Will Peru Get on the Marxist Path?

Presidential front-runner Pedro Castillo favorably quotes Lenin and Castro.

By Mary Anastasia O’Grady

Pedro Castillo greets supporters at a rally in Chiclayo, Peru, April 27. / PHOTO: ALDAIR MEJÃA/ZUMA PRESS


Peruvians will vote in a runoff presidential election on June 6, and if the polls are correct, 

Marxist candidate Pedro Castillo will win. 

An upset by his rival, center-right candidate Keiko Fujimori, is not impossible, but she is definitely the underdog.

Ms. Fujimori trails Mr. Castillo by 10 percentage points in a Datum poll released Thursday night. 

Importantly, some 22% of those surveyed say they are either undecided or will cast a blank vote because they don’t support either candidate. Voting is mandatory in Peru.

Until Saturday Ms. Fujimori had been confined to campaigning in Lima because she is the subject of a criminal investigation. 

That prohibition on travel has been lifted and she now has six weeks—an eternity in Peruvian politics—to make up for lost time.

Mr. Castillo’s thinking is frighteningly similar to that of the late Hugo Chávez, who ruled Venezuela from 1999 until his death in 2013. 

Chavismo strangled Venezuela’s democratic institutions, sent human capital fleeing, destroyed the economy, and generated widespread poverty. 

The military dictatorship is now headed by Nicolás Maduro with important intelligence backing from Havana.

Venezuela was once one of the most advanced countries in the region. 

Today Venezuelans live primitively, often without running water, electricity or basic medical supplies.

Mr. Castillo has begun to moderate his speech from time to time. 

But his “government plan” makes no secret of his admiration for Chávez’s ideals and for tyrants like Cuba’s Castro brothers, Nicaragua’s Daniel Ortega, Bolivia’s Evo Morales and Argentina’s Cristina Kirchner. 

According to his ideology, state ownership of key parts of the economy is necessary to ensure a just society. 

He has warned multinationals that their days in Peru are numbered.

These are bad signs. 

Peru has attracted capital and reduced poverty significantly by pursuing stable fiscal policy, low inflation, contract security and open markets. 

But it needs more growth if it is to raise living standards further. 

Candidate Castillo’s threat to freedom is so serious that Nobel Prize-winning author Mario Vargas Llosa, whose intense dislike of the Fujimori political machine is well-known, has endorsed Keiko.

Peruvians are particularly vulnerable to demagoguery at the moment. 

They have been hit hard by the Covid-19 pandemic. 

While a government-mandated lockdown didn’t halt the virus, it crushed the economy. Peru’s 2020 gross domestic product contracted by more than 11% and its case-fatality ratio is among the highest in the world. 

A battered population is looking for answers and Mr. Castillo’s populism is seductive. 

If he wins, the bill will come later.

Mr. Castillo, who is from the department of Cajamarca, was the leader of a violent national teacher’s union strike in 2017. 

His political adversaries allege that his associates in that strike included the legal offshoot of the terrorist group Shining Path.

He has refused to answer questions from the media about whether this is true. 

But he is the candidate for the hard-left Peru Libre party, which was founded and is run by Cuba-trained Vladimir Cerrón, a hard-core socialist.

Mr. Castillo promises to impose price controls, confiscatory taxes on mining profits and heavy regulation. 

He has said that if elected he would close the constitutional court, though after a public outcry he walked that threat back. 

He wants to eliminate private pension accounts and the free press, which he accuses of complicity in the sin of capitalism.

“Lenin was very right when he declared that true freedom of the press in a society is only possible when it is freed from the yoke of capital,” Mr. Castillo’s government plan says. 

The plan goes on to quote Fidel Castro, who complained that with a free press “the means of mass disclosure are in the hands of those who threaten human survival with immense economic resources, technological and military.” 

The plan warns that the “mother of all battles” will take place in the communications arena.

Like most Peruvian politicians Ms. Fujimori is dogged by corruption allegations. 

She has a faithful following but also high negatives. 

Her fate now hangs on whether voters who dislike her will hold their noses and pull the lever for her because a Castillo presidency is unthinkable.

Mr. Castillo’s big lead in runoff polls has sent the Peruvian currency plummeting against the dollar. 

This translates to higher prices for staples like chicken, bread and gasoline. 

It could explain why Mr. Castillo’s lead, while substantial, has been shrinking and Ms. Fujimori now has the momentum.

In recent years Peruvians have chosen seemingly disastrous presidential candidates, like populist Alan Garcia, when he ran for a second term in 2006, and Ollanta Humala, who campaigned as a socialist-nationalist in 2011. 

Once elected, neither reversed the market-friendly policies of earlier administrations.

Mr. Castillo promises that this time will be different. 

It is a commitment that could help Ms. Fujimori turn the tables on her opponent.

Fed Guessing 

Doug Nolan


“I’m not sure why they think they know that it’s transitory. 

How do they know that when there’s plenty of money printing that’s been going on and we’ve seen commodity prices going up really massively? 

There’s plenty of indicators that suggest that inflation is going to go higher, and not just on a transitory basis, for a couple of months. So we’ll see how the Fed is trying to paint the picture, but they’re guessing.“ 

Jeffrey Gundlach, DoubleLine Capital

“Guessing” is giving the Fed the benefit of the doubt. 

