Central banks attempt to walk this fine line – generating mild credit growth that matches nominal GDP growth – and keeping the cost of the credit at a yield that is not too high, nor too low, but just right. Janet Yellen is a modern day Goldilocks.
How is she doing? So far, so good, I suppose. While the recovery has been weak by historical standards, banks and corporations have recapitalized, job growth has been steady and importantly – at least to the Fed – markets are in record territory, suggesting happier days ahead. But our highly levered financial system is like a truckload of nitro glycerin on a bumpy road. One mistake can set off a credit implosion where holders of stocks, high yield bonds, and yes, subprime mortgages all rush to the bank to claim its one and only dollar in the vault. It happened in 2008, and central banks were in a position to drastically lower yields and buy trillions of dollars via Quantitative Easing (QE) to prevent a run on the system. Today, central bank flexibility is not what it was back then. Yields globally are near zero and in many cases, negative. Continuing QE programs by central banks are approaching limits as they buy up more and more existing debt, threatening repo markets and the day to day functioning of financial commerce.
I’m with Will Rogers. Don’t be allured by the Trump mirage of 3-4% growth and the magical benefits of tax cuts and deregulation. The U.S. and indeed the global economy is walking a fine line due to increasing leverage and the potential for too high (or too low) interest rates to wreak havoc on an increasingly stressed financial system. Be more concerned about the return of your money than the return on your money in 2017 and beyond.
PG View: Gross makes a good point about being more concerned about capital preservation. Although he doesn’t mention it specifically, one of the best assets for accomplishing that task is gold.
Treasury Secretary Steven Mnuchin sent a letter this week to Congress warning that the United States is about to reach its legal borrowing limit by next Thursday.
That’s because the current debt ceiling suspension expires at the end of Wednesday, March 15.
Since Congress will almost certainly not act in time to raise the ceiling or extend the suspension, Mnuchin will have to start an official juggling act to ensure the country can continue to keep paying all its bills in full and on time. After the current suspension expires, the debt ceiling should reset a little north of $20 trillion next Thursday.
PG View: Adding to the fun is the timing: The debt ceiling will be reinstated on the same day that the Fed announces policy, which will likely include a rate hike.
President Donald Trump on Monday pledged “big” infrastructure spending, putting focus on a key campaign proposal that has taken a back seat in the first month of his administration.
Speaking to a group of governors at the White House, Trump said he will make a “big statement” about fixing roads and bridges in his Tuesday night address to a joint session of Congress. So far, the Republican-controlled Congress has not seen Trump’s infrastructure spending pledge as a priority amid efforts to repeal the Affordable Care Act and pass tax reform.
“I’m going to have a big statement tomorrow night on infrastructure,” Trump said. “We spend $6 trillion in the Middle East and we have potholes all over our highways and our roads … so we’re going to take care of that. Infrastructure — we’re going to start spending on infrastructure big. Not like we have a choice. It’s not like, oh gee, let’s hold it off.”
An act of Congress in 2015 that temporarily suspended the country’s borrowing limit has taken spotlight off of the debt-ceiling debate, which has repeatedly roiled the markets in recent years.
However, the halt expires on March 15, according to Fitch. After that, the Treasury will need to take on what it calls extraordinary measures to cope with the statutory limit. But, it will ultimately fall on lawmakers to raise or suspend it.
“But more probable is a repeat of previous debt limit confrontations and last-minute agreements, revealing sharp fiscal and other policy differences between Congress and the administration, and underscoring persistent weaknesses in US fiscal governance.” — Fitch
PG View: This could pose quite a conundrum for lawmakers who have historically voted a certain way on the debt ceiling issue . . .
In the age of Trump, America’s biggest foreign creditors are suddenly having second thoughts about financing the U.S. government.
In Japan, the largest holder of Treasuries, investors culled their stakes in December by the most in almost four years, the Ministry of Finance’s most recent figures show. What’s striking is the selling has persisted at a time when going abroad has rarely been so attractive. And it’s not just the Japanese. Across the world, foreigners are pulling back from U.S. debt like never before.
PG View: I’ve got news for the Fed: Another 25 bps, or even 75 bps, are unlikely to change their minds.
The Dow Jones Industrial Average provides us with some pretty strong evidence that our “stock market boom” has been fueled by debt. On Wednesday, the Dow crossed the 20,000 mark for the first time ever, and this comes at a time when the U.S. national debt is right on the verge of hitting 20 trillion dollars.
