Retail Traders & Investors Squeezed to Buy High-Risk Assets Again

Yes, we certainly live in interesting times.  This, the last segment of our multi-part article on the current Q2 and Q3 2020 US and global economic expectations, as well as current data points, referencing very real ongoing concerns, we urge you to continue using common sense to help protect your assets and families from what we believe will be a very volatile end to 2020. 
If you missed the first two segments of this research article, please take a moment to review them before continuing.
On May 24th, 2020, we published this research article related to our super-cycle research. It is critical that you understand what is really happening in the world as we move through these major 21 to 85+ year super-cycles and apply that knowledge to the data we have presented in the first two segments of this research post.  Within that article, we quoted Ray Dalio from a recent article published related to his cycle research.
“In brief, after the creation of a new set of rules establishes the new world order, there is typically a peaceful and prosperous period. As people get used to this they increasingly bet on the prosperity continuing, and they increasingly borrow money to do that, which eventually leads to a bubble. 
As prosperity increases the wealth gap grows. Eventually, the debt bubble bursts, which leads to the printing of money and credit and increased internal conflict, which leads to some sort of wealth redistribution revolution that can be peaceful or violent.  
Typically at that time late in the cycle, the leading empire that won the last economic and geopolitical war is less powerful relative to rival powers that prospered during the prosperous period, and with the bad economic conditions and the disagreements between powers, there is typically some kind of war. Out of this debt, economic, domestic, and world-order breakdowns that take the forms of revolutions and wars come new winners and losers. Then the winners get together to create the new domestic and world orders.”
That rather chilling statement suggests one thing that we all need to be aware of at this time: what the current and future economic cycles will likely present and how the world will navigate through this process of a cycle transition.
In our opinion, the massive cycle event that is taking place may not disrupt world order as Mr. Dalio suggests.  There is a very strong likelihood that credit/debt processes may become the “collateral damage” of this cycle transition, but not much else changes. 
The world order and powerful nations across the globe are keenly aware that starting WWIII because of a credit/debt crisis is not in anyone’s interest.  The world has enough capability to address these concerns without blowing the planet to pieces in the process.
Our super-cycle research suggests we have entered a period that is very similar to 1919~1920 – a “roaring good time” most likely has already extended beyond reasonable levels.  Our research suggests a massive peak in cycle events near 2023~24 after an already substantial support cycle from 2007~08 to 2023~24. 
This span of time, roughly 17 years, is very likely to be a blend of the Unraveling & Crisis phases of the super-cycle.
We believe the broader Crisis phase will continue to transition throughout a span of time lasting well into 2031~2034. 
This suggests we may have another 11 to 15+ years of a massive unwinding cycle throughout the globe.


Our research team believes the COVID-19 virus event sent these super-cycles into Warp-Speed recently.  The US stock market was poised to rally early in 2020 and may have experienced a multi-year rally had it not been for the COVID-19 disruption that took place in Mid-February. 
The destruction of the economy related to the COVID-19 shutdown is still playing out.  Recent news suggests 41% of businesses that closed on Yelp have shut down permanently
Now, consider that this means for consumers and local governments related to earning and revenue capabilities?  Workers have been fired and have completely lost earnings capabilities. 
Business owners now face credit/debt issues and possible bankruptcies.  Local governments have lost revenue from taxes, payroll, sales, and fees and permits. 
This destructive cycle continues until the economy has shed the “excess” within all segments of core economic function.
Within the first two segments of this article, we’ve highlighted numerous data points and charts to more clearly illustrate the current global market environment. 
We have to consider the reality of what is happening on the ground throughout the world and, in particular, what is happening in the US and most major economies right now. 
If 30 to 40%, or more, of local businesses, are closing permanently, this suggests that 30 to 50% of tax revenues for local governments will also vanish.  It also suggests that these displaced workers and business owners will need to find new sources of income/revenue over the next 12+ months.
As much as we would like to think a “V-shaped” recovery is highly likely, it’s not going to happen is 30 to 50% of the US economy is suffering at levels being reported currently.  Yes, you could have investors pile into the US stock market because they believe the US economy is the most likely to develop a strong recovery in the future, but that will likely happen after the excess has been processed out of the economy through a business/credit contraction phase. 
The current stock market valuation levels seem to ignore the fact that consumer and business activity has likely collapsed by a minimum of 25 to 45% (or more) over the past 90+ days – and may not recover to levels anywhere near the early 2020 economic activity levels.
Still, if you listen to the news and watch the data related to the real estate market, you would think there has been no disruption in the US economy.  Supposedly, homes are still selling quickly and the market is very robust.  The Case-Shiller 20 city home price index is well above 220, the highest levels ever reached for this index. 
This suggests home prices have risen to levels that are likely 15% to 30% higher than the peak levels in 2006-2007 – yet we’ve just experienced a massive economic disruption across the globe where 25% to 45% (or more) of our economic earning and income capability has vanished. 
Read between the lines if you must – something doesn’t seem to be reporting valid data at the momento.

