Lashed To The Zero Bound - The Fed's Ship Of Fools

Submitted by David Stockman via Contra Corner blog,

If you don’t think financial markets have been utterly destroyed by central bank intrusion then how can you explain Friday’s 460 Dow point reversal higher after the post-NFP low?  It was pure machine rage triggered by another implied “lower for longer” Fed policy signal.

While I think the BLS establishment survey isn’t worth the paper it’s manipulated on, it did take a drastic turn for the worse. So doing, it thereby monkey-hammered the recovery narrative of the Keynesian chorus on Wall Street and at the Fed.

In fact, the alleged 245,000 monthly rate of job gains registered during the year through July was about the only fig leaf of proof they have been able to offer as to why “escape velocity” was finally at hand; and why household consumption would soon accelerate, thereby powering up a new leg of recovery.

Well, that meme was shot dead by the September report including the sharp downward revisions to prior month. The average gain for August/September was 139,000. That is, until the BLS revises it all away, the last two-months rate of jobs gain has averaged 42% lower than prior trend!

And by your way, the BLS has already announced its benchmark revision expectation for February, and its a 200,000 downward adjustment to the levels reported Friday.

Even then, we are mainly talking about waiters, bartenders, sales clerks, home health aides and temp agency gigs. But since these BLS paint-by-the-numbers results are used by the monetary politburo to navigate, the fast money was not confused as to the September report’s implication. They hit the “buy, buy, buy” button so hard and fast that even Cramer would have been proud.

That’s why the stock market can only be described as a dangerous casino which is untethered to the real main street economy. Friday’s report was about as clear an economic warning signal as you could want. So, in effect, the casino was buying hand-over-fist right into the teeth of the next recession on the conviction that the ship of fools running the Fed will delay “liftoff” yet again.

Indeed, the money market is already pricing out any chance of a rate increase in October and December, and doesn’t reflect even a 50% chance of liftoff until next March.

You could call it never and be done with it, but even that bears its own ringing absurdity. Were the Fed to defer until March, as the market it now predicting, it would mean that the money market rate would have been pinned to zero thru month #81 of this so-called recovery.

That is to say, why in the world do these blockheads think they have outlawed the business cycle when so far this century they have already produced two devastating financial meltdowns and business recessions in their aftermath?

We are already on borrowed time based on past domestic cycles, and that doesn’t even factor the huge international headwinds storming toward these shores owing to the unprecedented global deflation now underway. Indeed, to implicitly assume—as did the monetary politburo—-that this expansion could substantially outlast the 72 month-long Greenspan/housing bubble was just willful conceit. Normalization should have commenced long ago.

Historical Length of Recoveries - Click to enlarge

Historical Length of Recoveries

But now the Fed’s lunatic policies are drifting straight into the perfect storm of financial and economic conflagration. We are absolutely on a 10-20 month glide path toward recession. At the same time, however, the Fed will remain lashed to the zero bound because at each up-coming meeting until the NBER officially declares a recession has incepted there will be increasing frequency of “in-coming data” signals like the September jobs report suggesting that the economy is too weak for lift-off.

That will lead, in turn, to more bouts of indecision and more incoherent babble from the Eccles Building about why all of these headwinds are temporary or unexpected; and to a repetition of the Fed’s groundless confidence that the US economy will soon return to targeted levels of inflation and growth.

But Friday’s report put the lie to what is now self-evidently ritual incantation from the Eccles Building. If the establishment survey numbers are not reinforcing the recovery meme, pray tell what is?

The fact is, in a political economy saddled with $19 trillion of public debt, there is no possibility of escape velocity without robust growth of private business sales and a healthy balance of inventories. The public sector—-and that includes most of the giant medical care component of the services economy—— is out of the stimulus business, and properly so. Saddled as it is with the giant baby boom demographic cohort hurtling toward retirement, the US is functionally broke, anyway.