Is this just a coincidence? As you will see, there has been a very close correlation between the national debt and the Dow Jones Industrial Average for a very long time.
A major risk to U.S. markets is looming, and it’s bigger than headlines and President Donald Trump’s tweets, Goldman Sachs’ Sharmin Mossavar-Rahmani told CNBC on Wednesday.
The threat is the Chinese economy, the Goldman Sachs Private Wealth Management chief investment officer told “Squawk on the Street.”
“We use the term that China could ‘submerge’ under the burden of its own debt,” Mossavar-Rahmani said. “If you look at any of the debt measures in China, they’re tremendously high.”
Italian government debt is coming under heavy selling pressure today, sending benchmark 10-year yields to the highest level since the Greece’s eurozone crisis in the summer of 2015.
Investors are dumping Italian debt after a major ruling from Italy’s highest constitutional court paved the way for early elections in the eurozone’s third largest economy, which will introduce a form of proportional representation to the country.
PG View: Events in Europe have been pushed from the headlines in recent weeks, but it’s worth remembering that the risks there remain considerable.
The fact is that whenever one party has firm control of government, it has a powerful incentive to borrow to finance its priorities, knowing that it won’t necessarily be the one to foot the bill. So expect US President-elect Donald Trump’s administration, conservative or not, to make aggressive use of budget deficits to fund its priorities for taxes and spending.
…If a Trump presidency does entail massive borrowing – along with faster growth and higher inflation – a sharp rise in global interest rates could easily follow, putting massive pressure on weak points around the world (for example, Italian public borrowing) and on corporate borrowing in emerging markets. Many countries will benefit from US growth (if Trump does not simultaneously erect trade barriers). But anyone counting on interest rates staying low because conservative governments are averse to deficits needs a history lesson.
PG View: If President Trump is successful in initiating policies that need to be financed with increased deficits, the national debt will explode higher. It’s already nearly $20 trillion. Treasury Secretary nominee Steven Mnuchin has already said that raising the debt ceiling will be one of his highest priorities. That would be good for gold.
China’s economy grew a faster-than-expected 6.8 percent in the fourth quarter, boosted by higher government spending and record bank lending, giving it a tailwind heading into what is expected to be a turbulent year.
But Beijing’s decision to prioritize its official growth target could exact a high price, as policymakers grapple with financial risks created by an explosive growth in debt.
PG View: Amid ongoing capital outflows and considerable uncertainty with regard to future trade relations with the U.S., China seems likely to at least try to paper over these risks with debt and further weakening of the yuan.
The Hill/Justin Haskins/01-14-17
The current economic picture looks eerily similar to the one in 2008: Economic growth is sluggish, personal debt is extremely high, the government is running massive annual deficits, and riskier investments are being encouraged by the current market conditions, although this time it’s being caused by excess cash in the monetary supply.
President-elect Trump enters the White House at a crucial moment in U.S. history. If the economy does not grow rapidly in the coming years, allowing market distortions to correct and the Fed to safely increase interest rates to bring the monetary supply back to its historical norm, there could be another large-scale economic collapse in the not-so-distant future.
Will the national debt hit $20T before Dow hits 20k?
Since every penny of that new debt was presumably spent, it should come as no surprise that the latest batch of headline growth numbers have been impressive. Which is the basic problem with debt-driven growth: The good stuff happens right away while the bad stuff evolves over time – in the form of higher interest costs that depress future growth – making it hard to figure out what caused what.
That’s bad for regular people who have to live through the resulting slow-down or crisis.
PG View: It looks once again like we may be pulling economic growth forward from the future via increased debt. While that may give the economy a short-term boost, the longer term prospects becoming increasing dire as the debt load mounts.
“The fiat money quantity has now breached the $15 trillion level, standing at $15,108bn on November 1st 2016, the last calculable date. This is now $6.3 trillion above the pre-Lehman crisis trend-line, exceeding it by 72%. Instead of the Lehman rescue being a temporary fix, the increase in the quantity of fiat money has continued to grow over eight years later.”
PG View: The proliferation of paper — paper in the form of debt and paper in the form of fiat currency — is one of the primary driving forces behind gold price appreciation over time. I concur with Mr. MacLeod when he says, “gold must be regarded as significantly undervalued relative to fiat dollars.”
