Bush Trumps Reagan

Our weekly commentaries provide Euro Pacific Capital’s latest thinking on developments in the global marketplace. Opinions expressed are those of the writer, and may or may not reflect those held by Euro Pacific Capital.

By: 

Peter Schiff

Thursday, December 22, 2016

The optimism that has followed the election of Donald Trump has pushed the Dow Jones Industrial Average to the threshold of 20,000, a level that will be both a nominal record and a symbolic milestone. Although this is not the way most observers had predicted that 2016 would play out, most on Wall Street have become extremely reluctant to look a gift horse in the mouth…or to even look at him at all. The impulse is to jump on and ride, and only ask questions if it pulls up lame. But if this year has proven one thing, it is that predictions made by the consensus should not be trusted.
 
Back in the earlier part of 2016 the mood was decidedly darker. At that point most people believed that the Federal Reserve would be raising rates throughout the course of the year. While such hikes had been anticipated (and delayed) for years, most took comfort in the belief that the economy would be expanding nicely by the time the Fed actually pulled the trigger. But in late 2015, the already tepid GDP growth seen in the prior two years seemed to be decelerating. Investors also concluded that Hilary Clinton was a lock to win the election, thereby assuring that the anti-growth policies of the Obama years would continue. Many looked at these developments and concluded that the sins of the past decade, in which the Government and the Federal Reserve had used unprecedented levels of fiscal and monetary stimulus to prop up the economy and the stock market, had finally caught up with us. As a result, the Dow Jones shed more than seven per cent in the first two weeks of the year, its worst start on record.
 
But the year comes to an end amid a cloud of Trump-fueled bullishness. The markets fully embrace an unapologetic capitalist, and his team of billionaires, who promises to cut taxes, rewrite trade deals in America’s favor, take a machete to anti-growth regulations, repeal Obamacare, and return America to its former industrial might. Many are making parallels to the Reagan Revolution in which a maverick anti-establishment Republican took charge in Washington and ignited an economic boom, a stock market rally and a surge in the dollar. But to make this comparison, boosters must jump over a more telling comparison to the last Republican president elected, George W. Bush.
 
The parallels to W. are striking. Both lost the popular vote, and will have taken office following the tenure of a two-term Democrat who had presided over a furious stock market bubble and a surging dollar. In the 4 years prior to Bush's election, the Dow Jones had surged approximately 60% and the dollar index had risen approximately 19% (1/2/97 to 12/29/2000). For Trump, the numbers are 48% and 24% (1/2/13 to 12/21/16). Then, as now, the U.S. was seen by investors as the only game in town. Clinton's second term was rife with global crises that both created safe-haven flows into the dollar and caused the Fed to backstop U.S. financial markets with cheap money (at least cheap by the standard that existed at the time). Both will have come into office promising tax cuts and regulatory relief following eight years of Democratic reign. As a result, the market gains of the Clinton and Obama years were expected to continue under their Republican successors.
 
But the optimists did not anticipate that the big, fat, ugly bubble that inflated during Clinton’s second term, would burst early in Bush’s first term (although the air started coming out of that bubble while Clinton was still in office). Given the ensuing recession of 2001, it can be argued that the only reason Bush was reelected in 2004 was that the Fed was able to inflate an even bigger, fatter, and uglier bubble in housing that postponed the pain until the financial crisis of 2008. That is where the similarities will likely end, as Trump will likely not be that lucky.
 
One of the pillars of dollar strength under Clinton was eight straight years of deficit reductions, culminating with a massive $236 billion budget surplus in 2000 (Congressional Budget Office). While the surplus did require some accounting smoke and mirrors and a stock market bubble to create, it nonetheless marked a significant achievement. At that point, many economists had assumed that the U.S. debt problem had largely been solved and that the country would ride a wave of permanent surplus. The only problem most could envision was a shortage of Treasury bonds once the national debt was fully repaid. No one is to worried about that “problem” now.
 
Similarly, Trump is taking charge at a time when official budget deficits have fallen consistently since 2009 (albeit from astronomically high levels). But 2016 is projected to be the first year since 2009 in which the deficit will have risen, significantly, from the prior year. The Congressional Budget Office sees a return to perpetual $1 trillion plus annual deficits in the early part of the next decade (The Budget and Economic Outlook: 2016 to 2026 report, January 2016), even if we have no tax cuts, spending increases or recessions over that entire time. Under the Trump presidency, we are likely to get all three.
 