It’s more of a declaration: inflation is not and will not be an issue. 

And I doubt there’s anything that would shift their approach. 

Our central bank has its heels firmly dug in. 

Monetary policy will remain ultra-loose, while their communications strategy at this point is little more than rationalization and justification. 

I can only assume they are fearful of the consequences of puncturing Bubbles. 

It’s been only 13 months since a near financial meltdown. 

The deflating stock market Bubble was surely troubling for the Fed; money market fund liquidity issues concerning. 

The run on corporate bond and equities ETF must have been scary - illiquidity and dislocation in the Treasury market darn right horrifying. 

After all, an unwind of Treasury market (and fixed-income) leverage would surely bring this entire historic party to an unceremonious conclusion. 

Policy must kick that can down the road as far as possible. 

We’ve witnessed a historic experiment in monetary management go completely off the rails. 

Future historians will surely be confounded. 

They will see recklessness and policy negligence. 

Where was the oversight? 

Were there no checks and balances? 

How could a small group of unelected officials just create Trillions out of thin air – Trillions of dollars that fueled history’s greatest speculative manias?

With the potential momentous impact of monetary policies, central banking by its nature must be a conservatively managed institution. 

No big experiments. 

No big mistakes. 

Err on the side of prudence and caution. 

Never take your eye off money and Credit. 

There is no basis for believing that massive “money printing” is a reasonable solution to any problem. 

History, meanwhile, is replete with inflationary catastrophe. 

Inflationism has a long list of spectacular failures. 

Monetary stability is fundamental to stable prices, markets, economies, societies and governments. 

Bubbles are dangerous phenomena that must be contained early – before the risks become so great as to make them untouchable. 

It’s stunning what doesn’t matter these days – what is downplayed, disregarded and obfuscated. 

We’re left with this “dual mandate” BS that essentially disregards every critical issue relevant to monetary and price stability. 

For posterity, excerpts from Chairman Powell’s press conference:

Question: 

“Is it time to start talking about tapering yet? Have you and your colleagues had any conversations to this effect?”

Chairman Powell: 

“So, no, it is not time yet. 

We’ve said that we would let the public know when it is time to have that conversation. 

And we said we’d do that well in advance of any actual decision to taper our asset purchases, and we will do so. 

In the meantime, we’ll be monitoring progress toward our goals. 

We first articulated this substantial further progress test at our December meeting. 

Economic activity and hiring have just recently picked up after slowing over the winter. 

And it will take some time before we see substantial further progress.”

Question: 

“You’ve obviously made it very clear that you want to see improvements in the real economy and the real data and not in just sort of expectations data before making that move, but I guess I wonder what happens if inflation expectations were to move up before you see some sort of return to full employment. 

It seems like a lot of the stability in inflation has been tied to the fact that those have been so low and stable, and I guess I wonder how your reaction would be—your reaction to that and how you’re thinking about that.”

Powell: 

“So it seems unlikely, frankly, that we would see inflation moving up in a persistent way that would actually move inflation expectations up while there was still significant slack in the labor market. 

I won’t say that it’s impossible, but it seems unlikely… 

So that’s not to say inflation won’t—might not move up, but for inflation to move up in a persistent way that really starts to move inflation expectations up, that would take some time and you would think it would be quite likely that we’d be in very strong labor markets for that to be happening.”

Noland Comment: 

CPI surpassed 4% in 2008 with the unemployment rate at 6%. 

Year-over-year CPI reached 3.9% in September 2011 while the unemployment rate languished at a post-crisis 11.0%. 

And CPI reached a secular peak 14.8% in March 1980 with an unemployment rate of 6.3% - above last month’s 6.0%. 

To state that inflation persistently above the Fed’s 2% target would require “very strong labor markets” defies history.

Question: 

“The housing market in many American cities has seen booming prices, bidding wars, and all-cash offers well above asking price. 

And this is happening at the same time that housing is becoming much more expensive for lower-income Americans and people who are still struggling from the pandemic. 

Do you have concerns that there are localized housing bubbles, or that there’s the potential for that? 

And what is the Fed doing to monitor or address this?"

Powell: 

“So, we do monitor the housing market very carefully, of course. 

And I would say that before the pandemic—it’s a very different housing market than it was before the global financial crisis. 

And one of the main differences was that households were in very good shape financially compared to where they were. 

In addition, most people who got mortgages were people with pretty high credit scores. 

There wasn’t the subprime—low doc/no doc lending practices were not there. 

So, we don’t have that kind of thing, where we have a housing bubble where people are over-levered and owning a lot of houses. 

There is no question, though, that housing prices are going up. 

And, so, we’re watching that carefully… it’s part of a strong economy with people having money to spend and wanting to invest in housing. 

So, in that sense, it’s good. 

It’s clearly the strongest housing market that we’ve seen since the global financial crisis.

So, it’s not an unalloyed good to have prices go up this much. 

And we’re watching it very carefully. 

I don’t see the kind of financial stability concerns, though, that really do reside around the housing sector. 

So many of the financial crackups in all countries—all Western countries—that have happened around the last 30 years have been around housing. 

We really don’t see that here. 

