I think the end of this bubble is beginning, as yields spike and the dollar soars:
“Our revels now are ended. These our actors,
As I foretold you, were all spirits and
Are melted into air, into thin air:
And, like the baseless fabric of this vision,
The cloud-capp’d towers, the gorgeous palaces,
The solemn temples, the great globe itself,
Yea, all which it inherit, shall dissolve
And, like this insubstantial pageant faded,
Leave not a rack behind. We are such stuff
As dreams are made on, and our little life
Is rounded with a sleep.”
― William Shakespeare, The Tempest
The economy is not strong. There are 100+ million adults not working (“not in the labor force”) out of a total population of 325 million, to say nothing of the myriad of government employees who are employed, but not contributing any value to the economy.
Consumption is being sustained by debt, both private borrowing and government money-printing. By January 2009, the United States had accumulated $10.6 trillion in debt. The gross national debt – just federal government debt – stands at $19.7 trillion as of the end of FY2016. Spending is on a pace to add another $2.4 trillion this fiscal year (2017), surpassing $21 trillion by next September. Krugman applauds, and of course this is Obama, not Trump. Yet.
Debt-funded consumption in excess of income has crowded out savings and therefore investment. As investment has declined, so, logically enough, productivity growth has fallen (see previous post). Simultaneously, government has been growing, making a lethal cocktail for real household disposable incomes, which have been declining for years. Pensioners who think they are in good shape are not noticing that defined-benefit pension funds are already starting to cut benefits and many, especially state and local government funds, are woefully under-funded. Social Security is in negative cash flow, and drawing on the general tax revenue pot to make up the difference. The stock market is ludicrously over-valued and promises zero or negative returns to pension funds for years to come. As Margaret Thatcher notably said “Socialist governments traditionally do make a financial mess. They always run out of other people’s money. It’s quite a characteristic of them.”
Powerful deflationary forces are being unleashed. The world is awash in oil and efforts to keep the price up will eventually fail. OPEC in aggregate will not cut supply because its governments (as well as the non-OPEC ones) depend on the flow of oil money to stay in power. I expect oil to reach the lower $20s if not below. Most of the world is engaged in a race to the bottom, cutting interest rates to devalue their currencies and boost exports. They are therefore exporting deflation to the US. I expect to see CAD in the 0.60s and the EUR in the 0.80s. Consumer price inflation in the US appears comparatively strong due to the inclusion of OER¹ in the CPI, which is not done elsewhere, and due to the uncontrolled rise in healthcare and education prices, funded by government subsidies and debt. These prices end up being a form of taxation by the 0.01%, who are on the receiving end. The protest vote in the US election should be no surprise.
OER, a completely fictional number to start with, is high as a result of low interest rates financing housing bubbles. These will end as badly as the previous lot. I choose not to be a homeowner, largely because I don’t want to face a huge capital loss.
In short, the economy is a Potemkin village. Things are not as they are made out to be. Even a fractional increase in rates may trigger a deflationary crisis, especially considering the shortage of dollar liquidity outside the US.
¹ OER, Owner’s Equivalent Rent, is weighted about 25% of the CPI basket. It is estimated by a telephone survey of selected homeowners, asking them how much they think it would cost to rent their a property like theirs.It has nothing to do with what it actually costs them to own and live in their properties. I am not kidding. Now do you think CPI means anything?