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Government dysfunction is at its worst. We voted them in. We
have no one to blame but ourselves. Granted, the choices were abysmal. But
the Republican and Democratic parties, with no third party competition, can
continue to run dysfunctional governments, whittling away our dominant global
position until the cracks of our broken government becomes abundantly clear.
As a society, we play right into their subterfuge of keeping us so
upset at the other party, we don’t see right in front of our own eyes the
decay of policies created to reflect the success and desires of just one
party. Polarized politics that take the best and worst policies of one
party instead of the best of both parties is destined to end in a deep,
painful recession and possibly a global depression. Pathetically,
America is chained to a wall in Plato’s cave with half watching MSNBC and the
other half Fox News since birth. I fear changing the channel would be
like Zhuangzi’s seventh hole in Wonton instead of enlightenment. We are
stuck with the landscape in front of us for now.
Since the dawn of politics, politicians have tried to balance keeping
themselves in office and destroying the competing politicians while keeping
the economy healthy and vibrant to ensure reelections. Similar to
strangling the golden goose to get every last golden egg without killing the
goose, politicians play the same game with the economy. Passing poor
economic policies to reward constituents without derailing forward progress
in an economy is a hard task and often leads to disastrous results. In
the US, when politicians pursue poor economic policies down party lines, the
results from poor performance is swift and new politicians are elected.
The financial crisis of 2008 proved that poor economic performance leads
to significant political change. It also proved that when pressed with a
disaster, politicians can come together – though at the last possible moment
– and craft policies to remedy the situation. But that harmonious
bipartisan relationship only lasted for moments. Once the systemic
downward spiral stabilized, their cooperation ended. The task to get
the economy away from the brink of a stabilized disaster and grow again fell
in the lap of the Central Bank and Fed President Ben Bernanke.
Central banks are supposed to be void of political influence.
However, Alan Greenspan, Bernanke’s predecessor, had just retired and
most would argue let the economy run too hot for too long with an extremely
easy monetary policy. Was Greenspan less of a monetary hawk, ignoring
growing excesses to avoid shallow downturns that are part of a normal
business cycle because he was about to retire? A younger Greenspan
surely wouldn’t have been so timid on the monetary policy front. Did he
care about his legacy and didn’t want to see a downturn until he left office?
Or was it less ego driven and more political influence?
Central banks are typically independent, and therefore, not viewed as a
governmental puppet funding doomed policies regardless of merit. If not
independent, attracting foreign capital becomes difficult since the track
record shows a cohabiting relationship fails in the long run. But
political influence can be hard to avoid, especially when hounded by
politicians daily, not to mention handpicked by the political party in power.
Greenspan was blamed for having too restrictive of a policy on George
Bush Sr.’s watch and used as a scapegoat when not reelected. When
George Bush Jr. was running for reelection, it seemed this point registered
and Greenspan remained accommodative keeping rates too low for too long.
Following right along with this influential creep over the Central Bank, a
visit by the Fed to the White House used to be rare and is now commonplace
with a direct line of communication. As Bernanke took office, it was
obvious that the divisive political landscape could not produce solid
economic policies and the Fed would be left to do the heavy lifting. In
order for Obama to fund his partisan economic policies, while attacking his
political opponents (finance, healthcare and traditional energy sectors), he
needed the Fed’s help. Bernanke accommodated, bringing rates to zero,
deprive savers and instead encourage borrowing and bringing future growth
forward to offset Obamas policies. Sure, Bernanke could have maintained a
rational higher rate monetary policy. We would have suffered a shallow
economic recession and politicians would have been forced to work together on
good economic policy for all to escape another downward spiral. But
Bernanke was not a self-thinking maverick. No, he was an academic that
loved to be loved and took the easy way out. This ensured the status
quo would continue on his watch leaving destructive problems bubbling under
the surface. Next came Fed Chairman Yellen. After years under Bernanke
as the Vice Chairman of the Fed, she knew the cost of low interest rates and
trying to accomplish more than rational monetary policy can produce.
She decided not to have these issues unwind on her watch and continued
funding poor economic policies to ensure continuation of what is now the longest
expansion, albeit a slow expansion, in the US.
It’s easy to show Yellen knows the costs to a prolonged low interest rate
policy. When Yellen was the President of the San Francisco Federal
Reserve, they created a web based game “Chair the Federal Reserve”. In
it, you as the Chair of the Fed can set monetary policy. In all instances,
setting low interest rates for a prolonged period leads to high inflation.
(Give it a go at http://www.frbsf.org/education/teacher-resour...al-reserve-e...).
The problem with funding poor economic policies with low interest rates –
or outright monetization of almost 5 trillion dollars of debt - is eventually
you run out of reasons to keep rates artificially low. The Feds
purchases amount to approximately the total debt we had in 2003.
Without the Fed’s purchases, the US would not have been able triple its
debt since then! We now have decades of poor partisan economic policy
and a pile of debt that we will not be able to fund if interest rates ever
reverted to the historic mean.
There are many obvious reasons higher interest rates will be destructive.
Public and private balance sheets are bloated and cannot service higher
levels of rates. Certain multi-billion dollar hedge funds which
attracted capital holding hundreds of billions in fixed-income investments,
leveraged and riding the bond rally down to historic low yields – with a nod
and a wink from the Fed’s crony capitalism - have the potential to create
systemic dislocations when investors’ redemptions due to poor performance
force an unwind of these positions. Some of these largest hedge funds
are already seeing evacuations taking place from the stewards of these funds’
helms. And when the international community, which holds half the US
debt, realizes the next crisis will result in more debt issued and monetized
by the central bank, not only will they avoid our debt market, they will run
for the hills. This will result in a parabolic move higher in yields,
the dollar weakening and inflation limiting the response by the Fed. Sound
like the 1980’s all over again. It should. History, after all, rhymes,
if it doesn’t repeat.
Now it’s Trump’s turn. His grandiose plans of make America great
again with expansionary economic policies that are badly needed are a
catch-22. The Fed has managed and manipulated interest rates
significantly below market levels for so long, the cost of this expansive
policy will prove to be catastrophic if rates adjust higher. The US can
only bluff investors to keep investing in these below market rates if they
believe the next crisis is on the horizon or they believe growth will
continue to be slow keeping inflation running around this 2% level.
Trump faces two scenarios: continue down the path of slow and steady
growth assisted by Fed manipulated interest rates or pursue faster growth and
suffer a recession or worse from markets setting higher rates. Will he
dance and play the game that is set before him, or pursue his agenda and end
up being the dunce?
Yes, if Trump pursues a pro-growth agenda, sadly, it will end with higher
rates and an economic crisis. Ironically, this sounds like a tried and
tested process to bring our politicians together and work in a bipartisan
way. Too bad it takes a crisis to make government functional. I
hope our luck of working together at the last moment only in times of crisis
has not run out.
Investment veteran and published author, Michael Carino, prophetically
called the timing and amplitude of the recent move in global bond markets
publishing “Global Bond Markets – Skydiving Without a Parachute.”
Michael has spent the last 25 years managing fixed-income hedge funds
and trading of over a trillion dollars of investments. He is the CEO of
Greenwich Endeavors, a financial service firm. He feels compelled to
get his unique and under-reported views on the markets out to the
public. He hopes to assist your readers’ creation of wealth and limit
your readers’ destruction of wealth. It's time a voice contrarian
to other self-interested, behemoth Investment Managers’ voices are
heard.
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