Of all the problems with fiat currency, the most basic is that it empowers
the dark side of human nature. We're potentially good but infinitely corruptible,
and giving an unlimited monetary printing press to a government or group of
banks is guaranteed to produce a dystopia of ever-greater debt and more centralized
control, until the only remaining choice is between deflationary collapse or
runaway inflation. The people in charge at that point are in a box with no
painless exit.
Prudent Bear's Doug Noland describes the shape of today's box in his latest Credit
Bubble Bulletin:
Right here we can identify a key systemic weak link: Market pricing and
bullish perceptions have diverged profoundly both from underlying risk (i.e.
Credit, liquidity, market pricing, policymaking, etc.) and diminishing Real
Economy prospects. And now, with a full-fledged securities market mania inflating
the Financial Sphere, it has become impossible for central banks to narrow
the gap between the financial Bubbles and (disinflationary) real economies.
More stimulus measures only feed the Bubble and prolong parabolic ("Terminal
Phase") increases in systemic risk. In short, central bankers these days
are trapped in policies that primarily inflate risk. The old reflation game
no longer works.
In other words, most real economies (jobs, production of physical goods, government
budgets) around the world are back in (or have never left) recession, for which
the traditional response is monetary and fiscal stimulus -- that is, lower
interest rates and bigger government deficits. Meanwhile, the financial markets
are roaring, which normally calls for tighter money and reduced deficits to
keep the bubbles from becoming destabilizing.
Both problems are emerging simultaneously and the traditional response to
one will make the other much, much worse. Some more specifics from Noland:
Let's begin with a brief update on the worsening travails at the Periphery.
The Russian ruble sank another 6.5% this week, increasing y-t-d losses to
37.9%. Russian (ruble) 10-year yields jumped another 146 bps this week to
12.07%...
Increasingly, emerging market contagion is enveloping Latin America. The
Mexican peso was hit for 1.6% Friday, boosting this EM darling's loss for
the week to a notable 3.0%. This week saw the Colombian peso hit for 4.3%,
the Peruvian new sol 1.1%, the Brazilian real 0.9% and the Chilean peso 0.6%.
Venezuela CDS (Credit default swaps) surged 425 bps to a record 2,717 bps.
Brazilian stocks were slammed for 5% this week and Mexican equities fell
2.2%...
Declining 1.3%, the Goldman Sachs Commodities Index fell to the low since
June 2010. Crude traded to a new five-year low. Sugar fell to a five-year
low, with coffee, hogs and cattle prices all hit this week.
And a quick look at the bubbling Core: The Dow 18,000 party hats were ready,
although they will have to wait until next week. The S&P500 traded Friday
to another all-time record. Semiconductor (SOX) and Biotech (BTK) year-to-date
gains increased to 31.4% and 48.1%, respectively. The week also saw $4.0
Trillion of year-to-date global corporate debt issuance, an all-time record.
Italian (1.98%), Spanish (1.83%) and Portuguese (2.75%) yields traded to
all-time record lows again this week.
What differentiates today's reflation from those that "worked" in the past?
The current reflation has overwhelmingly manifested within the Financial
Sphere. And that's the essence of why I believe the Bubble is now running
on borrowed time. It's a critical issue that goes completely unrecognized
these days: In the end, Financial Sphere inflations are unsustainable....
The entire world believes central bankers will support stock, bond and asset
prices. Everyone believes central bankers will ensure liquid markets. Most
believe global policymakers will forestall financial and economic crisis
for years to come. And it is these beliefs that account for record securities
prices in the face of a disconcerting world.
We are, in short, down to the final myth that animates the blow-off phase
of most bubbles: that of the omnipotent government/central bank which likes
the status quo and has the power to maintain it. They don't have that
power, of course, or else financial bubbles would never burst and we'd still
be living in the golden age of junk bonds, dot-coms and subprime mortgages.
What's different about this iteration is that instead of being confined to
a single asset class, the bubble is in financial assets generally, including
fiat currencies, government debt, corporate bonds and equities, along with
all their related derivatives. Where previous bubbles accounted for hundreds
of billions or at most one or two trillion dollars, this one is denominated
in hundreds of trillions spread from emerging market bonds to money center
bank interest rate derivatives. The number of moving parts and the magnitude
of the hidden risks guarantee that when it comes, the dissolution of today's
myth structure will be like nothing any of us have ever seen.
