Free Money

The Status Quo won--no surprise there, as there was no other choice offered. The Imperial Presidency won, too, of course; anyone anywhere can still be assassinated by order of the Imperial President, regardless of their citizenship. Anyone can be labeled "an enemy of the State" and either liquidated (high fives all around!) or crushed by the Espionage Act (transparency is a crime), Patriot Act (dissent is also criminal), the NDAA, or maybe another Executive Order. The neofeudal Aristocracy also won, as vested interests were free to buy "free speech" in unlimited quantities. That means the bag of tricks to "save us from recession" is finally empty. The next recession will sink its teeth into the Savior State and all the protected fiefdoms and cartels with a vengeance built up by four years of "extend and pretend." The failure of "extend and pretend" and the Status Quo that sold it as the "fix" opens up the possibility that crisis will lead to real reform, the kind that requires a Constitutional Convention.

"Obama/Romney, Romney/Obama – the most important election of our lifetime? Fact is they’re all the same – bought and paid for with the same money. Ours is a country of the SuperPAC, by the SuperPAC, and for the SuperPAC. The “people” are merely election-day pawns, pulling a Democratic or Republican lever that will deliver the same results every four years. “Change you can believe in?” I bought that one hook, line and sinker in 2008 during the last vestige of my disappearing middle age optimism. We got a more intelligent President, but we hardly got change. Healthcare dominated by corporate interests – what’s new? Financial regulation dominated by Wall Street – what’s new? Continuing pointless foreign wars – what’s new? I’ll tell you what isn’t new. Our two-party system continues to play ping pong with the American people, and the electorate is that white little ball going back and forth over the net. This side’s better – no, that one looks best. Elephants/Donkeys, Donkeys/Elephants. Perhaps the most farcical aspect of it all is that the choice between the two seems to occupy most of our time. Instead of digging in and digging out of this mess on a community level, we sit in front of our flat screens and watch endless debates about red and blue state theologies or listen to demagogues like Rush Limbaugh or his ex-cable counterpart Keith Olbermann."

Legendary oilman T. Boone Pickens famously calls America’s oil imports ‘the greatest transfer of wealth in the history of the world.’ Pickens is referring to the money that is paid each year to oil exporting nations, particularly those in the Persian Gulf which raked in around $100 billion last year. No doubt, this is an enormous transfer of wealth. But it’s a drop in the bucket compared to the TRILLIONS that Ben Bernanke gives the world’s elite. It constitutes, by far, the greatest transfer of wealth in history, vastly exceeding America’s energy imports. It’s an unconscionable, immoral, ridiculous game. But there’s good news– we can stop playing whenever we want. We don’t HAVE to hold their worthless currency. We don’t HAVE to keep transferring our purchasing power to an elite group. We can “opt-out”. Trade as much of their paper as you can for something REAL, especially physical precious metals.

Each and every day, a veritable smorgasbord of CEOs are trotted out before our very eyes to spew forth their company's vision and how it's all looking so rosy. Of course we hang on every word as gospel and react accordingly. Similarly, a rise in consumer sentiment is more ammunition for bulls to argue that animal spirits are here and we can go back to the old re-leveraging ways of spending-more-than-we-have (or ever will have). There's only one problem - when push comes to shove and real capital has to be put to work, its not happening! Expectations for capital expenditure (investment in growth and maintenance) has plunged in the last few months, while at the same time, consumer sentiment has surged (no doubt led by an ebullient equity market and inherent recency bias). As we wrote previously, in an environment of soaring liquidity and free money, the hurdle rate on new investments collapses, as does the requirement to invest in CapEx, both growth and maintenance. In fact, as we have shown over the past year, the age of the global asset base has hit a record high across the world, both in the developed and developing countries, leading to record low return on assets on record low assets (and record debt encumbrance, but that's a different story). And since companies are forced to dividend cash to shareholders at a record pace (in lieu of fixed income in a ZIRP environment), there is less and less cash left to support CapEx spending (or hiring!).