We don’t see bad loans, and unsustainable prices, and that kind of thing.”

Questions: 

“Can you tell us what is different this time versus previous periods, like in the ’60s, when inflation got out of control? 

Why are you confident, with the lags in monetary policy, that the Fed can get ahead of inflation and make sure it doesn’t go too far above the 2% target?”

Powell: 

“So let me start with just saying that we’re very strongly committed to achieving our objectives of maximum employment and price stability. 

Our price stability goal is 2% inflation over the longer run. 

And we believe that having inflation average 2% over time will help anchor long-term inflation expectations at 2%. 

With inflation having run persistently below 2% for some time, the committee seeks inflation moderately above 2% for some time… 

During this time of reopening, we are likely to see some upward pressure on prices, and I’ll discuss why, but those pressures are likely to be temporary as they are associated with the reopening process. 

And an episode of one-time price increases as the economy reopens is not the same thing as, and is not likely to lead to, persistently higher year over year inflation into the future - inflation at levels that are not consistent with our goal of 2% inflation over time. 

Indeed, it is the Fed’s job to make sure that that does not happen. 

If, contrary to expectations, inflation were to move persistently and materially above 2% in a matter that threatened to move longer-term inflation expectations materially above 2%, we would use our tools to bring inflation expectations down to mandated, consistent levels… 

We think of bottlenecks as things that, in their nature, will be resolved as workers and businesses adapt. 

And we think of them as not calling for a change in monetary policy, since they’re temporary and expected to resolve themselves. 

We know that the base effects will disappear in a few months. 

It’s much harder to predict with confidence the amount of time it will take to resolve the bottlenecks or, for that matter, the temporary effects that they will have on prices in the meantime… 

If we see inflation moving materially above 2% in a persistent way that risks inflation expectations drifting up, then we will use our tools to guide inflation and expectations back down to 2%. 

No one should doubt that we will do that. 

This is not what we expect, but no one should doubt that in the event we would be prepared to use our tools.”

Noland comment: 

We should absolutely doubt the Fed would use its “tools” to quell above-target inflation. 

The markets have become the Fed’s top priority. 

Any circumstance where the Fed is preparing to actually tighten policy will be a major problem for Bubble markets. 

And everyone knows the Fed would reverse a fledgling tightening course on the first indication of market disruption. 

I don’t believe the Fed today has credibility on the issue of containing an upward surge in inflationary pressures. 

Markets are instead confident the Fed will maintain loose financial conditions in almost every situation. 

And, importantly, this perception precludes markets from responding effectively to mounting inflationary pressures, and the absence of a functioning market adjustment mechanism only increases the likelihood that the current inflationary upcycle becomes more firmly entrenched.

Question: 

“Over the past decade, the Fed has invested significant resources in large-scale bank supervision, has completely overhauled that approach, and it’s even created a special committee that looks horizontally across the largest banks to find common risks. 

Did the Fed not see that multiple banks have large exposures to Archegos? 

If not, why not? 

And then what regulatory changes would you like to see implemented to change that going forward?”

Powell: 

“We supervise banks to make sure that they have risk management systems in place so that they can spot these things. 

We don’t manage their companies for them or try to manage individual risks. 

In the grand scheme of these large institutions, the Archegos risks were not systemically important or were not of the size that they would have really created trouble for any of those institutions. 

What was troubling, though, was that this could happen in a business for a number of firms that is thought to carry relatively well-understood risks. 

The prime brokerage business is a well-understood business, and so it was surprising that a number of them would have had this. 

And it was essentially, I believe, the fact that they had the same big risk position with a number of firms and they weren’t—some of the firms were not aware that there were other firms that had those things. 

I wouldn’t say it’s in any way an indictment of our supervision of these firms. 

In some cases it seems as though there were risk management breakdowns at some of the firms, not all of them, and that’s what we’re looking into.”

Noland comment: 

There have been innumerable derivative accidents going back to the role “portfolio insurance” played in the 1987 stock market crash. 

Derivatives have repeatedly proven themselves instruments that distort, exacerbate and redistribute risk. 

In the past, a multitude of derivative strategies have been used for highly levered speculation across the markets. 

There is every reason to believe that the Fed’s extreme monetary stimulus has further incentivized leveraged speculation. 

Archegos’ egregious leverage – financed by many of the leading global prime brokerages - is confirmation of this thesis. 

How can a central bank run such momentous monetary stimulus and not be completely on top of developments at the prime brokerages and derivatives markets?

Yahoo Finance’s Brian Cheung: 

“I wanted to ask about financial stability, which is a part of the Fed’s reaction function here. 

It seems like to people on the outside who might not follow finance daily they’re paying attention to things like GameStop, now Dogecoin, and it seems like there’s interesting reach for yield in this market, to some extent also Archegos. 

So, does the Fed see a relationship between low rates and easy policy to those things? 

And is there a financial stability concern from the Fed’s perspective at this time?"

Powell: 

“So we look at—financial stability for us is really—we have a broad framework, so we don’t just jump from one thing to another. 

I know many people just look at asset prices and they look at some of the things that are going on in the equity markets, which I think do reflect froth in the equity markets. 

But really, we try to stick to a framework for financial stability so we can talk about it the same way each time and so we can be held accountable for it.

