The Perils of Stop and Go
Doug Nolan
China’s Aggregate Financing (approximately system Credit growth less government borrowings) jumped 2.860 billion yuan, or $427 billion – during the 31 days of March ($13.8bn/day or $5.0 TN annualized). This was 55% above estimates and a full 80% ahead of March 2018. A big March placed Q1 growth of Aggregate Financing at $1.224 TN – surely the strongest three-month Credit expansion in history. First quarter growth in Aggregate Financing was 40% above that from Q1 2018.
Over the past year, Aggregate Financing expanded $3.224 TN, the strongest y-o-y growth since December 2017. According to Bloomberg, the 10.7% growth rate (to $31.11 TN) for Aggregate Financing was the strongest since August 2018. The PBOC announced that Total Financial Institution (banks, brokers and insurance companies) assets ended 2018 at $43.8 TN.
March New (Financial Institution) Loans increased $254 billion, 35% above estimates. Growth for the month was 52% larger than the amount of loans extended in March 2018. For the first quarter, New Loans expanded a record $867 billion, about 20% ahead of Q1 2018, with six-month growth running 23% above the comparable year ago level. New Loans expanded 13.7% over the past year, the strongest y-o-y growth since June 2016. New Loans grew 28.2% over two years and 90% over five years.
China’s consumer lending boom runs unabated. Consumer Loans expanded $133 billion during March, a 55% increase compared to March 2018 lending. This put six-month growth in Consumer Loans at $521 billion. Consumer Loans expanded 17.6% over the past year, 41% in two years, 76% in three years and 139% in five years.
China’s M2 Money Supply expanded at an 8.6% pace during March, compared to estimates of 8.2% and up from February’s 8.0%. It was the strongest pace of M2 growth since February 2018’s 8.8%.
South China Morning Post headline: “China Issues Record New Loans in the First Quarter of 2019 as Beijing Battles Slowing Economy Amid Trade War.” Faltering markets and slowing growth put China at a competitive disadvantage in last year’s U.S. trade negotiations. With the Shanghai Composite up 28% in early-2019 and economic growth seemingly stabilized, Chinese officials are in a stronger position to hammer out a deal. But at what cost to financial and economic stability?
Beijing has become the poster child for Stop and Go stimulus measures. China employed massive stimulus measures a decade ago to counteract the effects of the global crisis. Officials have employed various measures over the years to restrain Credit and speculative excess, while attempting to suppress inflating apartment and real estate Bubbles. Timid tightening measures were unsuccessful - and the Bubble rages on. When China’s currency and markets faltered in late-2015/early-2016, Beijing backed away from tightening measures and were again compelled to aggressively engage the accelerator.
Credit boomed, “shadow banking” turned manic, China’s apartment Bubble gathered further momentum and the economy overheated. Aggregate Financing expanded $3.35 TN during 2017, followed by a then record month ($460bn) in January 2018. Beijing then finally moved decisively to rein in “shadow banking” and slow Credit growth more generally. Credit growth slowed somewhat during 2018, as the clampdown on “shadow” lending hit small and medium-sized businesses. Bank lending accelerated later in the year, notable for ongoing rapid growth in Consumer lending (largely financing apartment purchases). And, as noted above, Credit growth surged by record amounts during 2019’s first quarter.
China now has the largest banking system in the world and by far the greatest Credit expansion. The Fed’s dovish U-turn – along with a more dovish global central bank community - get Credit for resuscitating global markets. Don’t, however, underestimate the impact of booming Chinese Credit on global financial markets. The emerging markets recovery, in particular, is an upshot of the Chinese Credit surge. Booming Credit is viewed as ensuring another year of at least 6.0% Chinese GDP expansion, growth that reverberates through EM and the global economy more generally.
So, has Beijing made the decision to embrace Credit and financial excess in the name of sustaining Chinese growth and global influence? No more Stop, only Go? Will they now look the other way from record lending, highly speculative markets and reenergized housing Bubbles? Has the priority shifted to a global financial and economic arms race against its increasingly antagonistic U.S. rival?
Chinese officials surely recognize many of the risks associated with financial excess and asset Bubbles. I would not bet on the conclusion of Stop and Go. And don’t be surprised if Beijing begins the process of letting up on the accelerator, with perhaps more dramatic restraining efforts commencing after a trade deal is consummated. Has the PBOC already initiated the process?
April 12 – Bloomberg (Livia Yap): “The People’s Bank of China refrained from injecting cash into the financial system for a 17th consecutive day, the longest stretch this year. China’s overnight repurchase rate is on track for the biggest weekly advance in more than five years amid tight liquidity conditions.”
