Central Bankers Are Flogging a Dead Horse - Vivek Kaul's Diary
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Central Bankers Are Flogging a Dead Horse

Aug 9, 2016


There's a horse named 'inflation'.

This horse is flat on its stomach, with legs spreadeagle.

Every three days for the past nine years, one of the world's central bankers dresses up as a jockey. They mount the horse and flog it with the whip marked 'lower interest rates'.

On Tuesday, our resident jockey, Glenn Stevens, sat astride the deflated mount and hit it with a 0.25% cut.

The inflation horse is supposed to respond to these whippings by suddenly springing to life and galloping towards the furlong marked '2-3% inflation'.

No one seems to have told these jockeys they're flogging a dead horse.

The Japanese stead was beaten to death years ago. But old Abe & Co still come out to give it a flogging from time to time. The Japanese horse - stuffed with stimulus - lies prone...still in the same spot it expired at all those years ago.

If you're a jockey, and all you have is a horse, albeit a dead one, you've got very little choice. You put on your pretty colours, grab the whip, jump on and pretend you're riding a winner. The economic academics cheer you on and say 'all it needs is another good thrashing'.

Well, I know who needs a good thrashing, and it ain't the horse. It's these clowns dressed up as jockeys that are taking us perilously close to another Great Depression.

I profess to know very little about horses, but I thought the horse is the one that's supposed to be blinkered, not the jockey.

The inability to look past their computer models and textbooks, understanding the workings of the real world, is what makes central bankers so predictable.

The next time there's some flat economic news in Australia, expect the RBA governor to dust off the silks, swish the whip, and stride to the same spot where the horse was when they last conducted this pantomime. Tally-ho old boy!

The RBA could wheel out a turbo-charged defibrillator and that horse won't move.

In the 9 July 2016 edition of The Daily Reckoning, I wrote:

  • 'What a week.

    'RBA keeps interest rates on hold. But my guess is we only have a month's reprieve before Glenn Stevens takes us down another 0.25%. Oh how I wish Glenn's taxpayer funded retirement pension was tied to interest rates movements. Perhaps he might gain a little more empathy for savers.'

Right on cue, Glenn delivered the cut. This was no great premonition on my behalf. Central bankers are conditioned to respond in a certain manner...like Pavlov's dog.

For more than four decades, they've used interest rates to engineer economic growth. It was a simple model: Make money cheap and keep people borrowing for consumption. When consumption slows down, make money even cheaper...and away we go again.

The one thing they never counted on is that people might lose their appetite for debt...no matter how cheap it is. The thought that, perhaps, people are moving into retirement. Or, perhaps they are uncertain of their employment. Or perhaps their household income is stagnant. None of this appears to have dawned on them - or their debt-driven economic growth models.

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The world changes, but not the central bankers' programmed responses.

  • Interest rates. Stimulus. Interest rates. Stimulus.

With boring repetition, we see the same worn out and failed responses to the deflationary pressures the world is facing.

Which is why I wrote a few years ago - when the Australian cash rate was above 4% - that we would eventually see rates fall below 2%.

In hindsight, that prediction looks positively conservative. However, at the time, it was at odds with the mainstream economists who were talking about rates eventually rising.

This is an extract from a Sydney Morning Herald article, titled 'Economists expect cash rate to hit 'new normal' in three years', dated 7 October 2014:

  • 'Shane Oliver, chief economist at AMP thinks the cash rate will start to rise in quarter three of 2015 and will continue to rise to a new normal of 3.75%.

    'Paul Bloxham, chief economist at HSBC thinks rates will rise in the second quarter of 2015 and will reach a new normal of 4-4.25%.

    'Savanth Sebastian, economist at CommSec expects rates to start rising in the first quarter of 2015 and reach a new normal of 3.75%.'

The mainstream is always playing last year's game. The game has changed.

We are in a period of deflation, NOT inflation.