So one of the areas is asset prices, and I would say some of the asset prices are high. 

You are seeing things in the capital markets that are a bit frothy. 

That’s a fact. I won’t say it has nothing to do with monetary policy. 

But it also has a tremendous amount to do with vaccination and reopening of the economy. 

That’s really what has been moving markets a lot in the last few months - is this turn away from what was a pretty dark winter to now a much faster vaccination process and a faster reopening. 

So that’s part of what’s going on. 

The other things, though, you know, leverage in the financial system is not a problem. That’s one of the four pillars. 

Asset prices were one. 

Leverage in the financial system is not an issue. We have very well-capitalized large banks. 

We have funding risks for our largest financial institutions are also very low. 

We do have some funding risk issues around money-market funds, but I would say they’re not systemic right now. And the household sector is actually in pretty good shape. 

It was in very good shape as a relative matter before the pandemic crisis hit…

So, the overall financial stability picture is mixed. 

But on balance it’s manageable, I would say. 

And, by the way, I think it’s appropriate and important for financial conditions to remain accommodative to support economic activity. 

Again, 8 ½ million people who had jobs in February don’t have them now, and there’s a long way to go till we reach our goal.”

Noland comment: 

Leverage in the system is very much an issue. 

The financial stability “picture” is not “mixed” – it’s calamitous. 

Ever since the Bernanke Fed coerced savers into the risk markets, the latent instability associated with the “Moneyness of Risk Assets” issue (the misperception of safety and liquidity) has festered. 

The Fed’s (and global central banks’) repeated market bailouts, and now perpetual massive monetary stimulus, have spurred unprecedented speculation and speculative leverage. 

Bank capital is not a pressing issue for this cycle; a traditional run on the banking system is not a prevailing risk. 

But there is monumental risk of a run on the risk markets – stocks, fixed-income, Treasuries. 

The Trillions that have flowed freely into the ETF industry, in particular, pose a clear and present danger to financial stability. 

Global leveraged speculation poses a clear and present danger to financial stability. Derivatives – a clear and present danger. 

Question: 

“We are seeing elevated market valuations and some economists are concerned that the economy might overheat, at least for a period of time. 

So, should the Fed and other regulators be thinking about tightening capital requirements or extending oversight to the nonbank sector so that financial stability risks stay as low as they have been?”

Powell: 

“Capital requirements for banks went up tremendously, really, over the course of the 10 years between the financial crisis and the arrival of the pandemic… But to your point, …so what kind of happened during the pandemic crisis that requires attention: number one is money-market funds and corporate bond funds where we saw run dynamics, again, and we need to—we’re looking at that. So, we’re looking at ways and people around the world are looking at ways to make those vehicles resilient so that they don’t have to be, you know, supported by the government whenever there’s severely stressed market conditions. It’s a private business. They need to have the wherewithal to stay in business and not just count on the Fed and others around the world to come in. So that was that.

The other one is Treasury market structure. 

Dealers are committing less capital to that activity now than they were 10 or 15 years ago, and the need for capital is higher because there is so much more supply of Treasurys. 

And, so, there are some questions about Treasury market structure and there’s a lot of careful work going on to understand whether there’s something we can do about this, because… the U.S. Treasury market is probably the most single important market in the economy in the world. 

It needs to be liquid. 

It needs to function well for the good of our economy and the good of our citizens… 

As you know, at the very beginning of this recent crisis, there was such a demand for selling Treasurys, including by foreign central banks, that really the dealers couldn’t handle the volume. 

And so what was happening was the market was really starting to lose function, and that was a really serious problem which we had to solve through really massive asset purchases. 

So, we’d like to see if there isn’t something we can do to—do we need to build against that kind of an extreme tail risk, and if so what would that look like.”

MarketWatch’s Greg Robb: 

“It’s just kind of confusing, the question and your answer, you know, the housing market is strong, prices are up. 

And yet, the Fed is buying $40 billion per month in mortgage-related assets. 

Why is that? 

And are those purchases playing a role at all in pushing up prices?”

Powell: 

“We started buying MBS because the mortgage-backed security market was really experiencing severe dysfunction. 

And we sort of articulated what our exit path is from that. 

It’s not meant to provide direct assistance to the housing market. 

That was never the intent. 

It was really just to keep that very close relation to the treasury market and a very important market on its own. 

And so that’s why we bought, as we did during the global financial market, we bought MBS too. 

Again, not an intention to send help to the housing market, which was really not a problem this time at all. 

So, it’s a situation where we will taper asset purchases when the time comes to do that. 

And those purchases will come to zero over time. 

And that time is not yet.”

Bloomberg’s Mike McKee: 

“Since I am last, let me go back to… the first question, and ask… whether you’re thinking about thinking of tapering, but why you’re not… 

The markets seem to be operating well. 

Are you afraid of a taper tantrum? 

Or is it, as one money manager put it, if you get out of the markets there aren’t enough buyers for the treasury debt and so rates would have to go way up? 

The bottom-line question is: What do we get for $120 billion a month that we couldn’t get for less?”

Powell: 

“So, it’s not more complicated than this: We articulated the substantial further progress test at our December meeting. 