It’s worth noting that the Shanghai Composite declined 1.8% this week, with the CSI 500 down 2.7%. The growth stock ChiNext index sank 4.6%. Hong Kong’s Hang Seng Financials index fell 1.8%.
Despite this week’s pullback, Chinese equities markets are off to a roaring start to 2019. The view is that Beijing won’t risk the domestic and geopolitical consequences associated with a tightening of conditions. Globally, ebullient markets see a loose backdrop fueled by the combination of a resurgent Chinese Credit boom and dovish global central bankers. Rates and yields will remain low for as far as the eye can see, with a recovery of economic growth surely coming later in the year. In short, myriad risks associated with protracted Bubbles have trapped Beijing and global central bankers alike.
The resurgent global Bubble has me pondering Bubble Analysis. I often refer to the late-cycle “Terminal Phase” of excess, and how much damage that can be wrought by rapid growth of increasingly risky Credit. Dangerous asset Bubbles, resource misallocation, economic imbalanced, structural maladjustment, inequitable wealth redistribution, etc. In China and globally, we’re deep into uncharted territory.
I had the good fortune to subscribe to the German economist Dr. Kurt Richebacher’s newsletter for years - and the honor of assisting with “The Richebacher Letter” between 1996 and 2001. It was a tremendous learning opportunity.
My analytical framework has drawn heavily from Dr. Richebacher’s analysis. This week, I thought about a particular comment he made about the “middle class” suffering disproportionately from inflation and Bubbles: The wealthy find various means of safeguarding their wealth from inflationary effects. The poor really don’t have much protect.
They don’t gain much from the boom, and later have little wealth to lose during the bust. It is the vast middle class, however, that is left greatly exposed. They – society’s bedrock - tend to accumulate relatively high debt levels during the boom, believing their wealth is rising and the future is bright. They perceive benefits from home and market inflation, with rising net worth encouraging overconsumption and overborrowing. Meanwhile, inflation works insidiously on real incomes.
April 10 – Financial Times (Valentina Romei): “The middle classes in developed nations are under pressure from stagnant income growth, rising lifestyle costs and unstable jobs, and this risks fuelling political instability, a new report by the OECD has warned. The club of 36 rich nations said middle-income workers had seen their standard of living stagnate over the past decade, while higher-income households had continued to accumulate income and wealth. The costs of housing and education were rising faster than inflation and middle-income jobs faced an increasing threat from automation, the OECD said. The squeezing of middle incomes was fertile ground for political instability as it pushed voters towards anti-establishment and protectionist policies, according to Gabriela Ramos, OECD chief of staff.”
If Dr. Richebacher were alive today (he passed in 2007 at almost 90), he would draw a direct link between rising populism and central bank inflationism. Born in 1918, he lived through the horror of hyperinflation and its consequences. While he was appalled by the direction of economic analysis and policymaking, we would tell me that he didn’t expect the world to experience another Great Depression. He had believed that global leaders learned from the Weimar hyperinflation, the Great Depression and WWII. His view changed after he saw the extent that policymakers were willing to go to reflate the system after the “tech” Bubble collapse.
April 9 – Wall Street Journal (Heather Gillers): “Maine’s public pension fund earned double-digit returns in six of the past nine years. Yet the Maine Public Employees Retirement System is still $2.9 billion short of what it needs to afford all future benefits to all retirees. ‘If the market is doing better, where’s the money?’ said one of these retirees… The same pressures Maine faces are plaguing public retirement systems around the country. The pressures are coming from a slate of problems, and the longest bull market in U.S. history has failed to solve many of them. There is a simple reason why pensions are in such rough shape: The amount owed to retirees is accelerating faster than assets on hand to pay those future obligations. Liabilities of major U.S. public pensions are up 64% since 2007 while assets are up 30%...”
It was fundamental to Dr. Richebacher’s analysis that Bubbles destroy wealth. He spared no wrath when it came to central bankers believing wealth would be created through the aggressive expansion of “money” and Credit.
It should be frightening these days to see pension fund assets fall only further behind liabilities, despite a historic bull market and record stock values-to-GDP. When the Bubble bursts and Wealth Illusion dissipates, the true scope of economic wealth destruction will come into focus.
Don’t expect the likes of Lyft, Uber, Pinterest – and scores of loss-making companies - to bail out our nation’s underfunded pension system. Positive earnings (and cash-flow) doesn’t matter much in today’s marketplace. It will matter tremendously in a post-Bubble landscape where real economic wealth will determine the benefits available to tens of millions of retirees.
