in the face of a renewed global recession and/or financial crisis. So what will they do next, and how will it affect global markets? We can be reasonably certain that policymakers will not leap into action on the fiscal measures that we have described as the front-line policies needed to meaningfully quicken economic growth. Try to imagine more flexible and business-friendly tax, regulatory and labor policies being enacted by current political leadership in the U.S., Europe and Japan. Sorry, our imaginations — never inert — just can't get there.
What policymakers will do, in all likelihood, is hope and pray, and when that fails, they will likely double down on monetary extremism. This landscape is essentially baked, unless you think that sometime in the near future the global economy will turn higher, either on its own or in anticipation of such policy measures in the future. To many policymakers today, jawboning seems like a magic button, since markets often create the desired result in anticipation of possible future actions. Consequently, governments may be able to get a particular outcome without requiring the central bankers to actually take any action.
But the real risk (not necessarily because it is the highest probability but because its consequences would be so damaging) is that somewhere in the action/counteraction matrix of markets, economic adversity, and monetary actions and failures, market actors lose confidence. Such a loss could take a number of shapes and disrupt a multitude of different asset classes and markets. We are aware that the "informed" opinion of the world's investors at present is that the U.S. dollar will always remain strong and never lose its special reserve currency position, thereby permitting the Fed to promulgate (at no cost) any monetary policy it deems necessary to save the U.S. economy. It is, however, not possible to predict the effects on "investor psychology" of the next set of creative and extreme monetary and fiscal policies (in this use of "fiscal," we mean raw government spending) that surely will follow the next financial crisis or global downturn. At the outer edges of the most damaging of possibilities, bond markets could collapse in a flight from paper money; stock markets could collapse from a combination of much higher interest rates and expected new rounds of populist punitive policies; commodities markets could drop further (in recession) then soar (with a flight from paper money); inflation could plunge, and then skyrocket; more governments could evolve in a Venezuelan/Argentinian model (autocratic, populist, cronyism, corrupt, irrational); and/or gold prices could spike.
Remember that we believe that doubling down on, or even expanding the scope and radicalism of, monetary policy is highly likely to be the policy response to a global downturn or financial crisis. And remember also episodes like the "taper tantrum," where bond markets around the globe instantly tried to "discount" what they saw to be a future of continuously rising interest rates. Markets generally try to discount or front-run the future. Policymakers, currently smugly asserting that "inflationistas" are "wrong" because QE and ZIRP/NIRP have not caused generalized inflation after seven years, may be surprised indeed if the next round of (possibly expanded) monetary extremism causes markets to try to get "ahead" of monetary debasement. That could look like a self-reinforcing spiral of rejection of paper money.
These thoughts and paths are suggestive. Nobody knows what such a landscape would look like in shape or detail, although the picture we want to paint is not a blueprint for disaster, but rather a suggestion of the kinds of things that could go awry given trends in modem markets, governments, policy and politics. What is clear, however, about the current environment, in which global growth is slowing, is that the policy options which governments have chosen to pursue are wrong. What will suffer as a result is growth and freedom.
Other Observations About Current Policies And Their Implications
It appears that pumping up the wealth of the affluent is the principal goal of state policy throughout the developed world. It is not a collateral consequence, but the seriously pursued aim of policymakers who often spend their time railing against wealth and the wealthy. What is the policymakers' desired result in this fetid mixture of policies and populism? If it is to restart their economies, it has failed. If it is to stir up resentment against the prosperous and enable the populists to get elected by giving benefits to those whose assets haven't been levitated, or those who have no assets, then the policy mix is diabolical.
Another implication of the current policy landscape is the dissipation of the habit and imperative of saving. A whole generation of young people has little concept of building a nest egg. It is not just government benefits that discourage this practice. It is also the absence of a reasonable rate of return. Many older people who thought saving money for their retirement was a good idea are now sorely disappointed (and poor) because they can't get a fair rate of interest on their savings. Pension funds can't meet their liabilities with zero or negative short-term interest rates and I% or 2% rates on 30-year bonds. The "bailout culture" often coincides with sustained weak growth because, among other consequences, successful companies have to compete with companies who are alive only because of cheap credit. Overcapacity and inefficient production are engendered by such policies, causing price and profit declines. Failure is an essential element of capitalism, and if failure is politically denied, the most effective, efficient and innovative solutions cannot "win" over the "living dead" who clutter markets and consumer baskets. Given the obviously deflationary effects of ZIRP and bailouts on growth, we can't imagine why American and European policymakers have effectively looked at Japanese history since 1989 and said, "We just love what they have done for 25 years of no growth! Let's do the same."
QE, ZIRP and NIRP not only distort the prices of financial assets, but also effectively bully investors into making decisions that they didn't want to make, raising their risk levels far beyond what would be considered "normal" for such instruments.
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And also making respectable, rational people capitulate and BTFD, unable to look at themselves in the mirror [13]again...