The Consumer Price Index has recently started falling.  The only times in history where the CPI level has initiated substantial downward trends are throughout major recessionary or contraction economic phases.  It is very likely that the decrease in the CPI level is reflecting a supply glut pricing effect as a result of the COVID-19 shutdown process. 
When consumer activity drops dramatically while supply channels continue as normal, a supply glut happens.  When this happens, price levels must adjust and address the over-supply of goods and raw materials stacking up in warehouses, containers, and ships.
If the consumers earning and spending capabilities are disrupted long enough, the manufacturing and supply side of the equation can’t react fast enough to the immediate decline in demand.  Therefore, the supply glut continues for a period of time as manufacturers attempt to scale-down the production levels to address for proper demand levels. 
Obviously, lower demand equates to lower sales volumes and lower-income levels for manufacturers and sales outlets.  This translates into layoffs at the factories, sales outlets, and all levels in between. 
The cycle continues like this until an equilibrium is reached between supply and demand.

This translates into lower-earning expectations for much of the US and foreign markets compared to previous expectations.  While the S&P 500 stock price levels have recovered to nearly the early 2020 price levels, it seems rather obvious to us that Q2 earnings data will likely shock the markets with dramatically lower results and forward expectations – in some cases these numbers may be disastrous.
When Nike released their Q4 (May 2020) earnings and showed a nearly $800 loss because of the early COVID-19 shutdown, this should have presented a very real understanding of how all levels of retail, manufacturing, and consumer services would also likely show a dramatic economic contraction taking place. 
Currently, we are watching for news of new US businesses entering the bankruptcy process. 
This recent article suggests business bankruptcies are skyrocketing higher – yet are still below the 2008~09 levels.  Please keep in mind that we are only 90+ days into this COVID-19 virus event – so this data is still very early reporting.
Still, the numbers are very telling…
“US filings totaled 3,427 on June 24, according to data from Epiq seen by the Times. The reading also closes in on the financial-crisis reading of 3,491 companies entering bankruptcy in the first half of 2008."
If you are reading the same data I read from that statement, the difference between the 2008 levels and current levels is only 64 additional bankruptcies in the US – less than a 2% difference in total bankruptcies.


The reality of the current market conditions is that we are only 90+ days into this processing of all this new data and attempting to understand what is likely to become a new operating norm for global economies. 
In 2008-09, the unwinding process took place over a full 12 to 16-month process.  The recovery process too much longer – more than 5+ years. 
Currently, the unwinding process of the COVID-19 collapse took less than 30 days and the recovery process took a little over 90 days.
If our research team is correct, the speed at which the current recovery took place is nothing more than a reactionary recovery to a problem that was sudden and full of uncertainty.  The Q2 data will likely solidify the uncertainty and unknowns into very real economic values (losses) and may shock the US stock market into a downward price reversion phase.
We believe one of the best hedging tools any skilled technical trader can use right now is Gold and Silver (Precious Metals). 
We continue to urge our friends and followers to maintain a portion of our portfolio in precious metals as a hedge against risk and unknowns throughout most of 2020 and beyond. 
If the Q2 data does what we believe it will do, shock the markets, then a moderately violent and volatile downside price move is pending.  Simply put, you can’t destroy 25 to 45% of an active economy and displace millions of workers while sustaining high price valuations – unless you have a bubble-like euphoric investor mentality. 
That, ladies and gentlemen, is exactly what we believe is happening right now.


The super-cycle event that took place between 1920 and 1929 was nothing more than a euphoric bubble-like event where investors and traders had “no fear”.  Everyone was leveraging everything they could to try to jump into the markets because they believed nothing could stop the rally.  
Keeping this in mind, you may want to read this recent research post about parabolic bubbles we published on June 23, 2020. 
When bubbles burst, most commonly done when investors suddenly come to their senses in terms of real valuation expectations, the downside price moves can be extremely distressing.  We urge you to properly understand that may happen with Q2 earnings data and new announcements. 
We also urge you to understand the COVID-19 virus event may have moved the super-cycles into some type of “warp-speed”.  If our research is correct, we could be speeding towards a massive unwinding/crisis cycle phase very similar to 1929~1945.
Please read all the previous segments of this article and please properly position your portfolio to protect your assets.  There will be lots of other trades in the future for all of us.  These bigger price moves are not suddenly going to end because of Q2 or Q3 data. 
Be patient and stay protected.  Q2 data is almost here and we are about to see some realization of the COVID-19 economic destruction process. 