If a recession comes early in Trump’s presidency, it will be no more his fault than the 2001 recession can be blamed on Bush. A sharp pullback has been years in the making. Firstly, there is simply the issue of timing. On average, the U.S. has experienced a recession every 60 months or so since WW II (based on data from National Bureau of Economic Research and Bureau of Labor Statistics). The current expansion is already 90 months old, or 50% longer than average. Sooner, rather than later, it will have an end date. Recessions completely reshuffle the budgetary deck, causing government outlays to rise and revenues to fall simultaneously. The swings can be dramatic. The 1981-1982 recession resulted in a 61% increase in Federal red ink. The recession of 2001 turned a $236 billion surplus in 2000 into a $377 billion deficit in 2003 (then a record). The Great Recession of 2008-2009 caused the $458 billion deficit in 2008 to more than triple to $1.4 trillion in 2009. Rest assured, the next recession can cause a similar catastrophe to the government’s finances.
 
Trump’s election was predicated on his intention to buck traditional Republican policy of fiscal restraint. He has promised tax cuts for people and corporations and massive $1 trillion plus spending binges on infrastructure and the military. Of course the argument goes that these moves will stimulate growth thereby raising tax revenue to pay for both the cuts and the spending. The same arguments were made by George W. Bush in 2001 when he cut taxes, increased spending, and pushed through a temporary tax holiday to encourage corporations to repatriate money held overseas. Deficits soared anyway. The only real question is will the recession arrive before or after Trump’s fiscal policies kick in. If the events happen simultaneously, the budgetary implications will be hard to fathom.
 
Investors who are basking in the Trump victory should take a hard look at what happened to the markets during the Bush presidency. In mid-2008 (just a few months before the financial crisis sent stocks plummeting), the S&P 500 was just 17% above the level when Bush was elected nearly eight years earlier. The dollar, in particular, took a beating under Bush. In August 2008 (right before the dollar rallied temporarily as a result of the panic), the dollar index had fallen by 19% since his election. The opposite occurred in gold. In November of 2000, gold was at about $370 per ounce, close to a 20 plus year low. In August 2008, it was more than $920, down significantly from it's high of almost $1,100 hit earlier that year.
 
Also, for all the optimism about the U.S. stock market and pessimism abroad, it was foreign markets that delivered for investors. From Bush’s election to mid-2008, just before the global financial crisis sent stocks reeling around the globe, developed foreign markets were up 80% (priced in U.S. dollars) while emerging markets were up a staggering 300% (priced in U.S. dollars). Even if you include the huge losses in the back half of 2008, by the time Obama was sworn in, developed markets were down less than 3% from the time of Bush’s election, and emerging markets were still up about 80%. (In contrast, the S&P 500 was down almost 27%).
 
The 2001 Recession, which was triggered by the bursting of the dotcom bubble and the September 11 attacks, came very early in Bush’s first term. Fortunately for W., the Federal Reserve was able to support the economy by bringing rates down from more than 6% to just 1% (Federal Reserve Bank of St. Louis) (which helps explain the swift collapse of the dollar). As a result, the 2001 recession was the shortest and mildest on record. In doing so, however, the Fed blew up an even bigger bubble in real estate, the bursting of which created a far bigger recession in 2008, propelling Obama into the White House.
 
But can the Fed ride to the rescue this time around? Given that rates are practically zero and the Fed is choking on trillions of dollars of assets that are permanently held on its balance sheet, the answer is clearly no. All the Fed will be able to do is launch the mother of all QE programs, perhaps in the form of a massive helicopter drop. But the bad news for Trump fans is that the result will not be a housing bubble like the one that bailed out Bush, but a wave of stagflation that will make Trump a one-termer. The nightmare scenario is that once again tax cuts and deregulation take the blame, allowing Bernie Sanders or a socialist candidate to ride another populist wave, only this one headed far left, into the White House of 2020.
 