And really for the next couple of months we made relatively little progress toward our goals… 

We got a nice job report for March. 

It doesn’t constitute substantial further progress. 

It’s not close to substantial further progress. 

We’re hopeful we will see along this path a way to that goal. 

And we believe we will, it just is a question of when. 

And so when the time comes for us to talk about talking about it, we’ll do that. 

But that time is not now. It’s—we’re just that far. 

We’ve had one great jobs report. 

It’s not enough. We’re going to act on actual data, not on our forecast. 

And we’re just going to see more data. 

It’s no more complicated than that.”

McKee: 

“If you leave rates where they are, doesn’t change anything. 

But does it change anything if you actually tapered a bit? 

If you spent less would you still get the same effect on the economy?”

Powell: 

“No, no. 

I think the effect is proportional to the amount we buy. 

It’s really part of overall accommodative financial conditions. 

We have tried to create accommodative financial conditions to support activity, and we did that. 

And we articulated the tests for withdrawing that accommodation… 

And the only thing that will guide us is, are the tests met? 

That’s what we focus on, is have the macroeconomic conditions that we’ve articulated, have they been realized? 

That will be the test for tapering asset purchases and for raising interest rates.”

Noland Comment: 

The Fed asymmetric policy approach has been a rather slippery slope since Alan Greenspan’s nascent venture into market manipulation (and, as such, financial conditions management) with terse comments and little “baby step” rate moves. 

At this point, the Powell Fed’s version of asymmetric policies makes Greenspan’s appear virtual mirror images. 

It was only about two weeks from record stock prices to the Fed’s March 2020’s emergency meeting, with the Fed slashing rates and immediately beginning a program that would inject Trillions of liquidity into the securities markets. 

There is zero doubt when it comes to the Fed’s stimulus reaction function: market instability. 

This had already been made clear the previous September, when the Fed adopted “insurance” policy stimulus in response to repo market instability, this despite stocks near record highs and unemployment at multi-decade lows. 

When Bubble markets began to falter in the face of pandemic risks, the Fed responded rapidly and with overwhelming force.

Despite Chair Powell’s repeated efforts, the Fed’s reaction function for reversing stimulus measures is nebulous and clearly asymmetric (when compared to employing stimulus). 

Strangely, market function – even so much as gross excess – plays no role. 

It might well be several years from the point of robust market recovery to even the first little “baby step” off zero rates. 

That the economy is in the process of rapid recovery has to this point played no role in the Fed even discussing the tapering its historic QE program. 

Forecasts call for April job growth of just under a million, following March’s almost one million jobs created. 

It may not be many months before the unemployment rate is back below 5%.

The Fed focuses on financial conditions when initiating QE. 

Markets have become so integral to system Credit, liquidity, perceived wealth, spending, investment, and economic activity generally, that our central bank responds immediately - and now with overwhelming force - in the event of market disruption. 

Yet no matter how “frothy” the markets and how incredibly loose financial conditions have become - these are not considerations for removing stimulus. 

Simplifying the Fed’s reaction function: Move with overwhelming force at the first sign of market trouble – then stick with unprecedented stimulus until data is on a trajectory to soon return to full employment. 

This policy framework is a godsend for speculative Bubbles. 

It’s a huge mistake to disregard a year of extremely loose financial conditions when contemplating stimulus reduction. 

The unemployment rate is a lagging indicator. 

Is it coincidence that the Fed’s key metric for commencing stimulus tapering is the lagging jobs market? 

Global asset markets and inflationary pressures are clearly signaling that monetary policies are dangerously loose. 

And it’s becoming so obvious that some are breaking rank. 

April 30 – Bloomberg (Catarina Saraiva): 

“Signs of excess risk taking in financial markets show it’s time for the U.S. central bank to start debating a reduction in its massive bond purchases, said the president of the Dallas Federal Reserve, breaking ranks with Chair Jerome Powell. 

‘We’re now at a point where I’m observing excesses and imbalances in financial markets,’ said Robert Kaplan… 

‘I’m very attentive to that, and that’s why I do think at the earliest opportunity I think will be appropriate for us to start talking about adjusting those purchases.’”

April 30 – Bloomberg (Alexander Weber): 

“European Central Bank policy maker Jens Weidmann said officials must be prepared to tighten monetary policy when needed to curb inflation, even if that increases the strain on heavily indebted governments. 

‘We central bankers must clearly say that we will rein in monetary policy again when the price outlook demands it,’ the Bundesbank president said… 

‘And irrespective of whether the financing costs for governments rise.’ 

Weidman said the institution risks becoming too entangled with fiscal policy through its massive bond purchases, which have been deployed repeatedly to calm markets and to boost inflation, and which were ramped up during the pandemic. 

‘When the Eurosystem started its first purchase program 10 years ago, some were hoping that it would be temporary. 

This hasn’t become true,’ he said. 

‘My worry at the time that fiscal policy would increasingly smother monetary policy is still on my mind.’”

Loose monetary policy is today’s biggest market risk

Explosive growth in debt has severely curtailed central banks’ freedom of action

John Plender

Jeremy Grantham, co-founder of GMO, warns of ‘hysterically speculative investor behaviour’ © Bloomberg


There are no two ways about it, argues Jeremy Grantham: “The long, long bull market since 2009 has finally matured into a fully-fledged epic bubble”.

