How I learned to love lockdowns

[7 min read]

What if lockdowns are the secret to getting richer? If that’s the case, lock it down New South Wales. Lock, and grow rich!

Americans grew their wealth by US$13.5 trillion in 2020, according to data released this week from the Federal Reserve. It was the biggest increase in net worth over three decades — and during a recession. How do you explain it?

There’s a lot of free money out there driving asset prices. For example, both the S&P 500 and the Nasdaq have hit new all-time highs since I last wrote to you. The Fed’s balance sheet — which it adds to each month when it buys US$120 billion worth of Treasury notes and bonds and mortgage-backed securities — has also gone over US$8 trillion.

Liquidity and low interest rates drive stock prices higher. That’s a big component of the net worth of the top 10% wealthiest Americans. They own 89% of all the stocks and mutual funds in the US. That allows them to ‘control’ over US$41.5 trillion in wealth. The bottom 50% of the population, by comparison, has a total net worth of US$2.52 trillion.

Some of those bottom 50% spent ‘stimmy cheques’ trading stocks — what else is there to do when you’re stuck at home with nothing but an internet connection and free money? But many more got a mortgage with record-low interest rates. The median price of an existing US home rose 24% in the last 12 months, according to the National Association of Realtors.

That was the biggest year-over-year increase since 1999. Do you remember what happened then? That’s when the Nasdaq Composite — the heart of the tech sector — went up almost 86% in one calendar year. THAT was the end of an epic credit bubble. And today?

Today the bubble is in everything — stocks, bonds, even houses. That’s what makes asset allocation decisions so difficult right now. When stocks are rising 40% year-over-year, how can you afford to NOT be in stocks. Cash and bonds are losing positions when inflation is taking hold. But stocks, according to Robert Shiller’s cyclically-adjusted price-to-earnings ratio (CAPE), have only been more expensive once in the last 100 years (that was also in 1999).

The obvious question is whether central banks have any interest in tapering their monthly support for asset markets. At The Bonner-Denning Letter, we think the answer is an emphatic ‘no’. Why?

In two words: Financial repression. That’s when governments rig markets to keep official interest rates below the rate of inflation. That allows them to ‘pay off’ huge, accumulated deficits with inflation. It’s better than default or a restructuring of debt. You suppress interest rates and let inflation make your loans cheaper to pay down.

It’s called financial repression because it keeps interest rates from moving up like they naturally would. This hurts savers and anyone on a fixed income. It all pushes down interest rates in the bond market as well as pushing down dividend yields on equities. So what?

You have a binary outcome in a world of financial repression. You can go full ‘risk-on’ and buy the most aggressive growth stocks and momentum plays. As long as rates stay low and stocks keep going up, you’ll learn to love it. Or you can forego the possible gains in momentum plays and try not to lose your money in what we think will be an inevitable crash.

The trouble with a crash, as with a bolt of lightning, is that you never know when or where it’s going to strike. You CAN know the conditions are ripe for one (excessive leverage, high valuations, cyclical lows in interest rates). But how long? When? What to do in the meantime?

Maybe Australia’s best hope is for another 100 days of lockdown in a major city. People will be forced to stay at home. They may even be paid to stay at home. They can trade stocks and bid on houses. They can focus on what truly matters in an economy that’s been financialised — speculating on how to make more money without doing any work.

More seriously, Australia and New Zealand nearly broke their own arms patting themselves on the back about how well they handled COVID compared to the UK and the US (where hundreds of thousands of people died). Fair enough. Island nations that suspended travel and locked down had an option that nations with tens of millions of citizens did not (for practical as well as political culture reasons).

But while the rest of the world has seen two or three waves of COVID cases but are now leaving behind mask mandates and lockdowns, it appears the madness is just beginning in New South Wales. Let’s hope it doesn’t follow Victoria’s example from last year and turn into yet another Australian police state.

Until then,

Dan Denning,
Editor, The Rum Rebellion

The Bonner-Denning Letter is co-authored by Port Phillip Publishing founder Dan Denning and legendary investment writer and publisher Bill Bonner. It connects the dots between markets, politics, and history as one of the only macroeconomic, ‘top-down’ newsletters in Australia. For a big picture perspective on the past, the present, and your investment future, click here for details on how to subscribe.

Blah…Blah…Quack…Quack
Bill Bonner

‘To fight this recession, the Fed needs more than a snapback. It needs soaring household spending to offset moribund business investment. And to do that, [Federal Reserve chief] Alan Greenspan needs to create a housing bubble to replace the Nasdaq bubble.’

New York Times columnist Paul Krugman, 2002

Many silly and regrettable things are said every week. It would be exhausting to try to pick out the worst of them.

Still…some — like bad visits to the dentist — are naturally memorable.

We’ll begin with a comment from US Treasury Secretary Janet Yellen this week. Business Insider reports:

‘Treasury Secretary Janet Yellen urged Congress on Wednesday to extend a July 31 deadline to pay down a portion of the federal government’s $28 trillion in debt to investors and foreign governments.