The work-from-home revolution is only just beginning

With new tools to remove barriers within and between organisations, the crisis brings alluring glimpse of the future

Richard Waters

Many people will hope to spend part of their working lives out of the office long after the pandemic has passed © Chris Ratcliffe/Bloomberg

Halfway through a year where working life has been upended, there has been a spate of the kind of “Future of Work” reports beloved by consultants, analysts and business managers.

Weighty predictions about how working life will be transformed by technology have been a staple of the digital era. Ever since the term “telecommuting” was invented in the early 1970s, idealised visions for new ways of working have held a powerful allure, even if the reality has fallen short.

So when real change is in the air, the imagination leaps ahead. There are 1.25bn “knowledge workers”, or people who spend at least one hour of their working day in front of a screen, according to tech research firm Forrester. A large portion of them have been forced to spend much of this year on Zoom.

Wall Street has decided that this heralds a new era, driving up the stock prices not just of Zoom, but of many other software companies involved in communications and collaboration, along with all the technologies needed to support remote workers.

The WFH boom will recede. But it is already clear that many people hope to spend part of their working lives out of the office long after the pandemic has passed — and that they and their managers believe they can be at least as productive. Even those who return full-time have had a taste of new ways of working.

That makes this year’s experiment in WFH a catalyst for a set of changes that have been decades in the making. They extend beyond remote work, and include long-running efforts to make workers more productive by breaking down barriers within an organisation, and between organisations. When face-to-face meetings become impossible, it allows a new, digital-first way of working to seep in.

Workplace messaging service Slack gave a glimpse this week of how these forces are coming to reshape work in the age of cloud computing. Slack is easily pigeonholed as a chat app for office workers, but its channel-based communications have become a way to harness disparate workers around a shared goal.

It also integrates with an organisation’s other software applications, making it a digital backbone for companies that operate in the cloud. The fact that Microsoft has put Teams, its own rival to Slack, at the centre of its worker collaboration and productivity efforts shows how important such services are becoming to the way work gets done.

Slack took a step further this week by letting people from as many 20 different organisations join a real-time discussion, while also plugging in their corporate applications to let data flow beyond their corporate “firewalls”. Its new service, Slack Connect, is a glimpse of how work around a shared project that spans different organisations could become more of a real-time exchange, replacing the email chains that have been a staple of work life for two decades.

This kind of change to the nature of work is difficult to pull off. Workers need a high level of trust in people beyond their own organisation, while their employers need to be able to limit the data that can be shared while meeting all their compliance needs. A new channel like this may only replicate much of what workers have already been doing in personal meetings or ad hoc emails, but it still takes a mental leap to build new digital rails across organisational boundaries.

The accelerated adoption of tools like Slack during the coronavirus crisis has also highlighted another aspect of the cloud software era. Services that were once dismissed as little more than “features” — nice ideas that would eventually be rolled up into broader services — have become the foundation for large businesses in their own right. The software-as-a-service age has brought a seemingly endless subdivision of software products like this, in the process spawning entire new categories.

Take communications. As Slack’s chief executive, Stewart Butterfield, points out, there has been an “unbundling” of communications into video calling, messaging and voice, and companies such as Zoom are discovering the huge markets this can open up. The inevitable pendulum-swing of the tech world means there are already attempts to rebundle all of these services, but in the meantime the category killers are finding a ready market.

Inevitably, parts of the WFH revolution of 2020 will come to be seen as a false dawn. Many workers will be only too glad to get out from behind the video conferencing screens. The suites of cloud applications sold by companies like Google and Microsoft will exert a gravitational pull, as employers try to limit their spending on whizzy new apps.

But the crisis has still brought an alluring glimpse of a future way of working, as well as the new software fortunes it will create.

China Versus the World

An Emboldened Beijing Seeks to Consolidate Its Power

Beijing is ruthlessly expanding its power. But resistance is growing around the world -- and Germany will soon play a key role.

By Georg Fahrion, Christiane Hoffmann, Laura Höflinger, Peter Müller, Jörg Schindler und Bernhard Zand

The Galwan Valley in the Himalayas is located at an altitude of 4,000 meters (13,123 feet). It is a remote area where the slopes are covered in snow all year round. Last week, the valley made an appearance on the global political stage.

China and India, the two most populous countries on the planet faced off along their -- disputed -- Himalayan border. The exact location of where one country ends and the next begins has long been unsettled. Indeed, the two countries went to war over it in 1962.

