Not much action in the markets yesterday.
So, let us return to the economy. That’s where the excitement is. According to leading economists — notably those paid by the US government to forecast the future — interest rates are going to stay low for a long time.
Perhaps we should pause and say an Ave Maria…or whatever you say when you put a market cycle into the grave.
Maybe we should proclaim a day of mourning. Or at least raise a glass or two.
Yes, the feds have pronounced our old friend dead. Dead…dead…stiff dead…cold dead. Immobile. They denied responsibility for the death of the credit cycle, but admit that it was in their custody when it expired.
A permanent low?
Ever since there were markets there was credit, too. And like all things available in a market, it was subject to rhythms – usually related to harvests. Its price varied according to the rules of supply and demand.
The credit cycle seemed permanent. But like so many things in this transitory life, it has now been taken from us by the central planners at the Fed, the Bank of England, the ECB, the Bank of Japan, etc.
Exeunt omnes. Hallelujah!
Specifically, the Congressional Budget Office (CBO) tells us Washington’s interest rate expense on its debt for the next 25 years will bear a striking resemblance to what have seen over the last few years.
It projects a financing cost of 4.1%. That’s close to the average of the last 10 years — and substantially lower than the long term average of 6.59% since 1962.
The CBO’s estimate — if we are to believe it — tells us interest rates are locked in a permanently low range, like the brain waves of a patient in a coma.
Gone, they say, is the excitement of the 1970s and early 1980s up-cycle, which led to the yield on the 10-year Treasury note peaking at over 14% in 1982.
This is not an inconsequential outlook. If interest rates were to rise appreciably, the ‘borrow, borrow, borrow…spend, spend, spend’ economy would disappear.
Twisting and distorting
The post-1970s world was enabled by several interlocking trends. But most important was the decline in interest rates. This allowed debt to expand in a remarkable way.
Total US credit market debt went from 170% of GDP in the early 1980s to over 350% in 2007. In nominal terms, total US debt went from about $5 trillion to over $50 trillion in 2007.
This had the following effects:
Borrowing masked the effects of a slowing real economy. Wages were mostly stagnant. But consumers still spent more money.
Spending in excess of real output shifted the economy from one focused on production to one focused on finance and consumption. The financial industry, in particular, saw soaring profits…and used its wealth to control government policy.
Governments, too, increased spending.
Tax receipts grew along with debt-financed consumption and financial engineering. Tax receipts in 1990 were only about $1 trillion. Now, they are $2.5 trillion. In addition, governments took advantage of low interest rates to borrow more.
This twisted and distorted the economy even further; whether the funds come from borrowing or taxing, government transfers wealth from the productive parts of the economy to those that are unproductive… or even anti-productive.
As time went by, it became more and more important to continue expanding debt. Consumers, business — and the government — had come to depend on expanded credit just to stay in the same place.
Debt expansion became not only an indispensable component of the new economy; it also created its own political support.
With so many people now relying on easy access to credit — including Washington — neither the Fed nor Congress could refuse efforts to hold down interest rates.
So, Congress, the CBO, the Fed…Wall Street…and millions of households and zombies everywhere… all now agree that interest rates cannot be allowed to rise. They must be held down at all costs. If the interest rate cycle is not dead yet, it should be, they reason.
Look at a chart of the fed funds rate, below.
You see, it looks like the ECG of a man who is brain dead. Flat-lined for 69 months.
And there they are. Huddled around. Economists. Policy-makers. Politicians. They are all watching him carefully. Checking his pulse. Listening to his breathing…
…and holding a plastic bag in their hands, just in case he seems to be waking up.
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