At near record stock and bond prices, pensions appear much better funded than they are in reality. With stocks back near all-time highs, Total (equities and debt) Securities market value is approaching $100 TN, or 460% of GDP. This ratio was at 379% during cycle peak Q3 2007 and 359% for cycle peak Q1 2000.
This is an important reminder of a fundamental aspect of Bubble Analysis: Bubbles inflate underlying “fundamentals.” Bullish analysts argue that the market is not overvalued (“only” 16.6 times price-to-forward earnings) based on next year’s expected corporate profits. Yet forward earnings guidance is notorious over-optimistic, while actual earnings are inflated by myriad Bubble-related factors (i.e. huge deficit spending; artificially low borrowing costs; share buybacks and financial engineering; revenues inflated by elevated Household Net Worth and loose borrowing conditions, etc.).
Such a precarious time in history. So much crazy talk has drowned out the reasonable. Deficits don’t matter, so why not a trillion or two for infrastructure? Our federal government posted a $691 billion deficit through the first six months of the fiscal year – running 15% above the year ago level. Yet no amount of supply will ever impact Treasury prices – period. A Federal Reserve governor nominee taking a shot at “growth phobiacs” within the Fed’s ‘temple of secrecy’, while saying growth can easily reach 3 to 4% (5% might be a “stretch”). Larry Kudlow saying the Fed might not raise rates again during his lifetime.
Little wonder highly speculative global markets have become obsessed with the plausible. Why can’t China’s boom continue for years - even decades - to come? Beijing has everything under control. Europe has structural issues, but that only ensures policy rates will remain negative indefinitely. Bund and JGB yields will be stuck near zero forever. The ECB and BOJ have everything under control. Bank of Japan assets can expand endlessly. Countries that can print their own currencies can’t go broke. And it’s only a matter of time until all central banks are purchasing stocks and corporate Credit.
Why can’t U.S. growth accelerate to 4%? High inflation is not and will not in the future be an issue. Disinflation is a permanent issue that the Fed and global central banks are now coming to recognize. With the Fed ready to cut rates and support equities, there’s no reason the decade-long bull market has to end. Old rules for how economies, markets and finance function – the cyclical nature of so many things – no longer apply.
It’s easy these days to forget about December. Let’s simply disregard the powerful confirmation of the global Bubble thesis. Bubbles are sustained only by ever increasing amounts of Credit. A mild slowdown in the Chinese Credit expansion saw markets falter, confidence wane and a Bubble Economy succumb to self-reinforcing downside momentum. And when synchronized global market Bubbles began to deflate, it suddenly mattered tremendously that global QE liquidity injections were no longer running at $200 billion a month.
As we are witnessing again in early-2019, when “risk on” is inciting leveraged speculation markets create their own self-reinforcing liquidity. It is when “risk off” de-risking/deleveraging takes hold that illiquidity quickly reemerges as a serious issue. And I would argue that it is the inescapable predicament of speculative Bubbles that they create ever-increasing vulnerability to downside reversals, illiquidity, dislocation and panic.
Beijing came to the markets’ and economy’s defense, once again. China’s problems – certainly including a historic speculative mania in apartments - are in the process of growing only more acute. China total 2019 Credit growth approaching $4.0 TN is clearly plausible.
The Fed came to the markets’ defense, once again. This ensures only greater speculative excess and more acute market and economic vulnerability – that markets view as ensuring lower rates and a resumption of QE. Moreover, the moves by China, the Fed and the global central bank community only exacerbate what has become a highly synchronized global speculative market Bubble.
Lurking fragility is not that difficult to discern, at least not in the eyes of safe haven debt markets. And sinking sovereign yields – as they did in 2007 – sure work to distract risk markets from troubling fundamental developments. Stop and Go turns rather perilous late in the cycle. Speculative Dynamics intensify – “risk on” and “risk off.” Beijing and the Fed (and global central banks) were compelled to avert downturns before they gathered momentum. But that only ensured highly energized “blow off” speculative dynamics and more problematic Bubbles.
The next serious bout of “risk off” will be problematic. Another dovish U-turn will not suffice. A significant de-risking/deleveraging event in highly synchronized global markets will only be (temporarily) countered with QE. And with the markets’ current ebullient mood, there’s no room for worry: of course central bankers will oblige with more liquidity injections. They basically signaled as much.
Timing is a major issue. Especially as speculative Bubbles turn actutely unstable, any delay with central bank liquidity injections will boost the odds things get out of hand. Central bankers, surely in awe of how briskly intense speculative excess has returned, may be hesitant to immediately accommodate. Heck, the way things are going, it may not be long before they question the wisdom of their dovish U-turn. I have a difficult time believing Chairman Powell – and at least some members of the FOMC – have discarded Financial Stability concerns.