But the facts scream out that the private business sector has never really recovered and is now stalling out entirely.

To wit, total business sales growth has slowed to just 0.8% per annum for the last three years. And most recently during the year ending in July, sales actually dropped by 2.7%.

Not surprisingly, the inventory to sales ratio is heading right back into  recession warning territory. In fact, that ratio has been signalling all along that the internals of this so-called recovery are dangerously weak.

Whereas the growth of business sales—-manufacturing, wholesale and retail—-has been floundering at sub-basement levels relative to all prior cycles, corporations have been adding to inventories at a blistering pace, reflecting the bullish C-suite optimism engendered by soaring stock prices and fulsome winnings from executive options.

Specifically, whereas total US business inventories dropped by $165 billion or about 11% from November 2007 through the recessionary bottom in August 2009, they have rebounded by $500 billion or nearly 40% since then.

That amounts to a 4.4% annualized growth rate—far above the expansion rate of sales; it means that the Fed’s drastic falsification of financial prices has not only inflated the stock market, but has also induced the C-suite to inflate business inventories relative to sales like never before.

Nor can this be explained away as some short-term aberration. The fact is, the rate of nominal business sales during this entire recovery is downright punk compared to all previous cycles.

After all of its boasting about economic recovery and endless pontification about the imminent return to full employment, the monetary politburo might have at least noticed that nominal sales growth as averaged only 1.1% annually for the last 7 years.

And that’s in nominal dollars. There is no amount of deflation of the official deflators that the Washington statistical mills could undertake that would turn that hard fact into even a simulacrum of recovery.

Total Business Sales

Total Business Sales

Nor does the purported shortfall of inflation have anything to do with this cycle’s limp trend, either. During the 1990-1999 cycle, for example, the business deflator rose at a 1.8% annualized rate, meaning real business sales expanded at 3.7% per annum.  Likewise, during the Greenspan housing boom, the business deflator rose at a 2.0%, meaning that real sales expanded by 2.6% per year.

Since the pre-crisis peak in Q4 2007, by contrast, the business deflator has risen by 1.4% annually——a figure which is only slightly below the last two decades and hardly indicative of some kind of depressionary Armageddon. But it does exceed the niggardly growth rate of nominal sales since Q4 2007, meaning that business sales have actually been shrinking in real terms at 0.3% annually for nearly the last eight years. There is nothing in the modern record book that is even close to that dismal trend.

So amidst its Keynesian certitudes the monetary politburo parses every flicker of the goal-seeked establishment survey and related JOLTS report; and these reports surely are goal-seeked by their very methodological reliance on dynamic trend-adjusted projections, not honest empirical surveys of the actual jobs market.

Yet when it comes to the relatively clean data on total private business sales it has never once even mentioned this crucial data series since this so-called recovery commenced; and that is to say nothing of the fact that real business sales have been stagnant and business inventories have been rising dead-on toward a level of excess which will trigger the next recession at the next adverse jolt to the unwarranted C-suite confidence in the Fed’s ever expanding bubbles.


Likewise, these mechanical Keynesian’s have never once bothered to reflect upon the quality mix of the numbers celebrated on Jobs Friday. Yet once again, the September report was typical. It posted only 36,000 breadwinner jobs—-meaning that the total at 70.4 million is still 1.6 million jobs or 2.2% shy of where it stood in December 2007.

That’s right. When it comes to full-time, full-pay jobs in mining/energy, manufacturing, construction, trade and distribution, FIRE, the white collar professions and business management and core government services, all the jobs being reported are still “born again”. That is, jobs which were first posted in 1999-2000;, then liquidated during the 2001 recession; reborn during the Greenspan housing bubble; liquidated again during the Great Recession; and still have not yet recovered after 81 months of ZIRP and $3.5 trillion of Fed asset purchases with fiat credits snatched from thin air

And this ship of fools claims to know what it is doing!.

