Editor's Note: The following article by Peak Prosperity's Chris Martenson frames the developing new economic reality -- and what it might portend for the future. Martenson, as many of you already know, is among the financial market's most gifted and original thinkers. Below he tells why the next big economic dislocation might be only weeks away, and why "defensive maneuvers are the name of the game now for the prudent." "Make sure," he advises, "you're one of them."
by Chris Martenson
For years we've preached: When trouble starts, it nearly always does so out in the weaker periphery before creeping towards the core. We saw this in the run-up to the housing bubble collapse, as sub-prime mortgages gave way before prime loans, and in Europe, as smaller economies like Greece, Ireland, and Cyprus have fallen first and hardest (so far). We see this today in accelerating food stamp use among poorer U.S. households. In each case, the weaker economic parties give way first before being followed, over time, by the stronger ones.
Using this framework, we can often get several weeks to several months of advance notice before trouble erupts in the next ring closer to the center. Which makes today notable, as we're receiving a number of new warning signs. The periphery is giving way.
Ever since the current economic "recovery" began, we've been warning of the high risk of a renewed financial crisis. That risk is now uncomfortably high. This is because nothing that led to the first round of troubles was actually addressed at the root level. Instead, prior troubles were simply papered over with central-bank liquidity, leaving structural weakness intact -- for instance, our 'too big to fail' banks are just as big, and our sovereign debt levels are even worse than they were pre-2008.
The next crisis will be larger and more damaging than the last one, principally because nothing got fixed, political capital was spent, and trust has been eroded, leaving everyone depleted and ready to bolt for the financial exits. With the periphery failing, we likely have only weeks -- perhaps a month or two -- until the next big dislocation hits.
Deja Vu (All Over Again)
We've been here before. We've seen trouble start on the outside and progress inwards, and not all that long ago. In 1999 and 2007, we saw the financial markets blithely trundle along higher, even as clear signs of trouble at the margins were abundant.One of the common myths about the stock market, often repeated in the press, is that it peers into the future. The market is the 'great discounting machine.'
But the stock market powered higher into the new millennium, despite being the most overvalued it had ever been in history, before diving violently in 2001. So much for peering into the future. And again, the stock market went to new heights in 2007, even as the housing market was obviously deteriorating and about to suffer a truly historic break after an unprecedented and bubbly run to the upside. The great discounting machine ended up reacting to trouble rather than anticipating it.
Despite these two obvious failures, many still hold to the belief that the stock market is a useful indicator of future health or distress, which means this view is more a matter of faith than fact. My view has always been that the stock market is a 'great liquidity detecting machine' -- something that fits the data very, very well -- and that it's reacting to liquidity in the system more than anything truly fundamental. This has not always been the case, but ever since Greenspan opened the Federal Reserve printing presses to each and every minor financial sniffle in the mid-1990s, Fed-supplied liquidity has been the dominant driver of equity prices.
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To tilt the conversation slightly, one of the enduring mysteries to me is how we have managed to experience not one, not two, but three full bubbles in the space of less than 15 years. Tech stocks, then housing, then all stocks and bonds; three bubbles, each bigger than the last.
As I have written extensively in the past, the current all-time highs in both bond AND equity prices (with bonds collectively including everything from 1-month T-bills to the worst junk paper you can buy), is nothing more and nothing less than the biggest financial asset bubble in history.
In order to believe this will all turn out well, you have to believe that this time will be different. . .not just a little bit different, but 180 degrees away from literally every single other financial bubble in all of history.This is precisely what is being asked of us each day by the financial press, the Fed, the Bank of Japan, the European Central Bank (ECB), and the politicians in the Western power centers.
Our view here is that it's never different. To that we'll add:
* A crisis rooted in too much debt cannot be 'solved' by creating more debt.
* Prosperity cannot be printed out of thin air.
* Rigged systems and markets destroy trust.
* Nothing can grow exponentially forever, except for the number of zeros printed on your currency.
Collectively, the above list boils down to Anything that cannot go on forever...won't. [credit: Herb Stein]
Deficits and Debts Do Matter
Deficits don't matter! Dick Cheney once famously growled, putting to words the belief system that envelops the U.S. today, especially its financial and monetary authorities. Because we've managed over the past three decades to dodge any serious consequences from racking up debts, these folks believe that will always be true. Absence of evidence becomes evidence of absence.