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Source: Commentaries By Peter Schiff

King of Debt Takes the Reins

Our weekly commentaries provide Euro Pacific Capital’s latest thinking on developments in the global marketplace. Opinions expressed are those of the writer, and may or may not reflect those held by Euro Pacific Capital.

By: 

Peter Schiff

Thursday, November 17, 2016

The election of Ronald Reagan in 1980 provides the best recent precedent for the unexpected triumph of Donald Trump (in my opinion, the other post-war Republican takeovers of the White House –Ike in ’52, Nixon ’68, and W. in ’00 – did not constitute a real break from the status quo.) As many people expect great changes from Trump, it is worthwhile to look at what the Reagan Revolution actually wrought. 
 
Both Reagan and Trump were better known to many as entertainers rather than politicians, both came from outside the Republican mainstream, and both engineered hostile takeovers of the Party. During the 1970s, the Republican Party was dominated by “Rockefeller Republicans,” the Ivy League-educated liberal Eastern elites. Reagan was the Western heir apparent to Barry Goldwater, the deeply conservative standard-bearer who went down in flames in 1964. In 1976, the brash Reagan had the nerve to challenge incumbent Republican President Gerry Ford in the primary, thereby weakening him in the general election, which he ultimately lost to Jimmy Carter. While Reagan was simply too conservative for the Rockefeller wing, Trump’s various positions are similarly inconsistent with much of the mainstream neo-conservative orthodoxy. Both candidates also capitalized on a weak economy as a catalyst to encourage voters to cross traditional party lines. Many of the rust belt ”Reagan Democrats” came home to Trump.   
 
While books have been written about the cultural and political legacy of Reagan’s presidency, harder facts can be found in his budgetary record. Despite the economic revival that his tax-cutting and deregulation tendencies delivered, the national debt ballooned as it never had for any other peacetime President. Although the fiscal imbalances have gotten significantly worse since Reagan left office, the Gipper gave plenty of cover for future Republican presidents to run up red ink. President Donald Trump, the self-proclaimed “King of Debt”, now appears to be perfectly positioned to test the limit of how much debt the world’s largest economy can issue. 
 
Leading up to the election of 1980, Reagan and the conservative economists who supported him, warned that Federal debt, which had risen to approximately 26% of GDP, had grown too heavy to bear (data from Congressional Budget Office, July 2010) Reagan brought the spirit of Milton Friedman into the Oval Office, and his campaign was based on a clear intention to roll back the nearly 50 years of socialist government expansion that had occurred since Roosevelt’s New Deal.
 
But when Reagan came to Washington he was confronted by a strong Democratic majority in the House of Representative led by House Speaker Tip O’Neill, a skillful and forceful defender of big government. Reagan soon discovered that the political price was always very high when government expenditures are being restricted. And so, Reagan decided to move on the tax cuts (a perennial political winner) but never really got around to the spending cuts. As a result, the 26% debt to GDP ratio that he inherited when he came into office expanded to 41% by the time he left. (data from Congressional Budget Office, July 2010) This was not the complete conservative victory for which his backers had hoped.
 
Trump comes to office with similar expectations for significant changes. The good news for him is that he will face far fewer restrictions than Reagan had to face. Most importantly, both houses of Congress are now Republican. The Supreme Court is currently split along ideological lines but is likely to swing conservative after Trump’s appointment to the open Scalia seat.
 
On the taxation side, Trump has proposed cuts in personal and corporate tax rates that could likely sail through Congress. How much these moves will add to the deficit depends on how much growth they generate in the economy. Such predictions are very hard to make. But if the tax cuts are assured, the growth is not. However, there is no need to make algorithmic predictions on the budgetary implications of spending decisions. They are what they are, and their impact is immediate. Trump plans massive increases in Federal spending, initially in the form of a trillion dollar infrastructure spending over ten years, and billions to build his border wall and pay for his planned deportation force. On the spending side, Trump could likely get whatever he wants, and more. Had a smaller infrastructure spending plan been proposed by President Hillary Clinton, it would have likely been voted down by “fiscally hawkish” Congressional Republicans. Such scruples could fall by the wayside when the spending requests come from a Republican President.
 