The co-founder of Boston-based-based fund manager GMO says: “Featuring extreme overvaluation, explosive price increases, frenzied issuance and hysterically speculative investor behaviour, I believe this event will be recorded as one of the great bubbles of financial history, right along with the South Sea bubble, 1929, and 2000.”

Coming from a man who was famously prescient about the bursting of bubbles in 2000 and 2008, this red alert about investment risk, issued in January, merits attention.

Others have still to be convinced. 

In a recent strategy paper, economists at Goldman Sachs argue that, while there are pockets of excessive valuations in equities, “the absence of significant leverage (outside the government sector) and the early stage of the cycle suggest that the risks of an investment bubble with systemic risks to the financial system and economies is relatively low.”

Giddy heights

What is not in doubt is that there is a great deal of froth in today’s markets.

Inexperienced retail investors are herding into popular stocks. Share prices of unprofitable companies have been soaring. 

Special purpose acquisition companies (Spacs), which circumvent the protections in a conventional initial public offering and handsomely line investment bankers’ pockets, raised more than $70bn of new money in the US in 2020. 

That record issuance looks set to have been exceeded in the first three months of 2021.

Companies such as Uber and Deliveroo, whose competitive advantage derives primarily from regulatory arbitrage in labour markets rather than miraculous technology, nonetheless command miraculous valuations, even after Deliveroo’s flotation flop.

Turning to the big picture, the global equity market capitalisation has reached a record high in relation to global gross domestic product.

On the question of systemic risk, there are some reassuring signs. 

Unlike the run-up to the crisis of 2007-08, property markets, with the exception of China, are not wildly overvalued. 

Nor are banks as overstretched, having been forced to rebuild capital since the crisis — although the collapse of the Greensill shadow bank points to rising risks outside the conventional banking system.

And, unlike the peak of the dotcom bubble, the big tech groups that have spearheaded the bull market are cash rich and generating robust earnings.

At the same time, central banks’ and governments’ efforts to combat the depredations of coronavirus have prevented widespread corporate bankruptcies. 

This, together with an acceleration in vaccinations, is contributing to global recovery: the IMF is projecting global growth of 6 per cent this year. 

Meanwhile, Jay Powell, the Federal Reserve chair, is a super-dove, indicating to markets that any shift to tighter policy is far in the future.

Into a debt trap

But there is the rub. 

The biggest risk to all markets today lies in the loose monetary policy that has delivered ultra-low policy interest rates and contributed to low nominal bond yields, which remain in historically unprecedented territory even after the recent upward adjustment.

Elroy Dimson, Paul Marsh and Mike Staunton, in the Credit Suisse Global Investment Returns Yearbook, point out that, over the past 40 years, their world sovereign bond index provided an annualised real return of 6.2 per cent, only marginally below the 6.8 per cent from world equities.

Extrapolating those returns into the future would, they say, be foolish because this was a golden age for bonds. 

The average annualised real return on sovereign bonds since 1900 was a mere 1 per cent.



The big problem here is that high bond prices and incredibly low yields provide dangerous incentives. 

Investors search for more yield regardless of risk, and everyone — households, companies and governments — borrows to excess while debt servicing costs are minimal.

The result is an explosive growth in debt. 

The Institute of International Finance, a trade body for global banks, estimates that global debt hit a new record of $281tn in 2020, with the governmental response to the pandemic contributing $24tn to that figure.

The non-bank corporate sector in particular has seen a progressive build-up since the financial crisis, with debt now standing at 100 per cent of GDP.

That hardly squares with the Goldman view that there is an absence of significant leverage in the private sector.

In effect, the world is in a debt trap. 

It is impossible for the big central banks to tighten policy without posing a threat to financial stability and thus the wider economy. 

Such action would also invite retaliation from politicians for whom central bank independence is fine so long as it delivers low interest rates.

There is no easy exit from ultra-loose monetary policy, with the risk being either of financial crisis or higher inflation or both. 

Indeed, inflation will be part of the solution to excessive debt.

The interest rate mantra of lower for longer cannot have a happy ending. 

But predicting when that ending might come would require the skills of a Nostradamus.

Berkshire Hathaway swings to $11.7bn profit in first quarter

Cash pile at Warren Buffett’s investment company balloons to $145.4bn while $6.6bn was spent on stock buybacks

Eric Platt in New York

Warren Buffett, left, and Charlie Munger, Berkshire vice-chair, at his year’s annual meeting, which was held virtually for the second consecutive year because of the pandemic © Bloomberg


Warren Buffett’s Berkshire Hathaway reported a surge in profits in the first quarter as its investment portfolio swelled in size alongside a broad market rally and its businesses rebounded from the depths of the coronavirus crisis a year ago.

The company said on Saturday that it had swung to a profit of $11.7bn from a loss of $49.7bn a year earlier, on the back of shifts in its $282bn stock portfolio which includes big brands such as Apple and Bank of America.

Its core operating businesses, which include the insurer Geico, BNSF railroad and the Dairy Queen ice cream chain, also improved.

Operating earnings from those businesses, Buffett’s preferred measure of Berkshire’s performance, rose 19.5 per cent from the year before to $7bn.