Those holding their breath that the PBOC will finally relent and join its "developed world" central planning colleagues in easing - something the tech companies of the world, not to mention everyone else, desperately needs - will have to do so for quite a bit longer (and today's earlier latest reverse repo was merely confirmation of this). The reason is that the just released HSBC Flash PMI for October, the first preliminary snapshot of Chinese data, posted a material rise from 47.9 to 49.1. Yes, this was the 12th consecutive print in sub-50 contraction territory in a row, but the direction is one which may give the economy and the people hope that things are getting better. They most certainly are not, but remember: in China every data point is massaged, manipulated, and then massaged some more before it is finally telegraphed to represent only what the Politburo wants it to say. And as a reminder, China, like the US, has elections (in quotes of course) in two weeks. As such neither the economy will tip the boat, nor the PBOC will drive more inflation at a time when everyone else is already easing. In other words: goldilocks goalseeked data... which for the monetarists was the worst possible outcome, as it means no new and free money.

Over the weekend there appears to have been more confusion about pretty much everything finance related by aspiring CTRL-V majors-cum-'market experts.' In this specific case, the correlation between the soaring US deficit is magically supposed to imply the causation of surging corporate profits. Standalone this would be wonderful, because in a socialist utopia thought experiment, where one could hit infinite deficits funded by some magic MMT money tree, corporation would make, well, an infinite amount of profits, and would be an incentive for the government to spend itself to oblivion. And everyone would be happy right: infinite corporate profits means at least some trickle down wealth, and infinity even minus a big number is still infinity, meaning full employment for everyone. Hence utopia. Idiocy of this conclusion aside, the bigger problem with making the biggest rookie mistake in finance (and statistics), namely confusing correlation with causation, is that it is, as usual, 100% wrong when presented with one counterfactual. And when it comes to counterfactuals of soaring deficits, one always goes to the place that has "been there and done all of that" before. Japan.

So far the Fed's 4 year old QEasing strategy has failed for the simple reason that the smart money instead of being "herded", has far more simply decided to just front-run the Fed thus generating risk-free returns, while the "dumb money", tired of the HFT and Fed-manipulated, and utterly broken casino market, has simply allocated residual capital either into deposits (M2 just hit a new all time record of $10.2 trillion) or into "return of capital" products such as taxable and non-taxable bonds. Alas none of the above means that the Fed will ever stop from the "strategy" it undertook nearly 4 years ago to the day with QE1. Instead, it will continue doing more of the same until the bitter end. But how much more is there? To answer this question, below we present the entire universe of marketable US debt, in one simple chart showing the average yield by product type on the Y-axis, and the total debt notional on the X.

Playing in the market, with Phil. 

The usual definition of a recession is GDP goes negative. But this isn't necessarily true. Notice that GDP never went below the zero line in the 2001 recession. Dipping close to zero was good enough. The more interesting line is our composite of economic activity. We can pose the "recession" question in this way: if real investment, net earnings after debt service and M2 money are all puking, how can the economy be "growing slowly but steadily"?

As we all know, what matters isn't our nominal earnings, it's what our earnings can buy that counts. If it takes an hour of labor to buy four gallons of gasoline, it doesn't really matter if we're paid $1.60 an hour and gasoline costs 40 cents a gallon or we're paid $16 an hour and gasoline costs $4 per gallon. Ditto $16,000 an hour and $4,000 per gallon. What matters is if our hourly wage once bought eight gallons of gasoline and now it buys only four gallons. This is called purchasing power, and rather naturally the Status Quo has worked mightily to cloak the reality that our purchasing power of the bottom 95% of wage earners has been declining for decades. Until oil no longer matters, our real earnings and our economy remain hostages to the cost of oil.

The essence of money-laundering is that fraudulent or illegally derived assets and income are recycled into legitimate enterprises. That is the entire Federal Reserve project in a nutshell. Dodgy mortgages, phantom claims and phantom assets, are recycled via Fed purchase and "retired" to its opaque balance sheet. In exchange, the Fed gives cash to the owners of the phantom assets, cash which is fundamentally a claim on the future earnings and productivity of American citizens. Some might argue that the global drug mafia are the largest money-launderers in the world, and this might be correct. But $1.1 trillion is seriously monumental laundering, and now the Fed will be laundering another $480 billion a year in perpetuity, until it has laundered the entire portfolio of phantom mortgages and claims. The rule of law is dead in the U.S. It "cost too much" to the financial sector that rules the State, the Central Bank and thus the nation. Once the Fed has laundered all the phantom assets into cash assets and driven wages down another notch, then the process of transforming a nation of owners into a nation of serfs can be completed.