The way things are setting up – intense political pressure, the election cycle and such – they will likely be reluctant to return to rate normalization. Yet the crazier things get in the markets the more cautious they will be next time in coming to a quick rescue. The Perils of Stop and Go.
No “Freedom, equality, brotherhood”, “Motherland or death”, or “Power to Councils, peace to the people, bread to the hungry, factories to the worker, and land to the farmers” – none of these masterpieces of world populism were used. And that’s why what happened was understood in Russia by only a few people. And they made such comments that the masses either did not fully listen to them or did not read up to the end. Or they did listen to the end, but didn’t understand anything.
But they should’ve, because the world changed so cardinally that it is indeed time for Nathan Rothschild, having crumpled a hat in his hand, to climb onto an armoured Rolls-Royce [a joke referencing what Lenin did – ed], and to shout from on top of it to all the Universe: “Comrades! The world revolution, the need for which revolutionaries spoke about for a long time, came true!” [paraphrasing what Lenin said – ed] And he would be completely right. It’s just that the results of the revolution will be implemented slowly, and that’s why they are imperceptible for the population. But the effects, nevertheless, will be soon seen by absolutely everyone, up to the last cook who even doesn’t seek to learn to govern the state son.
This revolution is called “Basel III”, and it was made by the Bank for International Settlements (BIS). Its essence is in the following: BIS runs the IMF, and this, in turn, runs the central banks of all countries. The body of such control is called BCBS – the Basel Committee on Banking Supervision. It isn’t just some worthless US State Department or Congress of American senators. It’s not a stupid Pentagon, a little Department of the Treasury, which runs around like the CIA’s servant on standby, or a house of collective farmers with the name “White House”.
This isn’t even the banks of the US Federal Reserve, which govern all of this “wealth”. This is a Government of all of them combined. That real world Government that people in the world try not to speak about aloud.
BCBS is the Politburo of the world, whose Secretary General, according to rumours, is comrade Baruch, and the underground structure of the Central Committee is even more secret.
It has many euphemisms, the most adequate of which is “Zurich gnomes”. This is what Swiss bankers are called. Not even owners of commercial banks, but namely those ordinary-looking men sitting in the Swiss city of Basel who Hitler – who tried to attach the whole world to the Third Reich, and who preserved neutrality with Switzerland during all the war – didn’t dare to attack. And, as is known, in Switzerland, besides Swiss rifleman, in reality there isn’t even an army. So who was the frenzied Fuhrer afraid of?
Nevertheless, the “recommendations” that were made by BCBS on March 29th 2019 were immediately, at the snap of the fingers, accepted for execution by all the central banks of the world. And our Russian Central Bank is not an exception. There is even the statement of the press service of the Central Bank of the Russian Federation posted on the official website of the Central Bank. It is called “Concerning the terms of implementation of Basel III”. The planned world revolution was in 2017 (magic of dates and digits or just a coincidence [a reference to 1917 – ed]?), but it has started only now.
Its essence is simple.
In the world the system of exclusive dollar domination established in 1944 in Bretton Woods and reformed in 1976 in Jamaica, where gold's equivalency to money was cancelled. The dollar became world money and gold became an ordinary exchange good, like metal or sugar traded in London on commodity exchanges. However, this was determined there by only three firms of the “Pool of London” that belong to an even smaller number of owners, but, nevertheless, it’s not gold, but oil that became the dollar filler.
We have lived in such a world ever since. Gold was considered as a reserve of the third category for all banks, from central to commercial ones, where the reserves were, first of all, in dollars and bonds of the US. The norms of Basel III demand an increase, first of all, in monetary reserves. This impeded the volumes of monetary resources of banks that could be used to carry out expansion, but it was a compulsory measure for saving the stability of a world banking system that showed to be insufficient in a crisis.
In Russia pseudo-patriots were very much indignant at this, demanding to reject Basel III, which they called a sign of “a lack of sovereignty”. In reality, this is a quite normal demand to observe international standards of bank security, which were becoming more rigid, but since we [Russians – ed] were not printing dollars, so of course it had an impact on us. And since the alternative is an exit from world financial communications into full isolation, so our authorities, of course, did not want to accept such nonsense that was even designated by pseudo-patriots as a “lack of sovereignty”. To call sovereignty – freedom, to put your head in the noose is, let’s agree, a strange interpretation of the term.