The company, often seen as a barometer of shifts in the wider US economy, benefited from a housing boom that has gripped much of the country. 

Sales across its building products unit, which includes modular home builder Clayton Homes and the paint maker Benjamin Moore, rose 16 per cent while the division’s pre-tax profits jumped by more than a third.

Berkshire said in its quarterly filing with US securities regulators that many of its subsidiaries “experienced significant recoveries” and “revenues and earnings in the first quarter of 2021 for these businesses were considerably higher than in the first quarter of 2020”.


The company added it had passed on rising material costs to its clients as inflationary pressures build, a phenomenon that has led investors and the US Federal Reserve to begin an intense debate over how long price increases will persist.

Berkshire’s cash pile ballooned to $145.4bn from $138.3bn at the end of 2020.

The company disclosed that it had spent $6.6bn buying back its class A and B common stock, as it continued to direct much of its firepower towards share repurchases.

Financial accounts showed it was a net seller of stock in the quarter, underscoring the difficulty Buffett has had in finding attractive acquisition targets.

Shifts in the economy were evident in the performance of businesses owned by Berkshire.

Profits at BNSF rose 5 per cent, helped by higher freight volumes of consumer goods.


But the fall in demand for aircraft hit aerospace parts manufacturer Precision Castparts, which Berkshire wrote down in value last year amid the pandemic. 

Sales at Precision Castparts dropped 36 per cent, a trend Berkshire said would persist even as domestic air travel increased.

The winter freeze that hit Texas in February caused $460m in losses for two of Berkshire’s insurance units and also caused a drop in profitability at Lubrizol, its speciality chemicals business, which had to shut down several plants.

The results were reported hours before Buffett and a trio of Berkshire executives addressed the company’s shareholders at an annual meeting, at which the company warned on inflationary pressures and flagged a broader US economic recovery.

The pandemic has forced the company to hold the meeting virtually for a second consecutive year.

The annual gathering took place in Los Angeles rather than Omaha, Nebraska, where the event typically draws tens of thousands of Berkshire shareholders who come to listen to Buffet’s investment and life advice.

Berkshire’s class A shares have climbed 18.6 per cent this year and closed on Friday at $412,500. 

The gain put the conglomerate ahead of the 11.8 per cent total return of the benchmark S&P 500, setting a path for Berkshire to eclipse the annual performance of the wider market for the first time since 2018.

The Digital Revolution Is Eating Its Young

We are facing an acute crisis of technological opportunity and access, owing to an invasive business model that has proven incapable of supporting equity and inclusion. The stakes are high, and the market won’t fix the problem.

Mark Esposito, Landry Signé, Nicholas Davis


CAMBRIDGE – As massive online platforms have given rise to numerous virtual marketplaces, a gap has opened between the real and the digital economy. 

And by driving more people than ever online in search of goods, services, and employment, the coronavirus pandemic is widening it. 

The risk now is that a new digital industrial complex will hamper market efficiency by imposing rents on real-economy players whose daily operations depend on technology.

The premise of the Fourth Industrial Revolution (4IR) is that the tangible and intangible elements of today’s economy can coexist and create new productive synergies. 

The tangible side of the economy provides the infrastructure upon which automation, manufacturing, and complex trade networks rest, and intangibles – logistics, communication, and other software and Big Data applications – allow for these processes to achieve optimal efficiency.

More to the point, the tangible economy is a prerequisite for the intangible economy. 

Through digitalization, tangibles can become intangibles and then overcome traditional limitations on scale and value creation. 

While heavily transactional and capital-intensive, this process hitherto has been a positive mechanism for growth, providing some equity of opportunities for small and large countries alike.

But this standard account of the 4IR omits the recent decoupling of the digital and real sectors of the economy. 

Digitally native companies that benefited from the suspension of traditional factors of production have been growing even faster than they did before COVID-19.

By the beginning of September 2020, Facebook, Amazon, and Apple’s share prices had more than doubled since the start of the pandemic, with Apple becoming the first company ever to achieve a $2 trillion valuation. 

And while shares of Netflix and Alphabet (Google) – the other so-called FAANG firms – hadn’t quite doubled, they were nonetheless trading at or near all-time highs. 

Meanwhile, ExxonMobil, the S&P 500’s oldest member and a former icon of the tangible economy, was driven out of the index by Apple’s decision to split its stock. 

Those who own and run the tech giants are making ever more money while the rest of the world continues to experience economic devastation.

With real-economy assets being positioned far below digital financial assets, a K-shaped corporate recovery has emerged. 

Digital firms can grow apparently without limit, whereas others’ growth remains circumscribed by the finite conditions under which they operate. 

This trend is not only challenging neoliberal assumptions about the creation of value; it is also pushing us toward a scenario in which government policies to redistribute value will no longer be plausible options.

To be sure, governments and some within the private sector have proposed remedies, such as a tax on digital assets, while proponents of a laissez-faire approach continue to insist that any form of government intervention will merely introduce more market distortions. 

But neither camp has offered enough evidence for its preferred policy.

We suggest three other solutions. 

First, government grants and subsidies can be used to promote technological diffusion, and to close the technology gap between platforms and small and medium enterprises. 

