How does this all end?

[SizeTrade.com]

We explored recently the topic that Central Bank Currency Wars Are Creating Deflation All Around the World even though their main goal is to fight deflation with QE.

The question remains: So how does this all end?

1) QE works and we get inflation - unstoppable hyperinflation with currencies crashing.
2) QE doesn't work, no inflation but gov'ts and corporations still forced to increase spending as central banks cannot just throw in the towel as they are all in at this point.

Here's how we looked at it:

https://www.sizetrade.com/how-this-all-ends/

 

[BONECRUSHER]

We explored recently the topic that Central Bank Currency Wars Are Creating Deflation All Around the World even though their main goal is to fight deflation with QE.

The question remains: So how does this all end?

1) QE works and we get inflation - unstoppable hyperinflation with currencies crashing.
2) QE doesn't work, no inflation but gov'ts and corporations still forced to increase spending as central banks cannot just throw in the towel as they are all in at this point.

Here's how we looked at it:

https://www.sizetrade.com/how-this-all-ends/

I've heard of a different kind of concept...that two kinds of inflation exist. There is consumer price inflation (goods) and paper asset (stocks) inflation...you can have both at the same time. Capital is either flowing into one or both or being "pulled out" in some combination. If one of these inflation's exist...deflation does not exist. If neither exist, then you have deflation. Under this theory, we don't have a deflationary environment currently...stocks at all time highs. If the stock market collapses and prices of goods go lower...that's deflation. Where would prices be without extreme FED manipulation? I do believe that FED influence has distorted asset prices to extreme levels...stock and treasury bubbles! There will be a very high price to pay in the future! P.S. My best guess...STAGFLATION!

 

[clacy]

I'm not sure stagflation is in the cards in the near future considering the employment situation. We have very low unemployment, and falling productivity. My business is seeing immense wage pressure due to low unemployment. We are currently in bidding wars to hire inferior candidates who we wouldn't have cared to hire two years ago.

 

[SizeTrade.com]

We believe that central banks and in some cases governments will end up going even more extreme to lift inflation as in our opinion they are all in. BOJ is already discussing helicopter money, so we believe they will do more extreme policies until they get their desired effect. The problem again in our opinion is that this is distorting risk assets and creating artificial bubbles everywhere( bonds, stocks, housing).

I've heard of a different kind of concept...that two kinds of inflation exist. There is consumer price inflation (goods) and paper asset (stocks) inflation...you can have both at the same time. Capital is either flowing into one or both or being "pulled out" in some combination. If one of these inflation's exist...deflation does not exist. If neither exist, then you have deflation. Under this theory, we don't have a deflationary environment currently...stocks at all time highs. If the stock market collapses and prices of goods go lower...that's deflation. Where would prices be without extreme FED manipulation? I do believe that FED influence has distorted asset prices to extreme levels...stock and treasury bubbles! There will be a very high price to pay in the future! P.S. My best guess...STAGFLATION!

 

[SizeTrade.com]

I think what we are trying to say is that we have had stagflation for last 7 years or so. The central banks have tried to fight it, with an array of tools. In our opinion they won't stop until we see inflation. The problem is that when we start seeing inflation pick up, then what ? Historically to slow down inflation you need to raise rates. The problem that we see with that, is to get the anemic growth we currently have (1% or so first half of this year) they have forced corporations and governments to lever their balance sheet. As rates go higher even slightly we will see a huge reaction, due to the size of leverage in the system.

As an example companies have been borrowing at extremely low rates to buy back stock. This in turn has increased Eps and corporations have been the biggest buyers of stock. If rates go up many of these companies will not be able to borrow more. Same with governments, as rates go up can the us support a 20 trillion dollar deficit. If we are right and central banks ( particularly the boj) are not able to raise rates, as inflation slowly accelerates and then begins to ramp up. You will see capital flight out of those currencies, this will cause central banks to lose control. As their currency begins to nosedive, this will only put more upward pressure on inflation. We have seen this happen in developing countries economies in South America and africa

I'm not sure stagflation is in the cards in the near future considering the employment situation. We have very low unemployment, and falling productivity. My business is seeing immense wage pressure due to low unemployment. We are currently in bidding wars to hire inferior candidates who we wouldn't have cared to hire two years ago.

 

[clacy]

I think what we are trying to say is that we have had stagflation for last 7 years or so. The central banks have tried to fight it, with an array of tools. In our opinion they won't stop until we see inflation. The problem is that when we start seeing inflation pick up, then what ? Historically to slow down inflation you need to raise rates. The problem that we see with that, is to get the anemic growth we currently have (1% or so first half of this year) they have forced corporations and governments to lever their balance sheet. As rates go higher even slightly we will see a huge reaction, due to the size of leverage in the system.

As an example companies have been borrowing at extremely low rates to buy back stock. This in turn has increased Eps and corporations have been the biggest buyers of stock. If rates go up many of these companies will not be able to borrow more. Same with governments, as rates go up can the us support a 20 trillion dollar deficit. If we are right and central banks ( particularly the boj) are not able to raise rates, as inflation slowly accelerates and then begins to ramp up. You will see capital flight out of those currencies, this will cause central banks to lose control. As their currency begins to nosedive, this will only put more upward pressure on inflation. We have seen this happen in developing countries economies in South America and africa

Yes, I agree it's quite a conundrum and I'm not sure what will unfold. I do see inflation on the horizon. The question is whether demand will be stunted by price increases, thereby stalling further growth, which is already near zero.