Breadwinner Jobs - Click to enlarge

Self-evidently, the Fed’s massive money printing and ZIRP campaign has not reflated the main street economy. What is has done is fuel massive financial bubbles such as this one in biotech that has just recently begun to roll-over.
IBB Chart

IBB data by YCharts

So what happened? Was there an earth-shaking breakthrough in biotech like penicillin or polio vaccine which suddenly catalyszed an industry sector that had been treading water for years?

No there wasn’t.  Ever since the big advances in mapping the human genome in the late 1990s, the biotech sector has flourished with scientific breakthroughs, promising clinical trials and a growing number of new treatments such a immunotherapies for certain cancers. But this wonderful stream of progress has been evolutionary and contiunuous; there has been no punctuated step-wise leap.

But something discontinuos did happen during 2012, albeit far from the white-coated labs of Celgene or Biogen. Namely, the three most important central banks in the world signaled that the post-crisis flood of money they had unleashed was not a one-time emergency measure, but would be continued for the indefinite future.

In very quick sequence, ECB head Mario Draghi issued his now famous “whatever it takes” ukase in July 2012, Ben Bernanke launched QE3 at  Jackson Hole in August, and Shinzo Abe won a sweeping victory in Japan’s December national election on the promise that the BOJ’s printing presses would be put on overdrive in order to stimulate domestic inflation and slap-down the yen.

Nowhere was this disconnect more extreme than in the biotech sector. When the IBB hit its peak of $400 on July 20, the 150 companies in the NASDAQ biotech index had a collective market cap of $1.2 trillion. By contrast, they had posted only $21 billion of trailing year earnings, implying a PE multiple of 57X.

Moreover, Gilead alone had $15 billion of LTM net income or 71% of all the profits for the entire basket of 150 companies.

And then comes the clincher. Gilead’s blockbuster hepatitis C drugs, Sovaldi and Harvoni, account for virtually all of its profits, and for reasons that are not hard to fathom. These drugs are truly miracle cures, but they often cost patients up to $1,000 per day!

So without too much exaggeration it can be said that the aggregate profits underneath the towering $1.2 trillion market cap of the biotech sector depended heavily on single blockbuster therapy for a dreaded disease that afflicts about 1% of the population.

In fact after excluding Gilead and the 24 other companies in the index that had at least a dollar of net income in the LTM period, the remaining 125 companies in the NASDAQ biotech index, which were valued at $350 billion at the July peak, posted aggregate losses of $11 billion in the most recent LTM reporting period.

The short story is simple. Not only is there a crazy valuation bubble in the biotech stock index, but it is also generating a secondary bubble in the real economy. That is, “burn rate” VC money in San Francisco, Boston, New York City and elsewhere in hot pursuit of IPO land is driven rents sky high in these precincts; generating temporary high pay jobs which will disappear as fast the man-camps in North Dakota did when the valuation bubble fully bursts; and causing a boom in new office and commercial construction which will give rise to see-through buildings and busted bonds in short order.

Yet these clowns—-typified by recent gibberish from Vice-Chairman Stanley Fischer—– still cannot recognize that as they ride the zero bound into the next recession they are only further inflating the bubble and helping to ensure that when it does burst the malinvestment and financial losses will be monumental.

But don’t take my word for it. Here’s what the man said:

Federal Reserve Vice Chairman Stanley Fischer said he doesn’t see immediate risks of financial bubbles in the U.S., while raising concerns that the central bank’s policy tool kit to deal with such occurrences is limited and untested.

U.S. Federal Reserve Vice Chairman Stanley Fischer.


“Banks are well capitalized and have sizable liquidity buffers, the housing market is not overheated and borrowing by households and businesses has only begun to pick up after years of decline or very slow growth,” the Fed’s No. 2 policy makersaid in a speech Friday in Boston.

In short, we are now in an exceedingly dangerous phase of the central bank end game. They continue to pour gasoline on the first of financial speculation, yet smugly insist all is clear.