When last we checked in on SocGen’s Albert Edwards, he was regaling readers with a story about the time he almost died in a road rage incident.
No, wait, that was the time before.
The last time we checked in on Albert was January 10, six days after Jerome Powell’s successful jawboning of markets in Atlanta. At the time, investors were wondering whether it would be enough to rescue markets. Albert’s answer was as follows:
If we are indeed nearing the point where the Fed stops tightening (both QT and Fed Funds), should this offer investors confidence that an equity bear market can be avoided? No! Traditionally the yield curve steepens as the Fed eases immediately prior to a recession. And market confidence that the strong December payroll data means a recession cannot be imminent is equally misplaced…payrolls often accelerate just ahead of a recession.
Well, payrolls “accelerated” again In January and since Edwards last wrote, the Fed has obviously made explicit/official (in the statements and presser) everything communicated via various speaking engagements and media trial balloons.
On Thursday, Albert is back and he kicks things off by letting everyone know that he’s fresh off another trip to Jamaica Inn. Last year, he visited the same “haunt” – and you can take “haunt” figuratively and literally there. There’s a backstory to this. Recall the following from a February 1, 2018 post we did documenting Albert’s last trip to Jamaica:
You’ll be happy to know that Albert Edwards is “restored to [his] bearish best” after taking a couple of weeks off to relax in Jamaica, where he apparently stayed at a hotel haunted by the ghosts of Marilyn Monroe and Winston Churchill.
Additionally, you should know that “neither a State of Emergency being declared down the road in Montego Bay nor what locals said was the wettest January weather for decades” stopped Albert from “absorbing large quantities of sunlight,” something he says is necessary to “fight against the Seasonal Affective Disorder” which he partially attributes to being persistently bearish.
Here is Albert describing how this year’s visit went (from his latest note, out early Thursday morning, US time):
I have just returned from my usual two week annual Caribbean break where I have consumed large quantities of vitamin D and sugar (via fruit punches). I usually de-camp immediately after our annual bearfest conference. We returned to the Jamaica Inn again this year communing with the ghosts of previous guests the hotel has been the haunt of actors (Noel Coward), film stars (Marilyn Monroe), politicians (Winston Churchill) and even royalty (Princess Margaret)!
As you may be aware (or actually, you’re probably not aware of this, so I’ll tell you), Albert likes to “check in on the local economic situation” when he’s in Jamaica and as it turns out, the central bank there is now making literal reggae videos and posting them on Twitter in an effort to explain to the public why low inflation can be as problematic as high inflation. Here’s one of them:
— Bank of Jamaica (@CentralBankJA) December 28, 2018
“This is inspired thinking and I hope other central banks follow the trailblazing lead”, Edwards quips.
If Kuroda ever does something like that for the other BoJ, I will never write again, because he will have killed off satire for all eternity.
In any event, Albert goes on to cite a San Francisco Fed paper that we actually highlighted in the live feed earlier this week on the off chance it would be relevant. Long story short, the paper makes the case for negative rates in the context of 2008. To wit, from the study:
The Federal Reserve dropped the federal funds rate to near zero during the Great Recession to bolster the U.S. economy. Allowing the federal funds rate to drop below zero may have reduced the depth of the recession and enabled the economy to return more quickly to its full potential. It also may have allowed inflation to rise faster toward the Fed’s 2% target. In other words, negative interest rates may be a useful tool to promote the Fed’s dual mandate.
Albert seizes on that. “In the next recession I expect core CPIs in the US and eurozone to turn negative [and while] many clients accept my general thesis, including the prediction of the introduction of helicopter money, my prediction of negative Fed Funds is typically met with incredulity”, he writes, before flagging the San Francisco Fed paper as “significant!”
After noting that we’re probably a long way away from the Fed actually taking the NIRP plunge, Edwards reminds you that negative rates are “just one” of many controversial ideas floating around out there in anticipation of the next downturn. Here’s Albert on MMT, the hottest of hot topics right now and something he promises to write more about later:
There has also been an increased flow of articles favourably disposed towards the controversial ideas of Modern Monetary Theory (essentially it is the idea that there is no government budget constraint when there is a sovereign central bank). I note that many of the more radical Democrats in the US seem to be adopting the idea and since I expect the US budget deficit to soar to 15% of GDP in the next recession, the ideas of MMT will surely become even more popular. I will write about that another time, but I certainly think the Fed and other central banks will be desperate enough to adopt outright monetisation (aka helicopter money, that is to say the direct central bank financing of public sector deficits) in the next recession. And as that will coincide with public sector deficits in the mid teens, we will be conducting a live MMT experiment. Welcome to a brave new world!
And speaking of a “brave new world” and things that will rancor the hard money crowd, Albert goes on to say that the Fed’s decision to tip an early end to balance sheet normalization is, in effect, an admission that QE was simply outright monetization.
Central banks have always contended that “QE is different from outright monetization because they (the central banks) were absolutely going to unwind QE as soon as practical”, Edwards writes, adding that “his own view has always been that until QE is actually fully reversed, it is to all intents and purposes the equivalent of outright monetization, and so central banks are merely splitting hairs.”
Given that, if the Fed does in fact go ahead and throw in the towel on the idea that the balance sheet can ever really be “normalized”, there will be “no doubt” in Albert’s “mind that what we have seen since 2008 is in fact outright monetization.”
Of course this is one of the worst kept secrets on the planet. Everybody knows QE has always been tantamount to a Ponzi scheme and as we’ve detailed on any number of occasions, Japan is destined for helicopter money.
The question is whether it matters. That is, all of this – the entire financial edifice – is a human construction. That raises questions about whether there really are any inherent “limits” to how ostensibly “insane” things can get. In any case, that’s another debate entirely.
As far as what happens in the next crisis, Edwards says that corporate credit is likely to be the real problem and the good news is that banks won’t be “at the apex” this time. This is a familiar refrain.
“Due to the Volcker Rule and other macro-prudent regulations, banks do not sit on mountains of corporate and mortgage paper as they did in 2007”, Albert reminds you, before warning that “it is pension funds, insurance companies and via ETFs, mom and pop, who bought the avalanche of US corporate bonds issued since the last GFC.” That is a risk in and of itself, and one that is surely underestimated by a lot of folks.
Next, Edwards dives into a fairly lengthy discussion of the deflationary risks across economies, but in the interest of brevity – and also in the interest of finally getting to my morning cigar three hours after I would have preferred – I’ll leave you with the money quote from Albert’s Thursday missive:
I do not believe the Fed wants to rush to cut Fed Funds into negative territory, but the cost of not doing so will be very high if others are doing it (via a strong dollar). The Fed will be forced to participate as avoiding deflation will be the number 1 priority – not the profitability of the banking sector. Investors should contemplate a brave new world of negative Fed Funds, negative US 10y and 30y bond yields, 15% budget deficits and helicopter money. Sounds ridiculous doesnt it? What I said in 2006 sounded ridiculous too. I hope I am wrong, but fear that I will be proved right.