Interesting times that we live in, but I suppose global macro economics has always had its challenges.

 

[SizeTrade.com]

Agreed times are very interesting, unfortunately I believe the fed and central banks have done misstep after misstep. We no longer are willing to take the medicine we just look for easy way out. Printing money goes All the way back to the Roman Empire and has ended awfully every time.

Yes, I agree it's quite a conundrum and I'm not sure what will unfold. I do see inflation on the horizon. The question is whether demand will be stunted by price increases, thereby stalling further growth, which is already near zero.

Interesting times that we live in, but I suppose global macro economics has always had its challenges.

 

[piezoe]

We are not printing per se, though we enjoy calling QE "printing." For the most part, what we have been doing is borrowing at very low rates with most of the increase in money supply linked to debt. Consequently, the effects of QE are reversible to the extent the economy allows. When rates rise, as they eventually will, the net real interest on debt previously acquired at fixed low rates will go up or down depending on what the inflation rate does in response to rate increases. The Central banks job, among other things, is to maintain a more or less constant spread between yield on sovereign debt and the inflation rate, so that the net real rate remains more or less constant. In a global economy this is a difficult challenge because of exogenous factors over which individual Central banks have less control.

So far the handling of the financial crisis by the U.S. Treasury and the Fed has been masterful, considering the difficulties. Only in retrospect might have the response been better, and that's not helpful now. This, of course, does not exonerate the Fed for being asleep at the switch in the first place.

Considering the magnitude of the crisis, why would we not expect it to take many years -- it has been only eight -- to return debt markets and economies to more typical levels of rates and inflation. This must be especially so given the new challenges posed by increasing globalization and a world of fiat currencies. So far I don't see any signs that the dire predictions, first of hyperinflation and now of central banks losing control, are anywhere near coming to fruition. I just see very gradual return to somewhat higher rates and inflation. I don't see any signs of Central Banks losing control of the interest rate-inflation spread. But I do see very strong indications of a maturing U.S. economy and lower average rates of return on invested capital for the foreseeable future. Bubbles are the normal condition for markets. I have found an understanding of that reality to be very helpful.

 

[SizeTrade.com]

In 2007 we were one of the few who saw the excess and problems in the housing industry and how that would effect the overall economy. Most economists at that time were saying that we had a Goldilocks economy and not to worry. The problem that I see is we are no where near central banks normalizing interest rates, as inflation in most developed countries under their stated benchmarks. So we will continue to increase qe and asset purchases, even if the us raises rates our bond market will most likely not be effected as our rates relative to other countries will attract buyers. This is will push up the value of the usd and crushing exports and companies with oversees business. A strong dollar will also crush commodity prices as they are priced in usd hurting devolving countries who are commodity driven. Also most eu countries have raised money for projects using usd denominated bonds. Finally China whose growth is slowing, definitely doesn't need a stronger dollar as they are quasi pegged to the dollar. So they will have to lower the band in which the yuan trades in. Thus making us exports to China more expensive.

That's just the problems the us will have increasing rates and one of the reasons the fed has been so reticent to raise rates. Some highly regarded economists analysts and fund managers believe the fed has missed its opportunity. I can go deeper into the problems I see with the ecb and boj. Unfortunately it will be too long to write here. If you would like to continue the conversation please come to our site sizetrade.com and write us in chat or via email to set up a call and we can have a good conversation about what we both see in the future thanks

btw: I do not see an imminent drop in assets prices, I think it's too hard to predict when it hits the wall. I think we are 1-3 years away though could be a little longer.

We are not printing per se, though we enjoy calling QE "printing." For the most part, what we have been doing is borrowing at very low rates with most of the increase in money supply linked to debt. Consequently, the effects of QE are reversible to the extent the economy allows. When rates rise, as they eventually will, the net real interest on debt previously acquired at fixed low rates will go up or down depending on what the inflation rate does in response to rate increases. The Central banks job, among other things, is to maintain a more or less constant spread between yield on sovereign debt and the inflation rate, so that the net real rate remains more or less constant. In a global economy this is a difficult challenge because of exogenous factors over which individual Central banks have less control.

So far the handling of the financial crisis by the U.S. Treasury and the Fed has been masterful, considering the difficulties. Only in retrospect might have the response been better, and that's not helpful now. This, of course, does not exonerate the Fed for being asleep at the switch in the first place.

Considering the magnitude of the crisis, why would we not expect it to take many years -- it has been only eight -- to return debt markets and economies to more typical levels of rates and inflation. This must be especially so given the new challenges posed by increasing globalization and a world of fiat currencies. So far I don't see any signs that the dire predictions, first of hyperinflation and now of central banks losing control, are anywhere near coming to fruition. I just see very gradual return to somewhat higher rates and inflation. I don't see any signs of Central Banks losing control of the interest rate-inflation spread. But I do see very strong indications of a maturing U.S. economy and lower average rates of return on invested capital for the foreseeable future. Bubbles are the normal condition for markets. I have found an understanding of that reality to be very helpful.

 

[Martinghoul]

Are you Gary?