The Basel III decision meant that gold as a reserve of the third category was earlier estimated at 50% of its value on the balance sheets of world banks. At the same time, all owners of world money traded in gold not physically, but on paper, without the movement of real metal, the volume of which in the world wasn’t enough for real transactions. This was done in order to push down the price of gold, to keep it as low as possible. First of all, for the benefit of the dollar. After all, the dollar is tied to oil, which had to cost no less than the price of one gram of gold per barrel.
And now it was decided to place gold not in the third, but “just” in the first category. And it means that now it is possible to evaluate it not at 50, but at 100% of its value. This leads to the revaluation of the balance sheet total. And concerning Russia, it means that now we can quietly, on all legal grounds, pour nearly 3 trillion rubles into the economy. If to be precise, it is 2.95 trillion rubles or $45 billion at the exchange rate in addition to the current balance sheet total.
The Central Bank of the Russian Federation can pour this money into our economy on all legal grounds. How it will happen in reality isn’t yet known. Haste here without calculating all the consequences is very dangerous. Although this emission is considered as noninflationary, actually everything is much more complicated.
During the next few months nothing will change in the world. The U-turn will be very slow. In the US the gold reserves officially total 8133.5 tons, but there is such a thing as a financial multiplier: for every gold dollar, the banks print 20-30 digital paper ones. I.e., the US can only officially receive $170 billion in addition, but taking into account the multiplier – $4.5 trillion. This explains why the Federal Reserve System holds back on increasing interests rates and so far maintains the course towards lowering the balance sheet total – they are cautious of a surge in hyperinflation.
But all the largest states and holders of gold will now revalue their gold and foreign exchange reserves: Germany, Italy, France, Russia, China, and Switzerland – countries where the gold reserves exceed 1,000 tons. Notice that there is no mumpish Britain in this list. Its reserves are less than 1000 tons. Experts suspect that it is perhaps not a coincidence that the dates of Brexit and the date of Basel III coincide. The increased financial power of the leaders of Europe – Germany and France – is capable of completely concluding the dismantlement of Britain on the European continent. It was necessary to get out as soon as possible.
Thus, it seems that it is possible to congratulate us – the dollar era lasting from 1944 to 2019 has ended. Now gold is restored in its rights and is not an exchange metal, but world money on an equal basis with the dollar, euro, and British pound. Now gold will start to rise in price, and its price will rise from $1200-1400 per troy ounce up to $1800-2000 by this autumn. Now it is clear why Russia and China during all these years so persistently decanted its export income into the growth of gold reserves. There is now such a situation where nobody in the world will sell gold.
Injections of extra money will suffice for the world economy for 5-6 months. In the US this money can be used to pay off the astronomical debt. Perhaps this wasn’t Zurich’s last motive for making such a decision. But after all, the most important thing is an attempt to slip out from under the Tower of Pisa that is the falling dollar.
Since the dollar and oil are connected, the growth of the price of gold will directly affect the growth of the price of oil. Now a barrel costs as much as 1.627 grams of gold. A price growth will cause the world economy – where 85% of the money dollar supply turns into stock surrogates like shares, bonds, and treasuries – to cave in. The stock exchange will not be able to bundle together such an additional mass of money any more.
It will be good for oil industry workers – even, perhaps, best of all, but not for long. The economical crash because of expensive oil will become a crash for all oil industry workers too. It is precisely this that is the main reason why our rights for additional emissions can remain unused in full volume, although a gift in such a form will not be completely ignored. The May 'Decrees of Putin' in the current context are being understood completely differently. Russia runs away from the oil-based economic model in all ways. Including by political reforms and changing the elites.
However, why is the decision of Basel a revolution?
Because from the autumn the financial flood in the world economy will begin. It will entail the acceleration of Russia and China’s isolation from the dollar system and the crash of the economies that completely depend on the dollar – the vassal countries of the US. It will be worst of all for them. And this means that the reasons for increased distancing between the EU and the US will increase in number manyfold.
A redrawing of the map of global unions awaits the world.
And the redrawing of these unions will be carried out not least by military methods. Or with their partial use, but in one way or another, reasoning involving force in the world will increase almost to the level of guaranteed war. “Almost” is our hope for rescue, because the US loses all main instruments of influence on this world. Except force.
But it’s not for this purpose that the “Zurich gnomes” created this world, so that the US is so simply turned into radioactive ashes. The US will be drenched with cold water like a broken down nuclear reactor, while the world has entered the zone of the most global transformations over the past few centuries. The revolution that so many waited for, were afraid of, and spoke so much about has started. Buckle up and don’t smoke, the captain and crew wish you a pleasant flight.