As the two nuclear-armed states clashed, at least 20 Indian soldiers were killed on the night of June 15. There were also reports of deaths on the Chinese side.

For the first time in almost half a century, the rivalry between the two neighbors has cost human lives. No shots are said to have been fired. Patrols in the area generally don't carry firearms. Both governments are apparently aware that they could easily trigger a world war.

The soldiers may have beaten each other to death with stones and clubs. Some are said to have fallen into a ravine during the fighting.

The incident shows how quickly the situation in Asia can escalate and how a cold war can turn into a hot one at any given moment, despite the high level of caution.

In the Galwan Valley, claims and interests collide. On the one side, there's the People's Republic of China, which is expanding its power in the region. In late April, while India was preoccupied with a worsening coronavirus crisis, the Chinese army is said to have moved troops into the border area and encroached on Indian territory in several places. At least that's what the government in New Delhi says.

On the other side, there are countries like India that don't want to put up with China's expansionism.

It isn't only the Chinese-Indian relationship that's tense. Resistance against China is growing in many parts of the world. Conflicts sometimes take place openly, as in the case of India, and at others covertly.

"What we are seeing now is just the beginning of a global backlash," says Indian geostrategist Brahma Chellaney.

Decoupling From China

Beijing's growing strength is leading to a "fundamental shifting" of the global balance of power, says NATO Secretary General Jens Stoltenberg, adding that in the future, the Western military alliance should cooperate more closely with "like-minded countries," such as Australia, Japan, New Zealand and South Korea.

NATO must "stand up for a world built on freedom and democracy, not on bullying and coercion." Stoltenberg didn't have to mention China by name. Everyone knows who he meant.

At the center of the global struggle for power are the United States and China, an old superpower and a new one. Their rivalry has even spilled over into the search for a coronavirus vaccine.

Ever since Richard Nixon was president in the 1970s, Washington has pursued a policy of rapprochement with Beijing. The U.S. aimed to integrate the formerly isolated and impoverished empire into the international system, in the hope that China would align itself with the West. In economic terms, this formula is known as "change through trade." Every successive U.S. administration has more or less adhered to this approach -- until Donald Trump came along.

In 2018, U.S. Vice President Mike Pence delivered a speech at the Hudson Institute in Washington that marked a departure from traditional politics. He accused China of expansionism, unscrupulousness and an uninhibited display of power. "We will not be intimidated and we will not stand down," he said.

Today, Washington no longer speaks of rapprochement, but of "decoupling" from China.

The U.S.' change of course was preceded by a shift in awareness on the Chinese side. For a long time, the country had followed the directive of the reformist politician, Deng Xiaoping. "Taoguang yanghui," it went: "Hide your strength and wait and see." But as early as the global financial crisis in 2007, the notion has been spreading in China that its own system is not only equal to the West's, but perhaps even superior.

Provocative Acts

At a Communist Party conference in 2017, Chinese President and party leader Xi Jinping made it clear that he thought China's moment had arrived. He proclaimed a "new era" in which the People's Republic would move "to the center of the world stage."

The American sinologist Orville Schell recently argued in an essay that Trump's policy of "America First" and Xi's "Chinese Dream" of re-emerging as a global power would be difficult to reconcile. Schell's take is that a new Cold War is all but certain. At best, it could be limited, not prevented.

This antagonism has also forced other countries to pick a side. And even though many players may feel alienated by Trump's misguided policies, hardly anyone is prepared to get behind China.

Many people in India have long felt threatened by their big neighbor, and not only since the conflict in the Galwan Valley.

In early June, India and Australia announced an agreement by which the two nations would grant one another use of their military bases. The U.S., Japan, Australia and India -- known as the "Quad" in geopolitical parlance -- could hold joint military exercises in the Indian Ocean for the first time in over 10 years.

The countries have been alarmed by developments in the South China Sea, where there has been a growing number of incidents in recent months. Within a short period of time, Beijing officially incorporated islands there into Chinese administrative districts, carried out geological exploration work in Malaysian waters, the Chinese coast guard rammed a Vietnamese fishing boat and a Chinese corvette aimed at a Filipino warship.

Hanoi, as well as the otherwise reserved governments in Manila and Kuala Lumpur, protested.

The U.S. sent three aircraft carriers to the region. The last time the U.S. Navy displayed such strength in the Indo-Pacific was three years ago. Last week, a U.S. military aircraft also flew over Taiwan, a country that is critical of Beijing and with which Washington maintains exceptional relations. China, which considers Taiwan a part of its own territory, called the maneuver a "provocative act."