The Wall Street Journal/Nick Timiraos/01-04-17
The debt limit as it exists now came into being between the first and second world wars. Before 1917, Congress authorized every new debt issuance. By 1939, it had delegated nearly full authority to the Treasury to issue debt by setting an overall cap. But over time, the debt limit has morphed from a tool for simplifying the borrowing process into a weapon that individual lawmakers “can wield against our economic well-being,” Mr. Lew said.
PG View: I might argue that unrestrained debt accumulation is a weapon of mass economic destruction. Do we really trust our policymakers to wrack up the national debt at the escalating pace that has developed over the last decade-plus? Seems like there should be some checks and balances; and if not a debt ceiling, then what?
Financial Times/Eric Platt/12-27-16
“Companies accounted for more than half of the $6.62tn of debt issued, underlining the extent to which negative interest-rate policies adopted by the European Central Bank and the Bank of Japan, as well as a cautious Federal Reserve, encouraged the corporate world to increase its leverage.
Corporate bond sales climbed 8 per cent year on year to $3.6tn, led by blockbuster $10bn-plus deals to finance large mergers and acquisitions.”
PG View: Corporations are leveraged to the hilt; at levels not seen since right before the financial crisis.
“China’s capital outflows are accelerating and the central bank is selling larger amounts of foreign exchange, Goldman Sachs Group Inc warned as the yuan headed for its biggest annual decline in more than 20 years.”
PG View: As the yuan is driven lower, it is exacerbating the problems arising from recent dollar strength. This is only going to escalate president-elect Trump’s contentions that China is a currency manipulator, strengthening the case for his threat to impose import duties. That in turn could start a trade war. China has already been selling Treasuries and dollars in an alleged effort to shore up the yuan, to the point where China is no longer the top holder of U.S. government debt. That honor goes to Japan, which hasn’t held that dubious title for any sustained period since the financial crisis.
01-Dec (WSJ) — The bond market rout is deepening.
The yield on the U.S. benchmark 10-year Treasury note rose to a 17-month high Thursday, following the biggest monthly increase in November since 2009. The yield recently was 2.477%, according to Tradeweb, compared with 2.365% Wednesday. Yields rise as bond prices fall.
Selling Thursday was driven by higher oil prices, which have extended Wednesday’s rally after the Organization of the Petroleum Exporting Countries reached a deal to curb the continuing oil supply glut. Higher oil prices tend to boost inflation expectations, which chip away at bonds’ fixed returns over time and is a big threat to long-term government bonds.
PG View: As we approach $20 trillion in debt — and the prospect of higher deficits under a Trump administration — we can ill afford “a big threat to long-term government bonds.”
06-Nov (Bloomberg) — Barack Obama will go down in history as having sold more Treasuries and at lower interest rates than any U.S. president. He’s also leaving a debt burden that threatens to hamstring his successor.
Obama’s administration benefited from some unprecedented advantages that helped it grapple with the longest recession since the 1930s. The Federal Reserve kept rates at historically low levels, partly by becoming the single biggest holder of Treasuries. The U.S. could also rely on insatiable demand from international investors, led by China deploying its hoard of reserves. Global buyers added $3 trillion of Treasuries, doubling ownership to a record.
Now those tailwinds are turning around. The Fed is telegraphing more hikes at a time when interest costs on the nation’s bonds are already the highest in five years. The government’s marketable debt has more than doubled under Obama’s stewardship, to a record of almost $14 trillion. And the deficit is expanding again, after narrowing for four straight years, just as overseas holdings of Treasuries are shrinking at the fastest pace since 2013.
“We’ve really got ourselves into a pickle here,” said Edward Yardeni, president of Yardeni Research Inc. in New York, who’s been following the bond market since the 1970s. “All these years we’ve been kicking the can down the road, and suddenly we’re seeing a brick wall.”
PG View: With the national debt fast approaching $20 trillion, it becomes pretty clear that gold should remain underpinned whomever succeeds President Obama.
PG View: It almost doesn’t seem that bad when compared to the massive $152 trillion debt reported this week by the IMF.
05-Oct (Bloomberg) — Eight years after the financial crisis, the world is suffering from a debt hangover of unprecedented proportions.
Gross debt in the non-financial sector has more than doubled in nominal terms since the turn of the century, reaching $152 trillion last year, and it’s still rising, the International Monetary Fund said. The figure includes debt held by governments, non-financial firms and households.
