DON’T BE A

CRASHDUMMYOverpriced stock markets have finally met Zirp interest levels. The Slog analyses why this is the unstoppable force colliding with the immovable object.

Well, this was always going to happen. Even in a world where the fundamentals have been manipulated or ignored, one tiny élite cannot block the needs of others forever.

We now have a global capital pot so acutely aware of false stock market levels, overpriced houses, potential bailins and a dangerously high special bond rate sector, it is prepared to pay sovereigns like Germany and the US to protect its contents. The money pours into 0%, and reverses out of 5%. This is not a flight to safety, it is the last flight out of Saigon,1972: folks would rather hang on to the propeller blades than hang around to face Domesday.

As I blogged last week, this is flight which itself is doomed to be overladen and crash over the cliff. And as I’ve been blogging since 2011, 0% government bonds cannot last forever: investors need income and firms need margins. Interest rates – or to be even more general, income on capital – must rise in a world where there is no other way any more to earn investment income.

But that’s where life goes from difficult to disastrous for the QE-artists, the overborrowed governments, and the overpromising politicians.Because all the cock-a-hoop claims about turning corners and rising employment levels come home to roost when QE runs out of credibility and Zirp runs out of road.

Economically, fiscally and politically, rate rises will be the death-knell for borrowers everywhere. But the pressure is already on. The Bank of England’s rate-setting MPC had two dissenters voting for rate rises this week. Last month two State Fed bankers said US inflation was artificially depressed, and rate rises were now overdue. In this morning’s Daily Telegraph, six of the top seven website finance page stories concern interest rate rises; Katherine Rushton writes that US Federal Reserve officials are discussing whether to increase interest rates earlier than previously planned. UK mortgage business has seen a scramble of homeowners to fix rates now before the inevitable hikes arrive.

Yet still we hear über-confident talk about “as early as next year” for rate rises. Let’s examine if holding on until then really is a possibility.

More than any other finance minister, George Osborne now faces losing his race against time. Things have reached the point where, at last, a phalanx of opinion leaders are beginning to realise that the only thing in the Chancellor’s trousers is a mendacious mouth. Internal UK retail is recovering slightly, and the services sector continues to power ahead. But neither of these are capable of delivering a broadly-based recovery (ordinary hard-working etc etcs don’t on the whole work in financial services) and although the Conservatives have done their payback bit to UK builders (with relaxed planning laws and Help To Buy) none of it helps the disastrous export performance in physical output. The hype surrounding housing prices has vapourised, to be replaced by a 5% drop in London prices last month – 2.9% across the country as a whole.

In that context, George-Porgie-powder-and-pros would do anything to keep rates at 0% over the next nine months. For those who haven’t noticed, due to this government’s significant budget deficit, the national debt is increasing by approximately £107 billion a year: that’s £2 billion each week.

Osborne continues with the ludicrous fantasy that the deficit will be eliminated in the financial year 2017/18, but while the smoke and mirrors deficit and debt may fool the voters (and the IMF) the markets remain unimpressed: UK debt was downgraded early in 2013, and the flight into bonds is focused largely on Germany and America, not Britain.

This is crucially important: even with Zirp rates and all-time low bond yields, it costs us an eye-watering £43bn just to service the national debt each year. Even if the deficit were to be wiped out, a rise in interest rates would soon have debt servicing costs above the £100bn mark….which is roughly how much the debt is increasing every year.

Sterling is in my view overbought at the minute, which for those of us selling recently has been excellent news. But it had a rough time last week, and the reason is simply this: market-makers are catching on to Bank Governor Mark Carney’s view of Mr Osborne as “a bit of a wide-boy”. The Chancellor won’t mind some fall in Sterling, but short term boosts to exports won’t stop import costs going up after that. Without a viable manufacturing sector, the deficit will fall very slowly if at all…and the debt will keep on rising.

Then there is the separate but connected question of that all-important word, confidence. Before arriving in his job, Carney allegedly told close associates he wanted to see the Pound fall “quite some way”. But things have moved on since then: to achieve that fall today, Sterling would have to plummet. Not only would that cost us more to borrow per se, a falling Pound could rapidly turn into a self-fulfilling plunge. To avoid another downgrade, interest rates would have to be brought forward to stop the selling. Just one more revelation about Britain’s faux-recovery, and battle could turn into rout. Debt servicing costs would treble.

George may have pulled out a plum over the last two years, but he is now in the corner, facing the wall with a dunce-cap on his head.