When you deduct government deficit spending from the GDP figures, the real economy is going backwards. It's only the willingness of governments, the world over, to go deeper into debt to fund 'stimulus' agendas that keeps the GDP needle above zero. This is fake growth.

The poster boy for this type of flawed and misleading economic management is Japan.

In last weekend's Daily Reckoning I wrote:

  • 'My guess is that Abe and Kuroda are not quite desperate enough - yet - to go the full stimulus Monty and rain money down on the good citizens of Japan. The problems with giving money out to all and sundry to spend on 'stuff' - like Rudd and Swann did - are when do you stop; what happens if they save instead of spend and finally, can Abe's political rivals 'up the ante' and promise to shower the people with an even bigger handout?

    'Abe & co are going to hit the stimulus button...again. But more likely it will be some tub-thumping announcement on a massive infrastructure spend. Like all previous attempts to ignite the consumption fires of its citizens and move that inflation needle of the zero line, this next grand scheme is also destined to fail to achieve its objective.'

On Tuesday (again, right on cue), our old mate Abe announced Japan's largest ever stimulus plan...a cool US$276 billion to be splashed around on infrastructure projects, in addition to a modest cash handout of US$147 to 22 million low-income earners.

Minor details like 'Japan doesn't have the money' are swept aside with this 'bold' initiative. How is spending money you don't have deserving of the word 'bold'? Stupid. Reckless. Irresponsible. These are words that come to my mind. Especially when all their other 'bold' plans have been spectacularly unsuccessful in saving the inflation horse from the deflationary knackery.

The Bank of England (BoE) chief jockey, Mark Carney, is the latest to suit up in his red, white and blue silks...exactly three days after Glenn Stevens. He too has flogged the inflation horse with a 0.25% cut. Lowering the official UK rate...wait for it...from 0.5% to 0.25%.

The UK cash rate has been at 0.5% for more than eight years. After all that time, you'd think the inflation horse would have done a Lazarus by now and bolted. Not so. Dropping another 0.25% is the equivalent of pushing on a string.

In addition to the rate cut, the BoE have announced...again, wait for it...more money for buying corporate and government bonds. That's so yesterday. Been there and done that; and all we have is countries bordering on insolvency, issuing bonds as if they have a gilt-edged credit rating.

But wait, there's more. They've also thrown in a set of steak knives in the form of creating £100 billion ($175 billion) out of thin air to give to banks to lend out at close to 0.25%.

What's next?

Well, once they realise that lowering interest rates, giving banks ex nihilo money to lend out, buying bonds and shares to prop up markets, building overpriced (the unions tend to get a healthy slice of the free public money cake) bridges, school halls, roads, ports etc. doesn't make the horse move, then we'll see 'helicopter money'. Money raining down for all to spend.

As sure as night follows day, this is the 'nuclear prod' our jockeys have in mind for the economy.

The use of the prod could go one of two ways. The horse deflates to a bag of bones, OR the horse is miraculously shocked back into life, galloping well beyond the 2-3% inflation furlong post with the central banker jockeys holding on for dear life.

While the mental picture of Yellen & Co bouncing around on a runaway nag brings a smile to my face, the prospect of high inflation, or hyperinflation, is no laughing matter.

One thing's for certain: With these clowns in the saddle, we're in for one hell of a capital jarring ride.

Please note: This article was first published in The Daily Reckoning Austalia on August 06, 2016.

Vern Gowdie is a contributing editor to Money Morning - Australia's biggest circulation daily financial email. Vern has been involved in financial planning since 1986. In 1999, Personal Investor magazine ranked Vern as one of Australia's Top 50 financial planners. His previous firm, Gowdie Financial Planning, was recognized in 2004, 2005, 2006 & 2007, by Independent Financial Adviser (IFA) magazine as one of the top 5 financial planning firms in Australia. Vern has been writing his 'Big Picture' column for regional newspapers since 2005 and has been a commentator on financial matters for Prime Radio talkback. His contrarian views often place him at odds with the financial planning profession.

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