Strained Relations

It's likely no coincidence that the conflict between China and the West is coming to a head when the world is distracted by the coronavirus, a disease that first broke out in China of all places.

Shi Yinhong, a professor of politics at Renmin University in Beijing, believes that on the one hand, China is feeling battered and oppressed by accusations of having caused the pandemic, and hit by the collapse of its economy. On the other hand, the leadership in Beijing also sees the crisis as an opportunity to expand its power. Their logic is such: We may be weak, but the others are currently much weaker.

The rhetoric of Chinese diplomacy has changed significantly. Back in the 1990s, some Communist Party members sniped at the Ministry of Foreign Affairs, calling it the "Ministry of Traitors," because its diplomats were supposedly so respectful toward the West. Today, the so-called "Wolf Warriors" call the shots there. This new generation of foreign policy makers gets its name from a patriotic blockbuster in which a cool Chinese fighter faces an American mercenary -- with an impressive arsenal of weapons and catchy sayings.

One representative of the new line is Zhao Lijian, who was promoted to Foreign Ministry spokesman after distinguishing himself as a polemical Twitter user during a deployment in Pakistan. In January, China's ambassador to Sweden, Gui Congyou, compared journalists who criticized China to lightweight boxers foolishly provoking a heavyweight.

Not all Chinese diplomats supported his confrontational style. But moderates like Cui Tiankai, China's ambassador in Washington, are being marginalized, or they're on their way to retirement. "Almost all of our foreign relations are in a bad way," says policy professor Shi Yinhong.

Sometimes things escalate beyond mere snappy comments. China at times also uses hard economic pressure to impose its will on its opponents. Australia, whose most important trading partner by far is China, is feeling the effects of this. The government in Canberra had demanded an independent investigation into the outbreak in Wuhan.

As a result, Beijing banned the import of beef from four Australian slaughterhouses and imposed an 80-percent tariff on Australian barley. Chinese tourists were also warned against traveling to Australia due to an alleged threat of racist attack. Most recently, China's Ministry of Education advised students not to study in Australia.

Canberra's attitude toward China has tended to only cool relations further. "We are an open-trading nation," said Prime Minister Scott Morrison, "but I’m never going to trade our values in response to coercion from wherever it comes."

Political Headwinds

Nowhere is China's determination to instrumentalize the coronavirus crisis for its own benefit more evident than in Hong Kong. In May, Beijing announced that it would impose a new security law on the former British crown colony. This would allow China's Ministry of State Security to operate on Hong Kong territory for the first time.

Critics view this not only as an end to freedom of expression in Hong Kong, but also as a breach of the international treaty between China and Britain in which they agreed that the city should enjoy a "high degree of autonomy" until 2047.

On Wednesday, the foreign ministers of the G-7 expressed in a joint statement their "grave concern" about China's actions.

Above all, it's the former colonial power Britain that is under pressure. As late as 2015, then-Prime Minister David Cameron was still raving about an impending "golden era" of relations between Britain and China. Beautiful photos of Cameron and Xi were staged, showing them sipping lukewarm ale in a pub in the English countryside.

Cameron's successor, Boris Johnson, describes himself as "sinophile" and went to great lengths as the mayor of London to attract Chinese investors. But now, he feels compelled to take a clear position.

If China follows through with its new security law, Johnson said London would have "no choice" but to offer 12-month visas to the nearly 3 million Hong Kong citizens who either hold or are entitled to a British overseas passport. It would offer those people a "route to citizenship."

Other signs are also pointing to conflict. For one, there's the fact that Britain is reviewing its January decision to involve the Chinese network equipment supplier Huawei in the expansion of the British 5G network. China's ambassador to the United Kingdom, Liu Xiaoming, threatened that if the British were to exclude Huawei, Chinese companies could cancel the construction of a nuclear power plant and a new network of tracks for high-speed trains on the island.

U.S. Secretary of State Mike Pompeo jumped at the news: If China backed out, he promised, the U.S. would happily pick up the slack.

From Competitor to Rival

China is encountering political headwinds not only from governments, but from parliaments as well. The Conservative member of parliament Tom Tugendhat, the chairman of the foreign affairs committee, founded the China Research Group in the British parliament.

Its members are critical of China and have been lobbying for months to push back Chinese influence in many spheres of British life. "China is challenging the rules-based international system," says Tugendhat. "We must defend it."

An international group of parliamentarians who banded together in early June as part of the so-called Inter-Parliamentary Alliance on China wants to achieve a similar effect. Co-chairs include representatives from such diverse camps as Republican Senator Marco Rubio, an American, and Reinhard Bütikofer, a German member of the European Parliament with the Green Party.