Although the years of trillion dollar plus deficits we experienced during the first Obama term have been pared down to the $500 -$700 billion dollar range, the Congressional Budget Office’s Summary of The Budget and Economic Outlook, 1/19/16, currently predicts that we will officially return to trillion dollar levels by 2022. (In truth we are already there. Over the last 10 years the actual expansion of the debt has averaged $1.1 trillion per year, about $300 billion more than the average deficit of $790 billion over that time). (TreasuryDirect; usgovernmentspending.com) The CBO’s  projections are based on no unplanned spending increases between now and 2022, steady GDP growth in the 2% to 3% range, and no dip into a recession (even though the current expansion is already far longer than the typical postwar expansion). Given this very optimistic set of assumptions, and Trump’s announced plans on taxing and spending, we should absolutely expect a massive expansion of the Federal debt over the next four years. The more difficult question is how it will be financed. 
 
When making a comparison to Reagan, it is important to realize that he financed his debt expansion the old fashioned way: He sold long-term government debt to private investors. In the early 1980s, savings levels in the United States were much higher than they are today. The average American actually had money in the bank. And those with the means to invest were less inclined to dabble in stocks than they are today (there was no eTrade to make the process easy and transparent). The stock market had essentially made no gains between 1966 and 1980, (Dow Jones Industrial Average data) so investors could be forgiven for having given up faith. Bonds were a bigger part of the mix up and down the investment spectrum. And those investors who stepped up to the plate to buy those 30-year bonds in 1981 to finance the Reagan deficit ended up making some of the best portfolio decisions.
 
It seems impossible to believe in our current low interest world, but in 1982 the U.S government sold 30-year bonds with a 14% annual coupon. That’s right, a guaranteed, principal-protected, 14% annual return for 30 years. Investors today could only dream of something so magical. Of course inflation was higher back then (partly because the government hadn’t yet figured out how to recalibrate the Consumer Price Index), but even at its worst, inflation rose only to approximately eight percent. (InflationData.com) This means that buyers of those 30-year bonds were getting a real rate of six percent above inflation. But it just gets better from there.
 
Over the course of the Reagan presidency inflation and interest rates came down steadily. This meant that those investors who bought in 1982 would see their real rate of return increase every year. By 1988 inflation had come down to 4%, so those bonds offered a real yield of 10%. The falling inflation strengthened the value of the dollar itself. So in relative terms Americans holding those bonds were seeing a real increase in purchasing power of their principal relative to the falling prices of imported goods. Also, in an environment of falling interest rates investors holding 30-year 14% bonds could sell those bonds before maturity for more than they paid. That’s because even at a price above par the bonds would still offer higher yields to maturity than newly issued bonds. But despite the premium, investors were better just to hold them till maturity. Purchasing Treasury bonds in 1982 was an investment in America’s future, but it also happened to turn out to be the deal of the Century.
 
Think about how different it would be today for investors making a similar choice to finance the Trump deficits. 30-year bonds are currently being offered at a rate of just under 3%. If you believe the government inflation figures of just about 2%, this means that your effective yield is about 1% (pre-tax). If inflation is even slightly higher, the real yield could be negative. And in 30 years there is plenty of time for inflation to go, much, much higher. If it does, these bonds would be all but guaranteed to deliver less purchasing power than their original cost, even if held to maturity.
 
If interest rates were to rise from the current low levels, as almost every economist and investor assumes they must, the value of long-term bonds will surely fall. In another danger to bond prices, Bloomberg News reports that the new Trump economic team will likely put pressure on the Fed to reduce the amount of bonds on its balance sheet. To do so in any meaningful way will require that the Fed sell off portions of its $4.5 trillion bond stash of holdings into the open market. This could turn the biggest buyer of Treasuries into the biggest seller.
 
A sustained period of falling bond prices would mean that if current buyers wanted to cash out before maturity, they would likely have to sell for a loss, not the gain that their fathers would have seen with the 1982 bonds. If rates got as high as five or six percent (and I think they will go much higher) those losses could be substantial. As Jim Grant likes to say, today’s long maturity bonds represent return-free risk. Or as Warren Buffet likes to say, it’s like picking up pennies in front of a steamroller.
 
The risks become greater still when you consider how America's fiscal position is much worse today than it was in 1980. When Reagan took the oath of office America was the world’s largest creditor nation. Today it’s the largest debtor. Our debt was just 26% of GDP then, while today its 105% and projected to go much higher over the next generation…even without Trump's taxing and spending plans factored in. 
 