Current debt levels now sit at a record 225 percent of world gross domestic product, the IMF said Wednesday in its semi-annual Fiscal Monitor, noting that about two-thirds of the liabilities reside in the private sector. The rest of it is public debt, which has increased to 85 percent of GDP last year from below 70 percent.
05-Oct (Bloomberg) — Warning: The world is suffering from a debt hangover of unprecedented proportions. Eight years after the financial crisis, gross debt in the non-financial sector has more than doubled in nominal terms since the turn of the century, reaching $152 trillion last year, according to the International Monetary Fund. That’s equivalent to 225 percent — a record — of world gross domestic product.
PG View: Some would argue that because interest rates are so low, the size of the debt just doesn’t matter, but any rational person knows this is just not sustainable.
28-Sep (ProjectSyndicate) – “What a government spends the public pays for. There is no such thing as an uncovered deficit.” So said John Maynard Keynes in A Tract on Monetary Reform.
But Robert Skidelsky, the author of a magisterial three-volume biography of Keynes, disagrees. In a recent commentary entitled “The Scarecrow of National Debt,” Skidelsky offered a rather patronizing narrative, in a tone usually reserved for young children and pets, about his aged, old-fashioned, and financially illiterate friend’s baseless anxiety about the burden placed on future generations by the rising level of government debt.
If Skidelsky’s point had been that some economies, including the United States, would benefit from higher infrastructure spending, even at the cost of more debt, I would agree wholeheartedly. Compelling reasons for boosting US public investment include deteriorating infrastructure, tepid growth, low interest rates, and limited scope for further monetary stimulus. For the US, such an impetus might be especially welcome as the Federal Reserve raises interest rates (albeit gradually) while other countries ease further or hold rates steady and the dollar likely strengthens.
But that was not the route Skidelsky took. Instead, in his critique of a commentary by Kenneth Rogoff, he argued that it is silly and passé for a country that can issue debt in its own currency to fret over medium-term debt levels. Call me old-fashioned, but that argument smacks of complacency and is not supported by evidence. On this score, Skidelsky confuses two different papers on debt and growth, a 2012 paper of mine, in which there were some alleged data concerns, with one that I co-authored with Rogoff and Vincent Reinhart, in which there were none.
25-Sep (Bloomberg) — They’ve long been one of the most reliable sources of demand for U.S. government debt.
But these days, foreign central banks have become yet another worry for investors in the world’s most important bond market.
Holders like China and Japan have culled their stakes in Treasuries for three consecutive quarters, the most sustained pullback on record, based on the Federal Reserve’s official custodial holdings. The decline has accelerated in the past three months, coinciding with the recent backup in U.S. bond yields.
…The amount of U.S. government debt held in custody at the Fed has decreased by $78 billion this quarter, following a decline of almost $100 billion over the first six months of the year. The drop is the biggest on a year-to-date basis since at least 2002 and quadruple the amount of any full year on record, Fed data show.
PG View: “Homegrown demand has helped pick up the slack,” but what if that stops being the case? That could change the “gradual” rate hike dynamic significantly.
13-Sep (MarketWatch) — The federal government ran a budget deficit of $107 billion in August, the Treasury Department said Tuesday, $43 billion more than in August 2015.
The government spent $338 billion last month, up 23% from the same month a year ago. Spending rose notably for veterans’ programs and Medicare, Treasury said. For the first 11 months of the fiscal year, spending is up 3%.
Total receipts for August were up 10% to $231 billion. Individual income and payroll tax receipts rose by 9%. Corporate receipts were flat at $5 billion.
Receipts are up 1% for the fiscal year to date.
PG View: That was outside expectations of -$100 bln.
12-Sep (Bloomberg) — For the past two years, all yield curve news has been bad news — for the Federal Reserve.
In a reversal of the defining trend of the past year, the spread between two and 10-year U.S. Treasuries — known as the yield curve — has widened to more than 90 basis points on Monday morning, its highest level since the Brexit vote, amid the worldwide tumult in bond markets.
While such a widening would normally be interpreted as a positive sign for the U.S. economy, the shape of the yield curve could nevertheless cause concern for a U.S. central bank seeking to balance the needs of the economy without upsetting global markets.
That’s because the widening has been driven by a larger increase in 10-year yields than two-years, known as a steepening of the yield curve.
