If you want to sleep well tonight, I probably wouldn’t read this.
The emperor has no clothes.
There, I said. I know we were all thinking it, but I’ve come out and said it. Everyone is pretending like they know what’s going on. The central bankers and the finance ministers want us to believe they’ve got things under control.
But they don’t. The truth of it is all their tools are broken, and the economy is completely off the chain. That’s what this post is about.
And what are they going to do about? My bet is sweet F-A. Their tools have been broken for years now, but it hasn’t stopped them pumping more and more money into the system. They’ll keep at it til their banking puppeteers pry their cold dead fingers from the policy levers.
And one of the reasons why I’m still buying up property, both here and overseas, even as the current price cycle in Australia matures, is that over the longer-run, endless money can only pump up the dollar value of assets that are in fixed supply.
And what assets are in fixed supply? Land and commodities.
Now I think gold and silver can be a good bet if you’re predicting the collapse of the current economic order – if the Pax America and the capitalism it’s nurtured are overturned and replaced with something else.
In whatever the new money will be, gold will still be gold.
But pole reversals in the economic order are pretty rare. Empires don’t last forever, but they do last for generations. Empires can limp on, mortally wounded, a lot longer than you can stay solvent.
And this is precisely the game now. Limp on. We used to dream of creating marvellous civilisations and thriving economies. Now it’s just limp on and see if we can get past the next election.
And what do we do in a limp-on economic system?
Personally, I’m buying property.
Let’s remind ourselves how we got here.
The conventional wisdom goes that the GFC caused a massive global demand shock. In America and a number of other important countries, people lost their jobs and saw their housing wealth evaporate.
In response, the central banks did what they always did. They lowered interest rates to reduce the cost of borrowing and spur demand – consumption and investment.
Trouble was, interest rates were too close to zero and they ran out of room to manoeuvre. And so they took to printing money – hoping that if they increased the “quantity” of money in the system, it would wash around a lot faster.
At the peak of Quantitative Easing, America was adding $85 billion dollars to the system – every month!
But it didn’t work. In fact, it seemed to make no difference at all.
And the reason for that is, the GFC wasn’t a temporary demand shock to an otherwise healthy economy. The truth is that demand in the developed economies had been weak for years, a fact which China had been helping to hide.
And the subprime mortgage crisis was really about an absence of attractive investment alternatives. With domestic economies in the developed world weak at best, there weren’t a lot of great options for your money.
So the banking sector got ‘creative’.
The monetary policy tools we have now were founded in a post-war era where there was no shortage of things to invest in. Roads needed to be built, factories constructed, proto-types rolled out.
And in such a world, if you reduced interest rates, you brought down hurdle rates, and more projects got off the ground.
But in the current era, as our developed economies mature towards a dignified retirement, there aren’t as many projects to invest in. Without enticing things to invest in, it doesn’t matter what interest rates are. As policy makers found out, people didn’t want to invest – at any price.
But the ‘price’ of money (interest rates) is the only tool they have, and they just keep pumping it.
And so where did all that money go?
Well, in the absence of new things to invest in, it just went into existing assets.
You can track it through this way. This chart here shows the debt and profitability of non-finance sector firms in the US.
With all the cheap credit available, we can see they went on a debt binge. They borrowed heaps and net debt spiked.
But look at what happened to profitability (EBITA) growth. It’s fallen and has actually slipped into negative territory.
That’s odd isn’t it? It’s the first time the two have moved in opposite directions since WWII. Where’s all that investment going if not into making firms more productive and profitable?
Here’s where. Buybacks and acquisitions.
This chart shows what firms did with their debt. Since the GFC almost all of it has gone into buying back their shares, or buying other companies (purple bars). Almost none of it went on capital expenditure (green bars).
As a result, share prices of existing companies have spiked (making their CEOs very rich!) But if they’re not investing now, where are they going to be in 5 years? What will they be doing? How are they going to make money?
(Another reason I keep a limited exposure to the share market.)
And so this is the true story of what happened. As developed country economies (including Australia) matured and their consumers maxed out, their economies started to stagnate. Their governments responded by continually dropping interest rates, until they couldn’t go any further. That cheap money started flowing to some “creative” places, resulting in imbalanced rupturings like the GFC (it won’t be the last).
But in response, officials just took rates even lower, and actually started printing money. But without anything to invest in banks and corporates just lined their pockets, bidding up the price of existing assets, while doing nothing to promote actual economic activity.
We’re going nowhere, fast.
And in my mind, the future looks much the same. Given the choice between dealing with the structural challenges of maxed out economies, or just throwing more money at the problem, my bet is politicians will go with the money-throwing option.
And what’s out best play? Well, if government are throwing money at existing assets we want to get in the way of some of it! We could buy shares, but share values are tied to earnings, and right now they’re eating their seed corn.
It can’t last.
Property on the other hand is tied to population flows. People will always need houses.
Of course, I can’t promise it’s not going to be a bumpy ride. All that cheap money flowing into high-rise towers is going to create a few waves for example. But over the longer run, it seems like the best bet to me.
It’s real, it’s in fixed supply, and it generates income.
In a limp-on economy, that’s as much as you can hope for.
