Because we live in a bizarre, fake world, dominated by fake money printed by people who are faking it, it is necessary to begin today by talking about interest rates.
If thatâs the kind of discussion that will ruin your day, skip this. But if you can hold your nose and read, it may be worth your time.
The European Central Bank (ECB) meets today to discuss monetary policy. The ECB president, Mario Draghi, will then hold a news conference in which every word, and even his tone of voice, will be analysed for clues about what the bank is going to do. Let me save you the trouble: itâs going to keep up its campaign to cause inflation.
There are a few specific things to watch for. Keep in mind that if any or all of them happen, it will be consistent with what Timâs written his new report: incremental steps on the way to more financial repression. Financial repression, by the way, generally means the subjugation of savers to the interests of finance via low interest rates.
Yes, thatâs a mouthful. It would be simpler to just say youâre getting screwed. In fact, letâs leave it at that. But precisely how?
First, expect the ECB to extend the duration of its âŹ60bn per month bond buying programme. Thatâs conventional quantitative easing. Anything beyond a mere extension would be news. For example, the suggestion that the bank might expand the type of assets itâs willing to buy.
If the bank decides it will consider loading up on other types of assets (and to be fair, Iâm not entirely sure what its legal authority is in that regard) it would tell you two things. First, Draghi and company are just as terrified of a China-induced global crash as their cronies at the US Federal Reserve, the Bank of Japan, and the Bank of England.
Second, it would tell you to expect a bit of a rally in stocks. Traders are already piling into the euro as a safe-haven currency. Any explicit support for bonds and other assets would give capital managers an excuse to get into large-cap European blue chips. I wouldnât describe it as a âsafe havenâ play. But itâs certainly a liquidity play.
Beyond QE, you have negative interest rates. Yes, the overnight deposit rate on funds held at the ECB has been stuck at a negative 0.2% for a while now. This is another tool of financial repression disguised as âstimulusâ. Objectively, the policy is designed to get large European banks out of the habit of holding cash in the safe digital vaults of the ECB. But thereâs more to it.
The ECB may think itâs encouraging banks to loan more money and promote growth so it can hit its 2% inflation target and avoid the dreaded deflation. What itâs really encouraging is moral hazard. Or even mortal hazard. Itâs broadcasting a false price signal about risk. In so doing, itâs encouraging destructive financial behaviour.
I bet Draghi wonât put it that way in his press conference. But while some people see those news conferences as a kind of âtalk therapyâ that provides clarity about monetary policy (and calms people down), my magic glasses of insight show me another scene entirely. Itâs just another guy way in over his head telling people what to do with their money and using all the coercive tools at his disposal to bend you to his economic will.
While Iâm on the subject of interest rates and their ability to wreak havoc and spread woe among billions, letâs talk about the International Monetary Fund (IMF). Finance ministers and central bankers from G20 nations will meet in Ankara on Friday and Saturday. Like the meddlesome bureaucrats they are, the staff at the IMF couldnât resist preparing the battlespace for the meeting with a brief research paper called Global Prospects and Policy changes. Check out the bit below from the paper (emphasis added is mine):
âAccommodative monetary policies remain essential in many advanced economies, given still sizable output gaps. In most advanced economies, output gaps are still substantial, inflation is expected to remain below target, and monetary policy remains constrained by the zero lower bound. The expected boost in economic activity from lower oil prices has not materialized, and lower energy costs are keeping inflation low. Hence, monetary policy must stay accommodative to prevent real interest rates from rising prematurely.â
There are a couple of points worth elaborating on from that innocuous looking snippet. First, if and when energy prices rise again, youâll see an uptick in inflation. Whether energy prices will rise againâor whenâis also an interesting discussion. With Opec pumping to beat the band, oil certainly wonât rise due to scarcity. But a fuller discussion of oil prices and their link to UK inflation is beyond the scope of todayâs article. Keep this in mind though: winter is coming, and itâs usually cold.
Of the two remaining points, one is obvious and one is not. The obvious bit is that while GDP growth is tepid, interest rates will stay low (give or take a token Fed rate rise later this month). In the UK, the problem is the âoutput gapâ, or the difference between an economyâs potential growth and its actual growth.
There are many things in life more disappointing than an economy that refuses to live up to its potential. But as an academic subject, itâs actually pretty compelling. Itâs also important for the UK economy. Why?
Well, assuming you have a method for accurately forecasting what an economyâs potential growth is â and that seems like a fairly large assumption, to be honest â youâd have to figure out why it isnât living up to that potential. In the UK, it comes down to productivity. The Bank of England reckons the economy is growing below its potential because Britons are lazy.
Of course, it doesnât come right out and put it that way. Itâs layered in terms like âtechnologyâ and âstructural reform to the labour marketâ and âidle capitalâ. But what theyâre really saying is that if more people did more work more efficiently, Britain would reach its potential.
Productivity itself is a kind of a holy grail for central bankers. For them, life gets better when an individual (or a machine, or an individual treated like a machine) can do more work in less time. Increasing productivity correlates fairly well with higher standards of living. It generally means youâre using technology to increase your output.
When one descends from the ivory tower, increasing productivity can look a lot like firing workers and asking the remaining ones to do more work in the same amount of time. But to be fair, you can only really assess it business by business. Note to self: have a good look around the office at Friars Bridge Court.
But itâs the job of statisticians and forecasters to aggregate data and then try and draw general conclusions from them. For whatever reason, the UK has an output gap. My analysis: the country has overinvested in real estate, a consumption asset which ties up capital and produces no real wealth for anyone. Discuss among yourselves.
In the meantime, one last point about the IMF note. The very last line acknowledges that âreal interest rates can rise prematurelyâ. This is a critical admission. But of what?
Central bankers can control short-term interest rates by setting what they think is the appropriate target and then using a combination of open market operations and verbosity to cajole the market into seeing it their way. Thus is the price of short-term money set.
Long-term interest rates, especially on government bonds, are set by the market. Thus far, central banks havenât tried to target those. They probably would try if they thought they could pull it off. And maybe they will at some point.
But when you use the phrase the âreal interest ratesâ youâre acknowledging that the price you set for money is artificial. Maybe itâs a well-intentioned guess. But itâs still artificial.
Behind closed doors, you can bet that the IMF, the ECB, the Fed, and the Bank of England are terrified of a sudden interest-rate spike. What would cause that spike is also beyond the scope of todayâs discussion. But keeping interest rates low is a key part of their programme.
If the real rate of interest is allowed to rise, it will reveal that the worldâs financial system is just as fragile now as it was in 2007. Over $57trn in debt has been added, public and private. That debt is interest-rate sensitive. And while itâs also a credit on someoneâs balance sheet, a credit is only good if the borrower can pay.
Interest rates are an early warning indicator for the whole financial system. Control them, you control the information. Lose control, and you lose control.
I was going to write about Chinaâs military parade and the DongFeng 21D âEast Windâ missile. Itâs been dubbed an aircraft-carrier-killer for its ability to fly ten times the speed of sound. It changes the âfacts on the groundâ in the Pacific. Itâs also a reminder that most global conflicts begin in the context of economic collapse. But Iâll save that for another time.
Category: Economics