But arguing the investment merits of long-term government bonds is a bit pointless in the current age. Real investors gave up on bonds long ago. What little savings Americans still have either stays in the bank, or gets directed to stocks or real estate. The bond market has almost become the exclusive playground of central banks. In Japan and Europe, central banks are sucking up the vast majority of government debt. We did the same during our four years of quantitative easing, and the Federal Reserve’s balance sheet remains swollen.
 
If under President Trump annual deficits explode, whom should we expect to buy the trillions in debt we will have to issue to pay for it? In the recent past, the big buyers have been central banks in China, Japan and Saudi Arabia. Should we expect those customers to return? We may be in an allout trade war with China, Japan is already pushing its own QE program to the limit (its central bank is currently buying large portions of the Japanese stock market) and the Saudis are struggling with $50 oil. We may need to find new buyers.
 
But don’t look to Mom and Pop USA. Those investors are tapped out. Don’t look to the pension funds. They can’t meet their numbers with 3% coupons. Don’t look to the hedge funds. They are losing money fast due to bad performance, and their investors expect more nuanced thinking than U.S. Treasuries. What’s more, (in contrast to 1982) the U.S. dollar is currently near generational highs. If the dollar should weaken, holders of dollar-denominated debt will be left holding the bag. When Reagan was elected, the dollar had been beaten down to all time record lows, having lost about 2/3 of its value against currencies like the Deutsche mark, Swiss franc, and Japanese yen. So high yielding, dollar-denominated Treasuries were attractive investments for foreign savers. But the dollar has already risen sharply over the last few years based on expectations the Fed would normalize interest rates. Investors should not be under any illusions that the dollar will experience another continued rally. With so many reasons arguing against buying long-term dollar Treasuries, the Fed may be the only game in town.
 
Given that, it’s impossible to imagine that the Fed will ever allow interest rates to rise by any significant amount. (Doing so would devastate the value of their bond holdings and raise debt service costs past the point where the government, or most private borrowers, could pay). Already more than $4.5 Trillion of Treasury bonds sit on the Fed’s balance sheet. Look for that number to balloon during the Trump years.
 
Debt monetization was the term that used to be used by economists to describe the undesirable outcome of a country’s central bank becoming the exclusive financier of its national debt. Inflation and currency devaluation were expected to be the results of this brash approach to fiscal policy. But this will likely be our future under Trump. Investors would be wise to recognize this and to diversify appropriately.
 
In 2009, when the first Quantitative Easing program allowed the Fed to buy large quantities of Treasury bonds, then Fed Chairman Ben Bernanke pushed back against Congressional accusations of debt monetization by claiming that the purchases should be considered temporary, and that they would be unwound when the crisis passed. Since then the Fed has not sold a single Treasury and has used every penny of interest and principal repayments to buy more Treasuries. Should the Trump deficits force the Fed’s balance sheet into the stratosphere, it will be obvious to all what the Fed is doing.
 
America was able to survive Ronald Reagan's debt experiments because we started borrowing from a position of relative strength. But the debt took its toll, and we are now a shadow of our former selves. Yet rather than reversing course before it’s too late, Trump may just step on the gas, assuring we go over the cliff that much sooner.
 
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Subscribe to Euro Pacific's Weekly Digest: Receive all commentaries by Peter Schiff, John Browne, and other Euro Pacific commentators delivered to your inbox every Monday!
 


To order your copy of Peter Schiff's latest book, The Real Crash (Fully Revised and Updated): America's Coming Bankruptcy – How to Save Yourself and Your Country, click here.

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Source: Commentaries By Peter Schiff

Midnight in America

Our weekly commentaries provide Euro Pacific Capital’s latest thinking on developments in the global marketplace. Opinions expressed are those of the writer, and may or may not reflect those held by Euro Pacific Capital.

By: 

Peter Schiff

Thursday, November 10, 2016

Stunned political analysts are missing the most plausible argument explaining Donald Trump's unexpected victory. The misreading of the American electorate stems from the political class’ acceptance of mistaken (and increasingly insane) economic dogma that has arisen over the past generation. Based on their flawed understanding of economics, the pundits could simply not understand why the electorate had become totally disillusioned.
 