Sticking just to the economic "E" (leaving aside energy and the environment), our diagnosis of the current difficulties is simply that the OECD economies left reason aside and instead embarked on a sustained period of borrowing at a rate nearly twice as fast as underlying economic growth. That is, we collectively fell for the idea that one could simply borrow more than one earned...forever. I'm always surprised by how an entire culture can collectively believe in something that no individual would ever hold to be true.
We know that we cannot individually borrow more than we earn forever. And we are equally sure that this remains true if we pool ten people together. But we accept the idea that a sovereign nation can somehow magically pull this off. This either represents a profound inability to apply logic, or a form of cultural schizophrenia, or both.
Hot-Money Bubble Dynamics
For years now, ever since the Fed et al embarked on the global rescue plan that involved little more than flooding the world with historically unprecedented amounts of freshly printed money (a.k.a. "liquidity"), that money has been sloshing around looking for things to do. With interest rates on 'safe' investments at 0% (or close enough), that hot money has been looking for anything that resembles a decent yield. This 'yield chasing' went to every corner of the globe and piled into any and every market that it could.
Some of these markets were the headline U.S. and European equity and bond markets, and some of them were so-called 'emerging markets,' such as Brazil, India, Thailand, the Philippines, and Indonesia. As this hot money flowed into these emerging markets, the respective countries -- in order to prevent their currencies from rising too much -- did the usual and recycled the money-flows back into U.S. Treasury paper, German Bunds, and other sovereign debt instruments.
Now, all of this is being undone. It is a hot-money machine running in reverse, and it is creating the usual distortions, difficulties, and hardships for the afflicted countries. Currencies are plummeting, as are local equity and bond markets. In short, to understand where our financial markets are and where they are headed, you don't need to
know much about fundamentals at all. Earnings, GDP, job growth, etc. are secondary to liquidity flows. That's why the various markets are so keyed on the Fed's next statements and when and how extreme the 'tapering' might be. That's all that really matters.
Well, that's not entirely true. For reasons that cannot be entirely explained nor controlled, sometimes bubble dynamics just end. People stop believing. And what was once a virtuous cycle suddenly morphs into vicious one.I believe that's the moment where we are now. And, as always, it's starting from the outside in.
Next, we look at the growing number of klaxons warning that central bank policies to prop up the global economic system are failing at an accelerating rate. There are many fronts on which this losing battle will be fought, but our biggest concerns lie in the bond markets -- ultimately and including U.S. Treasurys. Defensive maneuvers are the name of the game now for the prudent. Make sure you're one of them.
Blast Shields Up! Prepare for Incoming!
Get busy with defensive maneuvers -- now
* Central bank policies to prop up the global economic system are failing
* Developing countries and the PIIGS are the periphery where we can see the crumbling now accelerate
* The emerging Syria crisis could hardly come at a worse time & could have an explosive effect
* The steps every concerned individual should be taking now
When Help Turns to Harm
The story, so far, goes like this: A global credit crisis so worried the powers that be that they promised to do 'whatever it takes,' (Draghi) even if that means lying from time to time (Junker). This has only resulted in larger and larger interventions in the form of more aggressive QE programs (U.S. Fed), doubling of the monetary base (Japan), and repeated 'Final Bailout Ever' goal lines that keep getting moved back (ECB re: Greece).
Each of these interventions, in combination with ultra-low and highly distortive interest rates, has only served to make markets more speculative, more risk-tolerant, and therefore more prone to some future accident.
Puzzlingly, and certainly off-script, has been the steady rise in long-term U.S. interest rates, which we've been tracking as the most interesting development in an otherwise boringly placid set of global equity markets.
That began in early June. Now at August's end, we have a better picture to illuminate why that happened and where it's probably headed next.
The initial data came to us via the Treasury International Capital (TIC) report that tracks the net buying and selling of financial securities in both directions across the U.S. border. The June numbers were a real eye-opener, as they marked the first time in history that virtually every category of U.S. financial assets was net sold by foreigners. It also showed the total amount of selling was even greater than the prior record set in October of 2008:
Of course, this data is from June, and the TIC report, as good as it is, always comes out a month and a half after the fact. So we can only guess at what has happened since. (The July data will be released Sept 15).
The summary of the TIC data is this: Countries across the globe are now selling more U.S. paper than they are buying, and that is very much a game-changer. To understand why the game has changed, all we have to do is understand that the interventionist policies of the Fed, ECB, and Bank of Japan could never last forever and that eventually things would go into reverse.
This will prove to be quite surprising to many, but especially those who hold the belief that central banks actually have everything under control. Certainly we cannot disagree with the idea that central banks have a tremendous amount of power and that they can distort things for far longer than we might think possible, but eventually they cannot prevent reality from being what it is.
