After all, we’re talking about a lot of debt. The U.S. Treasury is trying to auction off $162 billion in debt…this week alone. It needs to raise $2 trillion in the debt market this year, $900 billion of which will have to be raised before September.
“The US is not alone in facing a deficit crisis,” reports the U.K.’s Telegraph. “Governments worldwide have to raise some $6 trillion in debt this year, with huge demands in Japan and Europe. Kyle Bass from the US fund Hayman Advisors said the markets were ‘choking on debt'”.
“There isn’t enough capital in the world to buy the new sovereign issuance required to finance the giant fiscal deficits that countries are so intent on running. There is simply not enough money out there,” he said. “If the US loses control of long rates, they will not be able to arrest asset price declines. If they print too much money, they will debase the dollar and cause stagflation.”
We’d also suggest that financial asset price declines will be accompanied by real asset price increases. Currency debasement has a way of leading to higher prices. As Mark Gilbert reports in Bloomberg, currency debasement as a way of dealing with huge debt is now a global phenomenon.
“All currencies are being debased dramatically by their central banks at extraordinary speeds and so in relative terms it appears there is no currency problem,” Lee Quaintance and Paul Brodsky of QB Asset Management said in a research note earlier this month. “In reality, however, paper money is highly vulnerable to a public catalyst that serves to acknowledge it is all merely vapour money.”
We would argue that one “public catalyst” which acknowledges that paper money is “vapour money” is the price of tangible assets. And that brings us to the other world to which Australia belongs. True, the country is following in the debt and debtor footsteps of the U.S. and the U.K. with its fiscal policy. But the private sector and the resource economy belong to the world of long-term structural demand growth from China and India. That world is a much better place to be, especially for investors.
A research report from Goldman Sachs JBWere says the “worst is over” for raw materials demand. It says investors should increase exposure to major resource companies. “We are becoming increasingly confident that the period of weakest demand for raw materials is behind us,” wrote Malcolm Southwood. “We have also seen the bottom of the price cycle for base metals, and particularly for copper, which remains the most supply-constrained, and therefore our preferred commodity for investment exposure.”
After the giddy heights of 2008, we take these pronouncements about commodities demand with a block of salt. After all, a cynic might think that brokerages were talking up the demand recovery story in Asia because their in-house trading desks are short the U.S. dollar and long oil, copper, and gold. However, if were we choosing which long-term investment was most appealing for Australian investors, we’d choose the China “V-shaped recovery” story. It will be nice if it’s true.
But the question remains whether or not the resurgence in demand is just resource stockpiling or something more. And if it’s something more, can growth in China’s economy be sustained even as Europe, Japan, and the U.S. stutter, splutter, and splatter their way through the rest of the year?
And just to complicate matters, let’s not forget that U.S. house prices fell by 19% in the last year, according to the latest Case-Shiller data. There is also serious erosion in the performance of “prime” mortgages, a $3.5 trillion market. It’s entirely possible-we think it’s likely-that there is another $1.5 to $2 trillion in losses coming, related to U.S. residential housing. The banks are not in the clear yet, nor are investors who own mortgage backed bonds or CDOs.
And we haven’t even mentioned the commercial mortgage market. Did you read that Suncorp took a third-quarter impairment charge of $136 million because of falling Australian commercial property values? “Suncorp said its impaired assets increased by $255 million to $1.24 billion during the three months to March 31 after the Australian banking sector continued to be impacted by the deteriorating economy and declining property values,” reports Dow Jones newswires.
That is the Anglo-Saxon world if debt-financed property inflation that Australia has one foot in. On the other foot, Newcrest’s Ian Smith says the global economy may have “turned the corner.” Bloomberg reports that Smith told a conference that fundamental demand in emerging markets is solid.
Advantage, developing world.
It’s hard to know what to believe, then, isn’t it? It’s obvious the world’s financial system is still broken. Specifically, the fiscal imbalances in the world’s largest economies are economically unsustainable. But the political consequences of falling house and stock prices are unthinkable.
When political necessity meets economy reality, reality yields, if only for a short while. The result is currency destroying policies of quantitative easing and debt monetisation. And what does that mean? The long-term bear market in sovereign bonds has begun and tangible assets are rising, even though there is huge uncertainty over the prospects for the global economy.
Perhaps the best we can hope for is a reluctant compromise. The world’s economy is not strong. But in some of the broken places, it is getting stronger.
Call it investment insight from Ernest Hemingway. “The world breaks everyone and afterward many are strong in the broken places,” Hemingway wrote in A Farewell to Arms. “But those that will not break it kills. It kills the very good and the very gentle and the very brave impartially. If you are none of these you can be sure it will kill you too but there will be no special hurry.”
More on death, adaptation, and survival tomorrow.
for Markets and Money