According to the ideas favored by economists on Wall Street, in government, and in the Federal Reserve, Americans should be enjoying a marginally good economy. Unemployment is low, home values and the stock markets are high, credit is cheap and plentiful, prices are stable, auto sales are robust, healthcare is available to all, and GDP is growing, albeit at levels that are below optimal. These are conditions that would normally favor the incumbent party, and would discourage voters from taking a chance on an unknown who has promised to tear down the entire system. But that is precisely what happened. There can only be two explanations: Either Trump supporters were motivated by hatred strong enough to cause them to vote against their own economic interests, or they understood the economic reality better than the Ph.D.'s. I believe the people got it right.
 
In countless commentaries over the last few years, I have argued that the economy has been getting worse, not better, since the Great Recession of 2008. My points were simple. I suggested that the economic signals created by the Government’s deficit spending and the Federal Reserve’s eight year stimulus program were not creating growth but were actually hollowing out the real economy. I argued that prices were rising faster than Washington cared to admit and that inflation was an economic problem for ordinary Americans, not a magic elixir for growth. I argued that unemployment came down only because people either gave up looking for work (and then dropped out of the labor force), or took multiple low paying part-time jobs to compensate for the loss of good-paying full time jobs. I argued that increased workplace regulations, minimum wage increases, and Obamacare would create hostile conditions for small businesses and would stifle job creation. I argued that zero percent interest rates and quantitative easing were simply a benefit for the investor class and did nothing to generate real or sustainable growth (in fact those monetary policies guaranteed stagnation). I argued that these low rates would inflate debt bubbles in the auto and student loan sectors and would set up our economy for years of pain when those bubbles burst.
 
That is why my gut told me that Trump would win, despite the polls and the widely held belief that a Clinton victory was assured. I believed that voters (who live in reality, not the fantasy world concocted by the elites) would express their dissatisfaction the only way they could, by voting for Trump. Obama came into office eight years ago promising change but delivered more of the same. Clinton’s promise to continue that failed legacy was a loser from the start. The rank and file saw things the way I had, and reacted the way I believed they would.
 
But just because the electorate has finally noticed the emperor has no clothes does not mean that we are now on the path to recovery. Donald Trump has proven to be a master of identifying the hopes and fears of voters, but whether or not he has the wisdom and courage to do what is necessary to restore the country’s economic health is an open question. While it is true that Trump is less likely to continue with the status quo, no one really knows what path he will follow broadly. His election likely sounds the death knell for Obamacare and for a slew of environmental and workplace regulations imposed by Obama executive orders, but beyond that, it’s anybody’s guess.
 
He has said that he wants to lower taxes and reduce regulations, which are needed goals, but he has said nothing about the hard work of reducing spending or reining in our country’s runaway national debt. Trump has openly admitted that his business successes have been based on his ability to go deep into debt, and then to emerge, Phoenix-like, on the back of good deal-making, marketing, and braggadocio. He probably thinks he can do the same on the national level. But there the rules are much different.
 
It is unlikely that he understands the chemicals he will be playing with, nor is it likely that he will rely on the opinions of those who do. It’s clear that his only solution is that we “grow our way out of debt.” This is a gambler’s mentality that is likely integral to his DNA. It didn’t work for him in Atlantic City, and it won’t work for him now.
 
Our best hope is that the real Trump is actually a lot cagier than his campaign persona. The wisest leader can do nothing if he can’t get elected (a phenomenon with which I have some experience). Trump managed to get himself elected to the most powerful position in the world. Perhaps he has a better understanding of the problems that face us than he let on during the campaign. Perhaps he knows how excessive debt will choke the economy, that entitlement spending will overwhelm us if we don’t enact Social Security and Medicare reform, that unending monetary stimulus will create a zombie bubble economy, and that trade wars will do more harm than good. Only time will tell.
 