"Of course, you have to work with China," says his party colleague, Omid Nouripour, a member of the German parliament who is also involved. "Nevertheless, this initiative was overdue. The system question is no longer concealed, but clearly expressed from the Chinese side."

Even the European Union, which has long been lenient toward China, is now showing a greater willingness to assert itself. In 2019, the European Commission for the first time stopped describing China merely as an economic competitor, but as a "systemic rival." The EU's chief diplomat, Josep Borrell, in May called for Europe to be "more robust" toward China.

This is already happening, too, at least in economic terms. After some spectacular takeovers of European companies by Chinese groups, over which there was substantial public outcry, new rules for reviewing investments designed to ensure greater transparency have been in force since April 2019.

Last Wednesday, EU Competition Commissioner Margrethe Vestager presented her new white paper. It contains proposals for how the EU intends to act in the future against companies from third countries, such as China, that use state subsidies to undermine the EU's internal market.

Germany Steps Up

EU negotiators are also getting closer to their goal of reaching a long-planned investment protection agreement with Beijing. It is intended to provide EU companies in China with relatively fair market access and competitive conditions.

One crucial thing the agreement calls for is an end to forced technology transfers, says EU Trade Commissioner Phil Hogan. Foreign companies that want to produce in China must show the Chinese their technology.

The agreement would be an important step. The EU often has a hard time sending powerful signals to China -- whether over human rights or combating the pandemic.

That's why German Chancellor Angela Merkel wants to develop a unified European stance toward Beijing. She has declared Europe's China policy to be one of the central themes of Germany's EU Council presidency, which will begin July 1.

Merkel is toeing a fine line. Under no circumstances does she wish to follow the U.S. on its path toward decoupling. "A policy that attempts to isolate China is not in the German and European interest," says Norbert Röttgen, the chairman of the Foreign Affairs Committee in the German parliament.

At the same time, Germany is also becoming more critical of China and its ambitions for world power.

The question is whether the chancellor is the right person to lead the charge. Her critics consider her a silent advocate, arguing that her policies are one-sided and oriented toward the interests of German businesses.

Last week, the German government published its draft program for the EU Council presidency, which, compared with an earlier version, takes a somewhat sharper tone. Germany wants to demand "more reciprocity in all policy areas" from China. It also stresses the importance of European "values." But what that will mean in concrete terms remains to be seen.

"Angela Merkel is trapped in an outdated perception of China," says Nils Schmid, the foreign policy spokesperson for the Social Democrats in the German parliament. "The Chancellery hasn't heard the gong yet."

The Only Way Out Is Either Hyperinflation Or Defaulting To The Fed

by: Michael A. Gayed, CFA
- The amount of US and global debt has massively increased in a matter of months.

- The debt was unmanageable before - global debt-to-GDP was at an all-time high in January.

- Maybe defaulting to the Fed is the answer no one is talking about.

The arithmetic makes it plain that inflation is a far more devastating tax than anything that has been enacted by our legislatures. The inflation tax has a fantastic ability to simply consume capital.