‘Without the extension, she warned of an “absolutely catastrophic” default that would imperil the nation’s economic recovery from the pandemic.

‘“I think defaulting on the national debt should be regarded as unthinkable,” she told the Senate Appropriations Committee, calling it “utterly unprecedented in American history for the US government to default on its legal obligations.”’

Unprecedented? Hardly.

The US effectively reneged on its obligations in 1971. That’s when the Nixon Administration cut the US dollar’s link to gold.

Thereafter, creditors would have to take whatever the US chose to give them. Secretary of the Treasury at the time, John Connally, put it to them straight:

‘The dollar is our currency, but it’s your problem.’

Since then, tracked by the gold price, foreign US dollar holders have lost 98% of their money.

Fess up

Would it be unthinkable to finally fess up?

Not at all. We’re thinking about it right now. And what we think is that it wouldn’t be catastrophic at all.

Suppose instead of printing up more fake dollars as to pretend to honour its commitments, the US simply admitted that it can’t pay?

Bondholders would finally see what the full faith and credit of the US government was really worth. They could surely find better uses for their money anyway — lending it to the US government guarantees that it will be frittered away.

And suddenly, the whole world would have to face the music.

The current monetary system is a fraud. It robs the ordinary citizen in order to reward the rich. It slows real growth. It confuses and misleads investors, businesses, and households. It creates bubbles and blow ups. It finances zombie companies and pays for Washington’s boondoggles.

Putting it behind us would be a big improvement.

Intellectually or morally deficient

But despite the towering blockheadedness of Ms Yellen’s comment, it only comes in second in this week’s log of bogus, numbskull, or insipid remarks.

New York Times columnist Paul Krugman gets the top spot. On Monday, he argued that the inflation ‘panic’ was over. Here’s what he wrote in The New York Times:

‘Seriously, both recent data and recent statements from the Federal Reserve have, well, deflated the case for a sustained outbreak of inflation. For that case has always depended on asserting that the Fed is either intellectually or morally deficient (or both). That is, to panic over inflation, you had to believe either that the Fed’s model of how inflation works is all wrong or that the Fed would lack the political courage to cool off the economy if it were to become dangerously overheated.

‘[…]

‘To buy into this story, you have to claim […] that the Fed, which is fully capable of reining in a runaway boom, will stand idly by while inflation gets out of hand.’

Yes, you would have to think the Fed cannot, or will not, control inflation…which is just what we do think.

You might also think that the Fed is intellectually deficient. But in today’s world, you might take that for granted.

Influential and important

But first, let us put Mr Krugman’s pensée in perspective.

Because of his influence, he is regarded by some as the ‘most important’ columnist in the US. And The Economist described this Nobel Laureate as ‘the most celebrated economist of his generation.’

As we discussed Friday, his influence is considerable…and lamentable.

As we saw in the quote at the top of today’s Diary entry, Krugman urged the Fed to create the housing bubble of 2005–07.

And his economic quackery is part of the reason that the US’ elite has lost its intellectual authority.

Then, when the housing bubble blew up, he came forward with more bad advice. Here he is in October 2008:

‘It’s politically fashionable to rant against government spending and demand fiscal responsibility. But right now, increased government spending is just what the doctor ordered, and concerns about the U.S. budget deficit should be put on hold.’

Again, the Feds followed his advice. From 2008 to 2020, federal debt increased from US$10 trillion to US$28 trillion…and the Fed’s balance sheet went up almost 800% (while the economy grew just 50%).

Theoretical solution

And now that Mr Krugman has influenced the US into a total debt burden over US$80 trillion…and influenced the economy to rely on fake, below zero (inflation-adjusted) interest rates…and influenced Americans to expect bailouts and stimmy cheques…

…is the Fed really able to stop its money printing?

In theory, the Fed could ‘pull a Volcker’ and stop inflation cold. But then, the economy, the stock market, and the Fed themselves would slide into hell. Stocks would crash. Unemployment would soar.

And Mr Krugman would howl to high heaven…calling for more money.

And the Fed, so ready to go along with every cockamamie spend-a-palooza so far this century, would suddenly find itself endowed with the courage to resist the whole of America’s Elite Establishment?

Not likely.

Krugman’s solution

Instead, the inflation numbers — under duress from the Bureau of Labor Statistics — will tell a confusing tale. The feds will continue spending. The Fed will continue printing.

And inevitably…though not predictably — neither by us nor by Mr Krugman — a new crisis will arise.

Perhaps the Fed ‘taps the brakes’ and causes a crash on Wall Street…

Or maybe a spike in consumer prices causes a panic.

Either way, it will be ‘no time to worry about the budget’. Or about deficits. Or about inflation itself.

No…the Fed will not stand idly by as the inflation fire gets out of hand.

It will listen to the Great Influencer…Paul Krugman…and come running with a bucket of gasoline!

Regards,

Bill Bonner,
For The Rum Rebellion