Do you agree? If not why not?
What's stopping you from crushing it right now ?
ron goddard says
hi jon, a good article. there are snags in buying anything. buying real estate for the long term is a ‘never fail’ acquisition. the only dark cloud on the horizon is derivative debt. its now (according to many ‘pundits’ between US$800tn and $1,200tn. how is that ever gonna be repaid? and lets look at the american scene. its ugly. (as always). now in any economy there are waves of productivity and decline. however these waves are never consistent because of government interference. in germany the four major banks make up 32% of banking activity as there are many minor banks(like there are many micro breweries in that country, which don’t pay a stupid excise tax like here..and the beer is so much better) that super clown of finance, mario dragho or something is gonna kill those minor german banks with his ridiculous low interest (neg. interest policies). the minor german banks cannot tolerate the pressures of neg. interest rates. if they go ..well there goes the eurozone. germany is the engine room of the eurozone and they are very angry at mario and co. now what ramifications has that on australia? well our four major banks make up around 90% of all bank activity in australia and they inextricably tied to american banks: bank of america, goldman sachs etc. in our global economy and its tentacles we are sort of imprisoned in our system. now the american scene is a never seen before mess. there are some lunatics in the white house wanting to nuke the russians, well that will spell doom for the americanos. russia/china and iranian forces would obliterate america and their 835 bases around the world in a nano second, including the 134 american(u.n.) bases on the western border of russia. thankfully there are some cool heads in washington and they know about their demise if they start anything with russia. now if the eurozone disintegrates where does the money fly to? of course to usa, which will strengthen the yankee dollar so much that we will have a very weak aussie dollar, maybe around 50c/us$1.so that house in usa is costing US$250k..but in reality its AU$500k. jon, i am coming to your ‘event’ on 10th this month in freo..lol i wanna hear that lady with the funny name give me confidence to do what i maybe should be doing. i will probably not meet you personally, maybe a sort of hero glimpse from the back somewhere. and you could be right..the blues look very good right now and next year could be a bolter for them. maybe its something to do with the coach. he is calm (and humble) and small and makes good choices. cheers, ron
edd says
Thank you Ron for your information. I have respect for your posts. Jon, I am pleased since this post contains some good wisdom. Please listen/watch this interview “Jeff interviews The Dollar Vigilante’s Senior Analyst, Ed Bugos” https://www.youtube.com/watch?v=Nb-Frf0t5A4
Tom says
Thanks Edd.
Since the Fed started its QI#1 program, it has been obvious that without any increase in productivity, any large USD printing must devalue not only the USD itself, but all our interrelated fiat currencies. We can’t print arable land or skyscrapers. In Oz, our only hope is to improve our productivity.
But when we recall that all wars are “Bankers’ Wars”, both military and financial, it is obvious that WHATEVER happens, it is the Bankers who benefit and the people who lose out – being treated like mushrooms, (kept in the dark and fed BS) – while being robbed.
Personally, I shall have to re-watch that video. There is too much for my brain to fully process in one go. Thanks for bringing it to our attention.
It is interesting to see that the AUD is not shown on the indebtedness chart.
Perhaps we should have printed money too, to pay off our national debt with phoney money.
Foreign Exchange markets do not acknowledge that we didn’t print money.
The USD is really worth less than one third of its pre-GFC value.
So the AUD should by rights be worth more than the USD, when our underlying national assets (real and potential) V the volume of USD in circulation is considered.
Charlie says
Well stated, you got me : )
Ed says
Interesting, but won’t a property investment focus just add to the economic decline? Why not (also) invest in innovative businesses that are investing in the future (e.g. renewables or even miners who are investing in minerals with predicted future high demand)?
Dave says
Good point Ed. Sorry but this property bubble is getting ridiculous. The government is propping it up and saying how well we are doing. BS, I say. We need more investment in Businesses, education, technology and renewables and health, which will create jobs. The only problem is, companies and businesses are just not investing as John said. The company tax rate is set to be slashed to 27.5% and the government believes in trickle down economics which has been proven to be absolute rubbish. I have seen it with my own eyes. I work for a company that has seen increased profits but have laid off people. Then you see the boss roll in with a brand new BMW. What a joke. Trickle down economics only work when the owners and shareholders have morals and keep investing in jobs and improvements and growth. So, the government gives business a big tax cut and believes it will trickle down (Yeah right, when pigs fly backwards), but slashes education funding which will see the future of Australia’s young people compete with the world.
Tom says
Hear, hear Dave. Well put. It appears we have to choose between the lobbyists’ Corporate Greed and Patriotic Humanism next month.
How did we allow ourselves to be led into this ‘Presidential’ rather than ‘Cabinet’ approach to politics? We should be comparing “Front Benches” rather than “Presidents”.
Dave says
https://youtu.be/IwminGhcGlE?t=109 John Symonds vs Steve Keen on Aussie Property
AusHousingCrash says
“It’s real, it’s in fixed supply, and it generates income” and therefore its a prime target for government taxation. Economics Class #1. There are four components of production: Land, Labour, Capital, Enterprise. Only one of these can be taxed without reducing the incentive to produce goods and services.