Such yield curves map out the rate paid to holders of government debt at various maturities, and generally slope upwards — a testament to the riskiness of lending money for a longer time period, as well as a partial reflection that central bank rates and inflation would generally be expected to rise.
So on the surface, this shift in the yield curve might be presumed to be a positive signal for the U.S. economy. The opposite dynamic — the prolonged period in which the curve flattened — was certainly taken to be a sign of economic malaise, or even malady.
01-Sep (WSJ) — Politicians playing by their own rules is an old story. But it should count as news that politicians have lately been rewriting a rule in place since 3,000 B.C.
This rule of history is that savers deserve to be compensated when they loan money. Not anymore. In much of the developed world lenders are the ones paying for the privilege of letting governments borrow their cash. Through the magic of modern central banking, countries in Europe and elsewhere have managed to drive their borrowing rates not just to historic lows but all the way into negative territory. As of Monday almost $16 trillion of government bonds world-wide were offering yields below zero.
Amazingly, governments have managed this feat even as they have become more indebted and even as slow economic growth undermines their ability to repay. Such conditions normally suggest a less creditworthy borrower and therefore a higher interest rate to compensate investors for the risk. But sovereign debt has become more expensive. Governments have succeeded in making their bonds more expensive in part by printing money and buying the bonds themselves via their central banks. Commercial banks are all but required to buy them too.
In the new political economy—or alchemy—the more unsustainable a government’s finances, the less it pays to borrow. Japan’s government debt amounts to more than 200% of its economy. The yield on Japan’s 10-year bonds recently clocked in at negative 0.06%.
…Put another way, government bonds have never been so expensive. Paul Singer, founder of hedge fund Elliott Management, isn’t expecting a happy ending. He believes that because of massive entitlement promises plus huge debt, “the entire developed world is insolvent.” He says that a negative rate on a government bond is “crazier than zero, and zero was crazy enough.”
31-Aug (Bloomberg) — Billionaire money manager Bill Gross said negative interest rates are turning assets into a liability stifling the capitalist system.
In his monthly investment outlook posted Wednesday, Gross, 72, reiterated his long-running criticism of central bankers, including Federal Reserve Chair Janet Yellen, for slashing interest rates to zero or below to help raise asset prices in the hope they will trickle down into the economy. It’s a plan, Gross argued, that will fail to produce sustainable economic growth.
“Capitalism, almost commonsensically, cannot function well at the zero bound or with a minus sign as a yield,” wrote Gross, who manages the Janus Global Unconstrained Bond Fund. “$11 trillion of negative yielding bonds are not assets — they are liabilities. Factor that, Ms. Yellen, into your asset price objective.”
15-Aug (FT) — The latest sign of the bond rally’s eye-watering extremes: Bonds that have doubled in price.
The Bank of England’s recent stimulus splurge, including a move to buy corporate paper, has driven the market prices for several sterling corporate bonds up to more than two times their initial face value, even for those unlikely to qualify for the central bank’s shopping list, writes Joel Lewin.
The price of US industrial conglomerate General Electric’s 2039 sterling bond, for example, has rocketed to a record high of 215.5 pence on the pound. That’s up from 165p at the start of the year and 100p when it was issued in 2009.
The yield has plunged from more than 10 per cent in 2009 to a low of 1.805 per cent.
Coupons aside, paying £215.50 today to be repaid £100 in 2039 amounts to a capital loss of 5 per cent every year for the next 23 years. Tasty.
“It’s another sign of how far central banks have pushed things,” says Luke Hickmore, a senior investment manager at Aberdeen Asset Management.
10-Aug (FT) — Britain’s revived programme of mass bond-buying accelerated a fall in global bond yields yesterday in the latest sign of how central bank policy has intensified a worldwide collapse in borrowing costs this year.
The Bank of England this month announced a new £70bn asset purchase programme designed to address fears of an economic slowdown after Britain voted to leave the EU, joining the European Central Bank and Bank of Japan to become the third major central bank engaged in quantitative easing.
The speed and extent of market reaction to the BoE’s monetary easing programme indicated a change among investors who previously doubted the ability of central banks to further suppress bond yields, said Steven Major, head of fixed income research at HSBC.
“The Bank has made it clear that the next move is lower rates and possibly more QE — if they can find the bonds to buy — which is why this new round of easing is having an influence on everything in markets. It has shifted expectations towards further easing in Europe and away from a rate rise in the US.”