Here's the Fed's policy in plain English: Debt-serfdom is good because it enriches the banks. All hail debt-serfdom, our goal and our god!

The policy of the Status Quo since 2008 boils down to this assumption: if we prop up an artificial economy long enough, it will magically become real. This is an extraordinary assumption: that the process of artifice will result in artifice becoming real. This is the equivalent of a dysfunctional family presenting an artificial facade of happiness to the external world and expecting that fraud to conjure up real happiness. We all know it doesn't work that way; rather, the dysfunctional family that expends its resources supporting a phony facade is living a lie that only increases its instability. The U.S. economy is riddled with artifice: millions of people who recently generated income from their labor have gamed the system and are now "disabled for life." Millions more are living in a bank-enabled fantasy of free housing. Millions more are living off borrowed money: student loans, money the government has borrowed and dispensed as transfer payments, etc. Assets are artificially propped up lest a banking sector with insufficient collateral be revealed as structurally insolvent. It's not difficult to predict an eventual spike of instability in such a system; the only difficulty is predicting the date of the instability. Hiding a broken, dysfunctional economy behind a facade of artifice and illusion can't fix what's broken, it only adds to the system's systemic instability as resources that could have gone to actually fix things are squandered on propping up phony facades of "growth" and "health."

If there is one dominant consensus in the financial sphere, it is that the Federal Reserve's $85 billion/month bond-and-mortgage-buying "quantitative easing" will inevitably send stocks higher. The general idea is that the Fed buys the mortgage-backed securities (MBS) and Treasury bonds from the banks, which turn around and dump the cash into "risk on" assets like equities (stocks). This consensus can be summarized in the time-worn phrase, "Don't fight the Fed." This near-universal confidence in a QE-goosed stock market is reflected in the low level of volatility (the VIX) and other signs of complacency such as relatively few buyers of put options, which are viewed as "insurance" against a decline in stocks. The usual sentiment readings are bullish as well.

But what if QE fails to send stocks higher? Is such a thing even possible? Yes, it does seem "impossible" in a market as rigged and centrally managed as this one, but there are a handful of reasons why QE might not unleash a flood of cash into "risk on" assets every month from now until Doomsday

Let’s review the tricks the central banks & governments have available to beat back any financial challenges presented by the debt reaper.

• Money tool # 1 = deficit spending. For years, the G7 countries have believed that spending more than you make, will create jobs and prosperity. To measure the success of this strategy, we invite you to hang out in Spain, Greece or Italy.
• Money tool # 2 = cut interest rates to 0%. All the really smart people in the World know that lower interest rates encourage people and companies to borrow more money and spend this money. To measure the success of this strategy, we invite you to hang out at the US Federal Reserve and help them count the $1.5 trillion in excess money held by the big banks.
• Money tool # 3 = when all else fails print money. Everyone knows by now the reason the Great Depression was great was because no one had the idea to print money to kick start the economy. To measure the success of this strategy, we definitely do not invite you to visit Japan. The Japanese have been printing money for over 10 years and that hasn’t shaken their economy from its funk one bit.

As we enter the always dangerous months of September and October, central bankers and governments just can’t get their heads around the fact that their cherished money tools are not shaking the World. Never one to quit, someone somewhere muttered “we must do something” – and something they did.

The unleashing of QE3--unlimited money-printing in support of the financial Status Quo-- is proof the Fed has failed, failed, failed. If anything the Fed has done in the past four years had actually had a positive consequence in the real economy, Bernanke would have identifed that policy and expanded it in a measured response. Instead he went all-in, emptying the Fed's toolbox in one big dump: unlimited money-printing, unlimited propping of the mortgage market, unlimited support of low Treasury rates and three more years of zero-interest rate policy (ZIRP). Here is the translation of the Fed Chairman's public comments: whatever. Did you see any of his testimony? It was painfully obvious that either 1) he was sky-high on Ibogaine or 2) he was just going through the motions, duly enunciating PR "cover" that he finds tiresome to repeat and impossible to say with any sincerity or conviction. His body language and delivery said: "You think I believe this canned shuck and jive? Get real, chumps."