The Credit Strategist - November 2022
The Global Ponzi Scheme
Regardless of the precise path the future takes, the inflation narrative is largely a false one designed to allow the government to continue to borrow to fund promises it can never keep. While the stated goals of the Federal Reserve are full employment and stable prices, that’s just a cover story for enabling runaway borrowing and spending. The Fed’s real job is to maintain the government’s massive Ponzi financing scheme and that requires a strong bias toward easy money. Real rates are still going to be negative at the peak of this hiking cycle; otherwise the entire Ponzi scheme will collapse. In practical terms, the Fed must create enough inflation to inflate away the massive debts incurred by the federal government (and to be clear, the government will never stop incurring these debts). While the Fed has to publicly fight inflation, its policies actually do the opposite and push prices higher. Our currency is steadily debauched as the only way of dealing with mounting debts taken on to pay for the promises made by our politicians to a public voting against its own interests and suffering diminishing standards of living. While professional investors have to play along with this narrative to navigate financial markets and understand the mind of the market (especially if they are focused on the short term), I hope that readers of this publication understand the real story and formulate more effective and profitable long-term investment strategies. If you are not earning positive real returns, you are falling behind.
As noted often in this publication, inflation is the result of multiple factors, many of which are beyond the control of the Fed. While the Fed’s reckless monetary policies (aided and abetted by equally profligate fiscal spending by Congress) were major contributors to higher prices, other policies exacerbated the problem – unjustified pandemic spending bills pandering to political constituencies, green energy policies, higher wage policies, and lax antitrust policies. But beyond these policies, there is a much broader governmental need to inflate prices in order to deal with the exorbitant and otherwise unsustainable debt levels that built up since the Great Financial Crisis. According to Russell Napier, an extremely savvy strategist, total public and private debt in the United States is now equal to 290% of GDP, 371% in France, over 250% in many other Western nations, and 350% in Japan (Mr. Napier is including unfunded liabilities). There are only three ways to deal with unsustainable debt levels: inflation; currency devaluation (which is the flip side of the inflation coin); and default. Governments increasingly resort to creating money out of thin air (which by definition is debt, not equity) as they did during and after the Great Financial Crisis and the pandemic in order to satisfy their constituents with little regard to how that debt can be serviced or repaid. The United States is now heading toward a situation where the annual interest cost to service the federal deficit (which just exceeded $31 trillion) will hit $1 trillion (interest rates across the Treasury curve 3 months out are now above four percent). This will put enormous upward pressure on deficits and intensify the political fights over budget priorities. But since payment default is not an option, the only realistic course of action is going to be to inflate away the debt over time.
Our government has been doing this with its debt for years and disguising its actions with phony inflation statistics that central bankers and government officials claim to believe (what they say privately is another matter) and the mainstream financial media largely (with some exceptions) parrots for the masses. Inflation was much higher than reported for years and the fact that the Fed purported to believe that it was below 2% is either evidence of its incompetence or complicity in the Ponzi scheme (a devil’s bargain). The question now is how the Fed can pretend to reduce the “official” number low enough to keep the inflation narrative going without completely blowing its credibility. Markets are still populated with enough investors willing to settle for negative real interest rates, but someday that may change. Hopefully readers of this publication know better and understand that the name of the game is to earn positive real returns on their capital. The inflation regime is not going to change. The charade of fighting inflation will ebb and flow with the Fed occasionally tightening policy like it is doing today, but the upward bias in inflation will remain intact because that is the only way governments can possibly keep their Ponzi game going.
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