Friday, October 29, 2010
I say these things because in the process of the following provocation, I do not wish to be categorized as a perma-anything, excepting perhaps a perma-skeptic, but in particular do not wish to be labeled an apologist for overly loose money - something that would be patently false.
I must further admit in order to insure the proper stamping of my anti-easy-money-credentials that I am as concerned as anyone about the concept of quantitative easing. I understand that it can be seen as dilution. And in many circumstances - certainly historic ones, printing was hazardous.
But here, today, being inquisitive and hopefully provocative, I must ask the frank question, what is the big deal about a bit of quantitative easing under the present circumstances? Hear me out. Look back over the past 25 years . Witness the ballooning of asset prices. The credit that has been extended and therefore money created, has been, in a single word, enourmous. No, actually ENOURMOUS!! I do not need to reproduce all the graphs that luridly depict this vertiginous reality. And they [asset prices] are still high, as any owner Schiller-measure, or owner of an inner London 2br flat can testify to. This money has already been created. And not only has it been created, it has been spent. And the cascade effects too have already spilled over and paid for the beneficiaries' Porsches, and Hampton or Nantucket digs. Yes, these asset prices and the S&P 500, might continue to go higher. But credit is and will likely remain constrained for a long time. Deleveraging continues apace. Asset prices - both real estate and equity remain elevated, and could easily compress a great deal more under the continuing scenario of limited credit, limited domestic investment opportunities, diminishing construction and consumption spending as a percentage of GDP, aging populations, high and long-term rising energy prices and the perception of the fiscally-constrained state.
Now focus on Japan. Here, too, witness the slow inexorable grind of rates lower during, yes, twenty-five years. The aging of the population. The rising ratio of national debt to GDP. The falling asset prices. No matter quantitative easing. The conjured liquidity seemingly disappears into one black-hole after another, unable to have any meaningful priapic impact upon velocity of money, asset prices, inflation or economic activity. These are vivid images, but accurate depictions. And why? It is not clear we even know.
Lets look at some numbers on our turf. Not the real precise numbers because I am lazy and in a rush for you to contemplate my point before hurling insults back at me, but rough back-of-envelope numbers will do for illustrative purposes. US GDP is $14 trillion. Equities have quadrupled over twenty years. US public market aggregate Market Cap is, I don't know $14 trillion? And private unlisted values - maybe quarter to half as much again? US Bond Market values - combined Federal, corporate, mortgage, municipal, are probably close enough to $30 Trillion, and who knows what the size of privately extended loans are on US bank balance sheets, but it must be a couple of trillion. Net real estate equity value - the unencumbered portion NOT accounted for in market cap of listed and private companies, must be several trillion. These values reflect money already out there. Asset values that already inflated by the massive credit binge during more optimistic times. These, like Japan, are likely compressing in a very long term move. The aggregate net worth of $40, $50 maybe $60 trillion, could be compressing to $30, $40 and $50 trillion respectively. Or, like Japan, lower, and over a longer period. So, one trillion of QE has no bearing on anything (unless you are the guy who has sold them duff assets for real money that you can transform quite easily into a large edible Philadelphia Hoagie. For more or less the same price as one transformed it ten years ago. Would two trillion do anything? In the scheme of things, it would seem, probably not. Oh, sure it might get the speculative juices flowing for a nanosecond (as it did in intermitant intervals in Japan) when traders attempt to front-run this government stimulus package, special budget, or the much vaunted QE, but this would turn out to be but a small blip in velocity, as it flatlined, seemingly forever, or beyond the patience of any reasonable trader or even long-term investor.
So this must be good news, and you now think me an optimist, right? Well, if you recall, virtually all Japan's largest banks needed recapitalisations by ten years after-the-fact. As did the finance companies, and the brokers, and many life insurers. Some needed several and some still need them, twenty-five years later as the inexorable deterioration in asset quality and repayment was eventually reflected in diminished asset prices which was eventually reflected in capital conjurations by pen-stroke, to insure systemic "solvency". Quantitative easing? This was like throwing a few pebbles into a gigantic sinkhole, hoping eventually to fill it in. Inflationary fears? Yes. Inflation? Not in anything subject to Peak Credit and the overhang, like home prices, the S&P, or the wages you pay your secretary. At least that was the experience in Japan. Where did it all go? Why does it not, to this day, make people hyperbolic in their vilification of authorities who have, to the objective observer with no preconceptions about how large the BoJ's balance sheet should be, preserved a semblance of normality in what otherwise have been something else. Maybe that something else is preferred. Maybe that something would have been better. Tea-party-ers and inflationista's certainly seem to think so. Maybe Japanese asset prices are falling for other reasons, and our asset prices are different. Better. They will respond because, ummm, because they are American. Perhaps, but only if they were in aggregate NOT overrvalued by $10 or $15 trillion or some other equally large (or larger) number. I am not sure I would want to make the case that outlying commuter suburbs with no reasonable public transport links are fairly valued in an era of peak oil. What IS the right price? Who knows, but where is fat tail? Seems like the left side - before the right side, at least before desperation sets in, and a trillion here or there is hardly desperation in the grand scheme of market values. Is this better or worse than inflation? I do not really know...