Stimulus Limits

We’ve been saying for years that there should be limits to quantitative easing (QE) (or money printing) and fiscal stimulus after a debt and bubble boom like 1914 to 1929 and 1994 to 2007.

These bubble booms come predictably in the fall season wherein the killer apps from long term technology innovation are finally moving mainstream for the first time. Such productivity creates higher than average economic growth and falling inflation which means falling interest rates.

This is called a positive reinforcement cycle. Add to that the new trend since the 1987 crash, Greenspan would aggressively lower interest rates every time there was a stock crash or recession. One thing that comes of that… the economy never really gets to rebalance.

Such trends could only — as they have in the past, but even more so this time — create a bubble in financial assets and excess capacity. Both trends continue until the reality of slowing demographics and the massive debt burden weighs on growth.

That’s what happened in 2008, just as we forecasted 20 years ago…

But this time central banks decided they would do whatever was necessary to stop the natural and very painful deleveraging that has followed every debt and financial bubble in history. They have taken Keynesian policies to unprecedented heights.

In addition to massive fiscal deficits, central banks have created over $10 trillion in QE, or rather created money out of thin air, to fight deflation, to deleverage the debt and to keep the mighty financial bubbles from bursting.

Markets and Economy on Crack

And they’ve been there since 2008! Such massive stimulus only encourages more borrowing and even greater bubbles and, of course, more excess capacity – the very problems that led to the last global financial crisis.

There’s only so much an economy can take.

The greatest expanse in the use of zero-interest rate money are the frackers in the U.S. and emerging companies overseas. The expanse in such investment has created excess capacity, especially in oil. But all industrial and energy commodities have collapsed since mid-2008.

We have warned for years that this would be the stealth crisis that no one saw coming. Today, it’s the falling oil and commodity prices that are sure to kill the fracking bubble and high risk debt that has only accelerated since 2008.

Following quickly on the hit list is the $6 trillion plus in U.S. high yield and leveraged debt to emerging countries.

That said, the very stimulus slated to save the economy creates new debt, asset bubbles and excess capacity leading back to deflation and deleveraging all over again – but it’s now even worse as the bubbles are stretched further.

I’ve consistently argued against clueless economists and bubble naysaying analysts that there’s a great reset coming. The dollar will keep rising and will do so even faster after the crisis hits.

Commodities and gold will keep falling…first hitting emerging stocks, followed by high yield bonds crashing (corporate and in emerging countries) and then stocks will be the last to go with the Dow somewhere near 6,000 or lower by late 2016 or early 2017.

Everything has been following this forecast except that stocks are still in denial and after greatly underestimating the trigger that is falling oil and commodity prices and accepting that they are likely to be to the next round of debt collapses, what falling home prices were to the subprime crisis. Leading the pack will be fracking bonds, followed by emerging company bonds, other high-yield bonds and then sovereign bonds.

Does it look like Greece again?

I’ve covered the fracking and emerging market bubbles in-depth in recent articles. And I’ve shown how stocks are much more over-valued than the analysts say when you adjust for the risk in today’s world of geopolitical volatility and rising leverage versus the 1929 or 2000 tops.

I’ve shown that this bubble has now greatly surpassed the 2002 to 2007 bubble and is at least on par with the 1925 to 1929 bubble and is now even rivaling the 1995 to 2000 bubble.

These stock bubbles will burst and with that explosion, we’ll see most of the overvalued real estate markets in the world plummet. That still looks clear and 2015 looks like the time when the stimulus finally just fails.

The U.S. has tapered and will be slow to come back. Germany and Switzerland are fighting the next ECB QE surge, and it may not happen to the substantial degree.

All of this unprecedented stimulus still can’t keep global growth from steadily slowing and demographics trends tell us such slowing will intensify from 2015 forward.

I’ve been expecting U.S. treasury yields to spike at some point when the world starts to fall apart before seeing yields drop in the long-term with deflationary trends finally setting in.

Bond ENM

See larger image

But after testing the bottom of the channel in 10-year Treasurys in the chart above, such bonds could be headed for a retest below 1% rates before spiking again as even the U.S. government looks risky. Imagine the spike we will see in European bonds when their economies tank again with worse demographic trends and greater debt pressures?

Yes, there are limits to the “something for nothing” economy of endless QE and deficits. It finally looks like we are hitting them from many angles. So, prepare for the worst ahead – another financial crisis and crash worse than 2008 – especially from late March on.

This could well be the end of Keynesian economics that I forecasted many years ago…

Good riddance!

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Harry

 Ahead of the Curve with Adam O’Dell

Keynesian Economy

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Categories: Cycles

About Author

Harry studied economics in college in the ’70s, but found it vague and inconclusive. He became so disillusioned by the state of the profession that he turned his back on it. Instead, he threw himself into the burgeoning New Science of Finance, which married economic research and market research and encompassed identifying and studying demographic trends, business cycles, consumers’ purchasing power and many, many other trends that empowered him to forecast economic and market changes.