“Our long-term strategy is working,” says Dave the Stepford Wife, and Barack Obama has been trying the same shtick on the American people for the last three years. Nowadays, however, the thinking minority know only too well how Uncle Tomobama sold out to Wall Street and the figure-fiddlers. When one takes QE out of the gdp calculation, the States has been in recession for at least two years. Now it’s in a slump, and statisticians are, more and more, suggesting that those who disappeared from the welfare lists are in the gutter, not in a job.

Wolf Richter’s recently rebranded Wolf Street is as good a source both of the tracking of opinion leaders taking positions and the idiotic US debt maths as you’ll find anywhere on the planet. He reports that last week foreign sellers dumped a massive $153bn of US debt (the highest ever) not to buy German bunds, but to buy new deals in US Bonds…in short, they were increasing their holdings but looking to finance it by making a small turn on previous issues.

Three days ago, I posted, ‘the eurozone economy is flatlining, the African banks look suspect, and the damned if do or don’t list reads America, Russia, Germany, Eurozone and China. So convinced are the movers and shakers that there is zero real prospect of economic recovery, they’ve first poured money into gold, then smelt the fix and moved onto property. Now even the alternative of effectively paying to lend money to the German and American governments looks better than hanging around too much longer in the most overpriced stock market in human history.’

Looked at from this angle, I really don’t see how a stock market crash can now be more than six weeks away. This is what Wolf Richter had to say yesterday:

‘….on Tuesday, the Bureau of Labor Statistics tossed the Consumer Price Index for July into the mix. With official inflation up 0.1% for the month and 2.0% for the year, it was considered “tame” by those who clamor for more inflation because it suits their own purposes, like repressing real wages. Tame or not, inflation knocked real retail sales into contraction…. the Bureau of Labor Statistics coincidentally released a study to confirm what has become the biggest economic problem in the US: those at the lower-income levels, those who’ve gotten ripped off by inflation and wages, have become terrible consumers in an economy dependent on consumer spending…’

He is spot-on here: the core problem with the wealth inequities created by neoliberal economics is that it works entirely on eternal growth in mass consumption, but results in upwards of 60% consuming less and less.

Three bouts of QE and have tried to disprove that reality, and failed. Janet Yellen is still tapering off the QE methadone. But this time, we haven’t seen the usual wailing and screaming from Wall Street. This time, they’re too busy extracting the last drops of milk from the knackered cow. Last week I devoted a post to Indian central bank boss Raghuram Rajan – a better soothsayer than most. His words bear repeating:

‘Six years since the financial crisis, and central banks still have their foot fully on the accelerator . . . [pushing] credit into emerging markets…..We don’t know how this will end . . .  It may end smoothly, if we let the air out of these inflated markets slowly, or by a series of mini-crises. But it may be more dramatic if, one fine day, suddenly the world realises the US is going to raise interest rates quite quickly . . . then the air will go out much faster…’

Just as Osborne’s dickering about in Britain has resulted in a populace more indebted than ever before (in the hope that they’ll feel richer, and vote Tory) so too US consumer credit — ignoring mortgages — is up to $2.8 trillion, according to the Federal Reserve. In 2007, at the height of the “credit bubble,” it was just $2.5 trillion.

If you’re bashing out printed stimulation and all-time low credit – and still the economy stagnates – then all the tools in the proprietory kit have been used up. There are no more mirages left to float out onto prime-time TV. If people pile into sovereign bonds at 0%, it means two things: they don’t trust the Gold fix, and they see an equities crash coming.

If the markets crash and the banks get nervous (as of course they will) that’ll be another pressure on interest rates to cool the credit danger to them. This is, of course, what Raghuram Rajan is talking about. Rising interest rates screw up everything from car loans and credit card borrowers to closed-end investment funds, most of which are laughably over-leveraged. They also turn recessions into slumps – and thus, stock market corrections into crashes.

Bank of England Governor Mark Carney obviously saw the danger some time ago. In March, the Bank announced that it would test how a house price crash and a sudden rise in interest rates would hit Britain’s banks. Carney said the decision to conduct a test was, ‘not an expectation of what would happen, but a coherent tail risk event,’ but ‘a key part of the scenario would examine the resilience of the banks to a housing market shock and to a snap back in interest rates’.

The shock has begun, and the pressure for rate rises is increasing. High Yield bonds are being deserted in favour of certainty. The UK economy is being found out bit by bit, and the US version is clearly stagnating. The Top 6 movers among the globalist sovereigns are all facing acute problems and falling returns. Events in Gaza and the Ukraine have made people more nervous than normal. It’s August and an awful lot of traders are on beaches around the planet. Research shows that August has ten days to go.

Stay tuned.

Related: How a crooked élite is milking the mug-money