Of particular concern is that Trump fails to understand how American living standards have been subsidized by our trade deficits. Yes, the hollowing out of our manufacturing sector has meant the loss of millions of good American jobs. But it is not the trade deals that are responsible for their loss, but rather the inability of American manufactures to compete in a high cost, high regulation world. And while we have lost jobs, we have nevertheless gained access to very low cost foreign goods and services, without having to expend the resources necessary to produce them. We have been able to consume these things despite the fact that we can’t pay for them in full. For now, the trade deficits are a problem for our creditors, not for us. Of course, they will become a big problem for us if our creditors decide to cut us off. Trade wars may not bring back good American jobs, but they will surely raise prices and reduce choices for American consumers.
   
For now we should celebrate that the election of 2016 shows that the American public knows that they have been misled, that they are mad as hell, and that they refuse to take it any longer. But as bleak as the picture Trump painted of the current state of the U.S. economy, it was not bleak enough.  Before things can actually get better, they must first be allowed to get much worse.  Decades of government promises to supply voters with benefits taxpayers can’t afford must be broken, starting with many of the promises Trump made himself to get elected.  Rising consumer prices and long-term interest rates can bring this decades-old party to a catastrophic end.
 
Ronald Reagan was the last Republican president who was swept into office promising great change. He made good on his “Morning in America” promises to cut taxes and regulations. But he failed in his promises to reduce spending. Trump has never even paid any lip service to spending cuts. And while Reagan’s failure to deliver on spending cuts was cushioned by the steady declines of interest rates during his presidency, Trump will not have that wind at his back. Plus the economy of 2016 has far deeper problems than the economy of 1980. Reagan’s morning now looks more like Trump’s midnight.
 
Trump did not make this mess, but he will likely be in office to clean it up.
 
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Source: Commentaries By Peter Schiff

The Next Recession Looms Large

Our weekly commentaries provide Euro Pacific Capital’s latest thinking on developments in the global marketplace. Opinions expressed are those of the writer, and may or may not reflect those held by Euro Pacific Capital.

By: 

Peter Schiff

Friday, October 7, 2016

Currently economists and market watchers roughly fall into two camps: Those who believe that the Federal Reserve must begin raising interest rates now so that it will have enough rate cutting firepower to fight the next recession, and those who believe that raising rates now will simply precipitate an immediate recession and force the Fed into battle without the tools it has traditionally used to stimulate growth. Both camps are delusional, but for different reasons.

Most mainstream analysts believe that the current economy can survive with more normalized rates and that the Fed’s timidity is unwarranted. These people just haven’t been paying attention. The “recovery” of the past eight years hasn’t been just “helped along” by deeply negative real interest rates, it is a singular creation of those policies. Since June 2009, when the current recovery began, traditional economic metrics, such as GDP growth, productivity, business investment, labor force participation, and wage growth, have all been significantly below trend. The only strong positives have been gains in the stock, bond and real estate markets. We have had an “asset price” recovery rather than a bona fide economic recovery. This presents unique risks.
 
Asset price gains have been made possible in recent years because ultra-low rates have driven down the cost of borrowing, encouraged speculation, and pushed people into riskier assets. Donald Trump was right in the presidential debate when he noted that the whole economy is “a big fat ugly bubble.” Any rate hike could hit those markets hard across the financial spectrum and can tip the economy into contraction. Look what happened this January when the market had a chance to digest the first rate increase in 10 years. The 25 basis point increase in December 2015 led to one of the worst January's in the history of the stock market. Since then, the Fed has held off from further tightening and the markets have treaded water. There is every reason to believe that the sell-off could resume if the Fed presses ahead.
 
Our current “expansion,“ which began in June of 2009 is 88 months old, and is already the fourth longest since the end of the Second World War (post-war expansions have averaged  61 months) (based on data from National Bureau of Economic Research and Bureau of Labor Statistics). But although it is one of the longest it has also been the weakest. Despite fresh optimism nearly every year, we have not had a single year of 3 percent GDP growth since 2007. More ominously, the already weak expansion is beginning to slow rapidly. GDP growth has been decelerating, averaging just 1% in the past three quarters. (Bureau of Economic Analysis) And while hopes were high for a significant rebound in Q3, as has been the pattern all year, rosy estimates have recently been sharply reduced.
 
Typically rate-tightening cycles start in the early stages of a recovery when the economy is still gathering momentum. As I have argued before, a rate tightening campaign that begins in the decelerating tail end of an old and feeble recovery is bound to unleash problems.  
 