- Warren Buffett
When does the money run out? Does it? There is a massive public dilemma happening right now in the back of minds of economists around the world.
The general public is on board with bailing out unemployed citizens with massive monetary and fiscal stimulus, but they should also be concerned with what happens next and the long-term growth implications of current stimulus. After all, the money will not run out.
But we are borrowing from the future, and eventually, it must be paid back in one way or another. As I mentioned on the Lead-Lag Report, I see two probable outcomes, and neither of them is fiscal responsibility, higher taxes, and paying off the debt in a reasonable matter.
I think the only way the world, and the US, is going to pay back the unreasonable debt burden created is going to hyperinflation or defaulting to the Fed - the next great policy twist in Federal Reserve history.
A look at the global debt-to-GDP ratio does not give much comfort, either. It hit a record 322% in January, and the US debt-to-GDP was sitting around 107%. With an economic recession (numerator dropping) and increasing debt (denominator decreasing), what do you think will happen to these numbers when it’s all over? Up, up, and away! Just not in a good way.
This means that servicing and refinancing this debt overall is a tricky and expensive endeavor, and there already wasn’t room to move before. It’s easy for the consensus to forget that we do, eventually, have to raise interest rates. Right now, it’s like a Formula 1 racer with half-done tires with his pedal to the metal.
Eventually, he will have to slow down or the momentum will take him off course and he will crash and burn. This is akin to what the fiscal and monetary stimulus is doing - gas pedal pushed, but eventually, will have to slow down when inflation hits. Will it, is the only question - the Fed has promised zero rates through 2021 at this point, and possibly 2022.
How on earth will it fight inflation as it comes? We’re already seeing it creep up in certain sectors like groceries and staples. There’s a corner coming up in the next few years, and the brakes need to be ready.
With a sharp contraction in corporate earnings, combined with sharp and mounting job losses, the debt service burden was increasing, and the aggressive monetary and fiscal response was warranted.
Gross government issuance hit an all-time monthly record of over $2.1 trillion in March ($3.2 trillion including other sectors), an estimate of the global debt-to-GDP ratio increasing to 342% from the 322% mentioned before.
That is, if there’s only a 3% contraction in global economic activity this year, paired with net government borrowing doubling. Are we on the road to hyperinflation to pay off this debt? It is possible.
There just wasn’t enough policy space in interest rates before the crisis happened to boost the economy without printing extreme amounts of money. Look, it might not happen right away - in fact, we might see deflation first, especially if there’s a second wave of coronavirus that shuts down the economy again.
Will the Fed stop printing money when that happens? Not likely to be immediate. The US economy is addicted to stimulus. Look at what happened in 2018 when the Fed was selling off balance sheet assets and hiking rates - the market collapsed in December.
Coming out of the crisis, if, say, a vaccine is developed, with all this stimulus still in place, consumers are going to spend like crazy because governments have been footing the bill for them over the short term, they get their jobs back and continue to make money.
That is going to hike prices. Is that necessarily a bad thing? Debt is expensive, but not if there are hyperinflationary forces cutting the cost of it down. Maybe that’s the playbook here. Worked pretty well for Venezuela.
The other option that is not talked about much is what if the Fed just lets the government and corporations default to it? A happy reset, if you will. It would not be met well politically, but at some point, the Fed will want to raise rates. If we see extremely high inflation, the only defense is to raise rates - hard to do that when debt-to-GDP levels would throw you into a massive depression.
Why not let some “little” defaults happen to push the ultimate goal of fighting the nasty inflation bug.
The Fed is already buying corporate junk bonds, effectively putting worthless debt on its books, turning crap into Fed-backed instantly.
What if it would just “write it off” as Kramer and Seinfeld posited, so the Fed can hike rates without it affecting the debt-service ratios that will be too effective. America could be the next Greece. Wouldn’t mind some of those Ouzo shots right about now and retirement at 50, especially after this market.
We don’t really know how this all will work in practise; we only have economic theory. As the lockdowns have been a great scientific experiment to see if we can defeat a virus, the global monetary and fiscal stimulus run is the great economic experiment. Only the history books will know what happens next.
So, what to do? It would be amiss if you didn’t have some gold (GLD) exposure in your portfolio to fight the fiat currency expansion. If you’re a fixed-income investor, shortening up the duration by buying something like BIL or SHY might be better than shooting to the long end of the curve, given what interest rates do when inflation and expansion happen (hint: it’s not good for prices).
Stock markets have certainly been a good place to “hide out” in during this crisis, especially tech winners. Continue to add to names that are earning good money in bad times, and you might even want to add a bunch of junk bonds to your portfolio, since the Fed is just going to bail them out anyway (kidding, sort of). Look, the two ideas of hyperinflation and defaulting to the Fed are a bit of a stretch, I will admit.
But they look more probable now than ever before. The only other ways out are a massive hike in taxes to start paying down the debt, or GDP that grows exponentially so that remittances increase naturally. Neither of those look probable, in my estimation, at least in the short term, and the latter solution has inflation implications, as mentioned above. Prepare, don’t react.

No More Free-Lunch Bailouts

With governments spending on a massive scale to save industries and mitigate the economic fallout from COVID-19, they should be positioning their economies for a more sustainable future. Fortunately, far from remaining taboo, using state aid to change private-sector behavior has become common sense.

Mariana Mazzucato, Antonio Andreoni

mazzucato16_Abdulhamid HosbasAnadolu Agency via Getty Images_lufthansagermanycoronavirusbailout

LONDON – The COVID-19 crisis and recession provides a unique opportunity to rethink the role of the state, particularly its relationship with business.

The long-held assumption that government is a burden on the market economy has been debunked.

Rediscovering the state’s traditional role as an “investor of first resort” – rather than just as a lender of last resort – has become a precondition for effective policymaking in the post-COVID era.

Fortunately, public investment has picked up. While the United States has adopted a $3 trillion stimulus and rescue package, the European Union has introduced a €750 billion ($850 billion) recovery plan, and Japan has marshaled an additional $1 trillion in assistance for households and businesses.

However, in order for investment to lead to a healthier, more resilient, and productive economy, money is not enough. Governments also must restore the capacity to design, implement, and enforce conditionality on recipients, so that the private sector operates in a manner that is more conducive to inclusive, sustainable growth.