It is our view that the tide has now turned.
From the Outside In
So if the story was one of Western central banks flooding the world with liquidity (including Japan as an honorary 'Westerner' in this story), and of that "money" rushing into various foreign markets, driving bond and equity prices up in those same markets, while the respective central banks fought the coincident strengthening of their local currencies by recycling that money back into U.S. paper assets (principally Treasury paper) – well, that story eventually had to flip. We've already seen. . .
Final Note: We would like to thank Chris Martenson and Adam Taggart at Peak Prosperity for permission to reprint this article.
A new contagion is brewing
Gold could see new mega-highs according to prominent international bank economists
by Michael J. Kosares
While all eyes have been on Syria, what might turn out to be a much more insidious problem for the world economy has been bubbling below the surface -- and for the most part out of the public eye -- in what we used to call the "third world." In the end, what amounts to a new currency and debt debacle in the emerging world could undermine the world's stock markets, including Wall Street, the value of those country's currencies as well as the debt denominated in those currencies. The list includes China, India, Brazil, Argentina, Indonesia, South Africa, Russia and Mexico -- just to name a few (and we won't even get into the problems in the southern rim of Europe). Some see the developing situation as a repeat of the 1996-1997 Asian contagion, but it goes beyond the Pacific Rim, as just noted, to include most of the southern hemisphere.
Kevin Lai, who is chief regional economist at Daiwa Securities stated in a recent Financial Times article that "all this QE money has led to a massive credit inflation bubble in Asia. The crime has been committed, we just have the aftermath. During that process, there will be a lot of damage. . .It's like a margin call. Households will need to sell their assets. There will be a lot of wealth destruction." Later in the article he adds to those concerns. "The choice," he says, "is either you protect your currency or you protect domestic growth. You can do only one or the other. There is no easy way out." The former will lead to inflation; the latter to disinflation or stagflation.
To go by one example as to what the overall impact of the unfolding scenario might have on the gold market, we need only look to India where the ongoing collapse of the rupee has pushed gold demand into the upper limits. India's monetary authorities have reacted to the situation by imposing import controls on the metal in an attempt to keep the populace from fleeing the rupee for gold. Some commentators have gone so far as to suggest the possibility of a gold confiscation in India. Granted India's affinity to gold is like no other country's save China, nevertheless it provides clues as to how gold fundamentals might be affected if the contagion spreads. In fact, when you take into consideration that gold has been surging lately in overnight/overseas trading, the recent strength in the market might be attributable more to the global crisis than events in Syria -- where the mainstream financial media has focused its attention of late.
Top Society General strategist, Albert Edwards, believes that China may eventually be forced to devalue the remimbi and warns of a currency debacle in the not too distant future similar to the 1997 contagion.
"The emerging markets 'story' has once again been exposed as a pyramid of piffle. The EM edifice has come crashing down as their underlying balance of payments weaknesses have been exposed first by the yen's slide and then by the threat of Fed tightening. China has flipflopped from berating Bernanke for too much QE in 2010 to warning about the negative impact of tapering on emerging markets! It is a mystery to me why anyone, apart from the activists that seem to inhabit western central banks, thinks QE could be the solution to the problems of the global economy. But in temporarily papering over the cracks, they have allowed those cracks to become immeasurably deep crevasses. At the risk of being called a crackpot again, I repeat my forecasts of 450 for the S&P, sub-1% US 10y yields and gold above $10,000."
So today we have a prediction of $10,000 gold from an economist at one global super-bank (Albert Edwards at SocGen) to go with yesterday's prediction of $3500 per ounce by an economist at another global super-bank (Tom Fitzpatrick at CitiBank).
Long-term gold chart (log scale)
"Within the gold dynamic, we believe this recent correction was very similar to what the gold market witnessed from 1974 to 1976 -- as the equity markets recovered from the bear market bottom in 1974. In this instance, very recently gold went 14% below the 55-month moving average, exactly as it did back in 1976.
After the low in gold in 1976, the equity market peaked 4 weeks later. So far, following the $1,181 low in gold, the peak in the equity markets has been 5 weeks thereafter. And as we started that historic upward movement in gold, beginning in 1976, this was also when the equity market peaked and went into a corrective phase, and that is when gold really came into its own.
So we believe we are back into that track where gold is the hard currency of choice, and we expect for this trend to accelerate going forward. We still believe that in the next couple of years we will be looking at a gold price of around $3,500. As the gold/silver ratio plummets near 30 (see chart below), this would also suggest a silver price above $100."