Rather than expecting the market to provide equitable access to technologies like artificial intelligence, governments can fund programs that reach smaller firms directly, such as through tax write-offs or other measures (as already happens with incentives for consumers to buy environmentally friendly cars). 

While such outlays would increase public debt in the short term, these costs would be offset by the higher productivity that would come with a more balanced distribution of economic power.

Second, we should be working toward a more agile, multi-stakeholder model of innovation, so that concerns about inclusion and representation are addressed without curtailing the pace of technological advance. 

The goal, here, should be to reduce the tensions between winners and losers across the platform economy’s new value chains. 

Several existing cases have demonstrated that proper representation of stakeholder interests enables policymakers to mitigate the harms and adverse unintended consequences of new technologies without sacrificing speed or flexibility.

Third, it is time to start identifying appropriate areas for “digital protectionism.” 

Just as some countries use trade tariffs to support nascent local production, digital tariffs could be used to foster local innovation ecosystems. 

This would not work everywhere. 

But in places that have reached some threshold of technological adoption and diffusion, such policies could encourage grassroots solutions, creating new community-based approaches to managing how technology is designed, deployed, and funded.

The post-pandemic world will be characterized by a limping economy, a generalized fear for the future, and a growing realization of all the ways that economic life has changed. 

Under the right conditions, technological diffusion, multi-stakeholder innovation, and digital protectionism could reduce people’s dependence on the multinationals that have been shaping the terms of technology for their own benefit, and with little consideration for the needs or values of specific communities.

We are facing an acute crisis of technological opportunity and access, owing to an invasive business model that has proven incapable of supporting equity and inclusion. 

The stakes are high, and the market won’t fix the problem. 

There are ways to ensure that the digital revolution benefits the many, not just the few; but they will require that we rethink how we pursue innovation and create value in the twenty-first century.


Mark Esposito, a co-founder of Nexus FrontierTech, has held appointments and fellowships at the Hult International Business School, Harvard University, Cambridge University, and Arizona State University, where he co-directs the 4IR Research Initiative at the Thunderbird School of Global Management. He is the co-author, most recently, of The AI Republic: Building the Nexus Between Humans and Intelligent Automation.

Landry Signé, a professor and senior director at Arizona State University’s Thunderbird School of Global Management, is a senior fellow at the Brookings Institution, a distinguished fellow at Stanford University, a member of the World Economic Forum’s Regional Action Group for Africa, and the author, most recently, of Unlocking Africa’s Business Potential.

Nicholas Davis is Head of Society and Innovation at the World Economic Forum.

The Dollar’s Sliding Share in Global Currency Reserves is a Red Herring

The greenback is at a 25-year low in official currency reserves, a figure that understates the currency’s importance in a number of ways

By Mike Bird

The dollar’s position at the distant top of the global currency hierarchy looks quite secure for now./ PHOTO: FEDERICO PARRA/AGENCE FRANCE-PRESSE/GETTY IMAGES


The dollar’s share in global foreign-exchange reserves slipped to its lowest level since the mid-1990s last year, giving fresh fuel to arguments that the greenback’s role as the top global currency is under threat.

But reserve figures paint an incomplete picture of the currency’s heft. 

A broader view of demand for dollars shows there is still no meaningful challenge to their role.



The quarterly International Monetary Fund data show the dollar’s share of reserves below 60% for the first time since 1995. 

At 21.2%, the euro’s share is at its highest level in six years, and at 6%, the Japanese yen is at its highest in two decades.

One of the reasons is a simple mechanical one. 

The dollar depreciated last year, meaning that the dollar value of nondollar assets in a mixed-currency portfolio rose. 

In the IMF data, that is often the largest factor in each given quarter, rather than active buying and selling.

But the second effect of a falling dollar, which is less immediate, should act as a counterweight. 

As the greenback falls in value, especially against the currencies of exporters with large currency reserves, it encourages them to buy Treasurys and other U.S. assets to keep their own currencies from rising too quickly and damaging competitiveness.

If the euro does rise to take up a significantly higher share of global reserves—back toward levels before the financial crisis—that would actually be a positive thing for the world. 

Some foreign buyers soured on the euro when it wasn’t clear that the bloc was willing to treat government bonds as safe assets during the euro crisis. 

If that era is passing, it would give reserve managers a way to achieve the currency diversification they have long been looking for.

There are a few other factors contributing to perceptions of the dollar’s decline that bear mentioning. 

Some of the increase in the yen’s share represents synthetic dollar accumulation by central banks through currency swaps. 

And the private sector is a larger holder of dollars than in the past. 

The share of foreign-owned Treasury and agency bonds held directly by government entities, which includes foreign-exchange reserves, was at its lowest level this century at the end of 2020, just south of 60%, from as high as 73% in 2009. 

But the private share, unaccounted for in FX reserve data, has grown.

Reserves thus present an incomplete, 20th-century picture of international demand for currencies. 

It is worth casting back to last year to remember which currency investors scrambled for in the worst moment of market panic in the Spring of 2020 and which central bank had to roll out an extensive, market-calming program of swap arrangements.

Even if the greenback’s official share falls further, its position at the distant top of the global currency hierarchy looks quite secure for now.