Government support for corporations takes many forms, including direct cash grants, tax breaks, and loans issued on favorable terms or government guarantees – not to mention the expansive role played by central banks, which have purchased corporate bonds on a massive scale.

This assistance should come with strings attached, such as requiring firms to adopt emissions-reduction targets and to treat their employees with dignity (in terms of both pay and workplace conditions).

Thankfully, with even the business community rediscovering the merits of conditional assistance – through the pages of the Financial Times, for example – this form of state intervention is no longer taboo.

And there are some good examples. Both Denmark and France are denying state aid to any company domiciled in an EU-designated tax haven and barring large recipients from paying dividends or buying back their own shares until 2021.

Similarly, in the US, Senator Elizabeth Warren has called for strict bailout conditions, including higher minimum wages, worker representation on corporate boards, and enduring restrictions on dividends, stock buybacks, and executive bonuses.

And in the United Kingdom, the Bank of England (BOE) has pressed for a temporary moratorium on dividends and buybacks.

Far from being dirigiste, imposing such conditions helps to steer financial resources strategically, by ensuring that they are reinvested productively instead of being captured by narrow or speculative interests. This approach is all the more important considering that many of the sectors most in need of bailouts are also among the most economically strategic, such as airlines and automobiles.

The US airline industry, for example, has been granted up to $46 billion in loans and guarantees, provided that recipient firms retain 90% of their workforce, cut executive pay, and eschew outsourcing or offshoring. Austria, meanwhile, has made its airline-industry bailouts conditional on the adoption of climate targets. France has also introduced five-year targets to lower domestic carbon dioxide emissions.

Similarly, many countries cannot afford to lose their national automobile industry, and are seeing the bailouts as an opportunity to drive progress toward the sector’s decarbonization. As French President Emmanuel Macron recently argued, “We need not only to save the industry but to transform it.”

While extending €8 billion in loans to the sector, his government is requiring that it turn out more than one million clean-energy cars by 2025. Moreover, having received €5 billion, Renault must keep open two key French plants and contribute to a Franco-German project to produce electric batteries.

As Renault’s major shareholder, the French government will be able to enforce these conditions from both outside and inside the company.

In some cases, governments have gone beyond conditionality to alter ownership models.

Germany and France are acquiring or increasing (respectively) the state’s equity stake in airline companies, citing the need to safeguard national strategic infrastructure.

But there are also negative examples. The auto-industry bailout has played out very differently in Italy than it has in France. The FCA Group has convinced the Italian government – which has historically provided large subsidies to Fiat – to grant its subsidiary FCA Italy a €6.3 billion guaranteed loan with basically no enforceable conditions. FCA Italy is expected to merge with the French PSA Group by the end of this year, and the FCA Group itself is no longer even an Italian company.

Born in 2014 from the merger of Fiat and Chrysler, it is domiciled in the Netherlands, and its financial headquarters are in London. Worse yet, the company has a poor track record of keeping its investment commitments in Italy, which has fallen off the global map as an auto producer, both in terms of volume and electric vehicles.

In other negative cases, major companies and sectors have leveraged their monopoly or market-dominant bargaining power to lobby against conditionality, or have exploited central banks’ support, which tends to come with fewer or no conditions.

For example, in the UK, EasyJet was able to access £600 million ($746 million) in liquidity from the BOE, despite having paid £174 million in dividends a month earlier.

And in the US, the Federal Reserve’s decision to start purchasing riskier high-yield bonds has fueled moral-hazard fears. Among those standing to gain are US shale-oil producers, which were already highly leveraged and mostly unprofitable before the pandemic arrived.

Far from a step toward state control of the economy, conditional bailouts have proven to be an effective tool for steering productive forces in the interest of strategic, broadly shared goals.

When designed or implemented incorrectly, or avoided altogether, they can limit productive capacity and allow speculators and insiders to extract wealth for themselves.

But when done right, they can align corporate behavior with the needs of society, ensuring sustainable growth and a better relationship between workers and firms. If the crisis is not to go to waste, this must be part of the post-COVID-19 legacy.

Mariana Mazzucato, Professor of Economics of Innovation and Public Value and Director of the UCL Institute for Innovation and Public Purpose, is the author of The Value of Everything: Making and Taking in the Global Economy.

Antonio Andreoni, Associate Professor of Industrial Economics and Head of Research at the UCL Institute for Innovation and Public Purpose, is Visiting Associate Professor of the Fourth Industrial Revolution at the University of Johannesburg’s South African Research Chairs Initiative.