So I agree with those who believe that rate hikes now will bring on recession, but I disagree that we should keep rates where they are. They believe we need to keep the stimulus pedal to the metal…and when that’s not enough, to cut a hole in the metal and push harder. I believe that despite the short term pain that will surely follow, we need to raise rates now to break the addiction before it gets worse.
 
The “keep rates at zero camp” argues that global economic developments have made traditional GDP growth nearly impossible to achieve. These believers in “the new normal” fear that the Fed is mistakenly waiting for growth that will never come. Larry Summers, the leader of this group, recently argued in the Washington Post that the Fed will never be able to raise rates enough in the short term (without plunging the economy into recession) to gather enough ammunition to effectively fight the next recession. In his view, to raise rates now would be to risk everything and get nothing.
 
Summers knows that central bankers now do not have the caliber of bazookas that their predecessors once carried (Bernanke was able to slash interest rates over 400 basis points in a few months). So he advocates continued stimulus until newer means can be developed to head off the next recession before it develops. (He promises to reveal those new ideas soon…really). 
 
Given all the economic realities that central banking has attempted to suspend in recent years (such as the antiquated belief that lenders should be paid to lend rather than being charged for the privilege), it’s no great stretch for them to consider the next big leap and call for an age of permanent expansion.
 
To do this they must short-circuit the business cycle, which up until now has regulated prior monetary mismanagement. Rather than being some naturally occurring process, the business cycle actually results from artificially low interest rates. Mistakes are made during the booms, when rates are held artificially low, and are then corrected during the bust, once those rates are allowed to normalize. Ironically, the busts are actually the benign part of the process, and should not be resisted, but embraced. But to mitigate the short-term pain associated with actually correcting those mistakes, central banks typically opt to paper them over for as long as possible. The problem is that this time the papering over process has gone on for so long, and involved a record amount of paper, that correcting the mistakes now will necessitate a recession so severe that it is unthinkable. The only apparent “solution” is to make sure one never arrives.  
 
To do so Fed must replace the “ups and downs” of the economy with the “ups and ups.”  This futile process will likely involve the Fed intervening directly in the equity markets (by actually buying shares), or in the real estate market (by buying properties or making loans) or into the consumer economy by directly distributing money to citizens. But since contractions are necessary and healthy, especially when markets have gotten ahead of themselves, attempting to short-circuit them does more harm than good. Yet despite how crazy such a policy sounds, Yellen just suggested that she thinks it’s not only a good idea, but that the Fed is already giving it serious study. Given the damage our crazy monetary policy has already inflicted in the past, one can only imagine what kind of devastation awaits.
 
Just this week the International Monetary Fund issued a report about the dangers of global debt growth, which has reached $152 Trillion, or roughly twice the size of global GDP. They noted that the growth of private debt has recently led the upswing. With negative rates actually paying some companies to borrow, should this be a surprise? And while it’s nice that the IMF raised a red flag, it’s pathetic that their only proposed solution is to call for governments to increase public debt through fiscal stimulus (based on what should now be the debunked theory that deficit spending creates growth).
 
Even more pathetic is Alan Greenspan attempt on CNBC this week to blame the current low growth economy on Congress, and its failure to reign in entitlements. Greenspan is correct in his determination that "the new normal" results from the plunge in productivity gains that is a function of drops in savings and capital investment. But he can’t absolve the Fed. Had they not monetized the ever growing Federal deficits, or kept interest rates artificially low for so long, market forces would have forced cuts in entitlement spending years ago. These actions, originated with Greenspan himself, enabled Congress to repeatedly kick the can down the road.
 
According to Greenspan, to spare the public the pain of higher interest rates the Fed has no choice but to hold its nose and accommodate any level of debt Congress chooses to accumulate. But the ability to pursue unpopular policy is precisely they are supposed to be politically independent. What good is an independent central bank that simply helps incumbents win reelection?
  
Given that the Fed has already unsuccessfully exhausted so much firepower, it is unfortunate that it never seriously questions whether their policies are actually harmful. Modern economists simply can’t imagine that throwing ever more debt on the back of a weak economy actually prevents it from recovering.
 
I think it’s high time the Fed finally moves rates well into positive territory. The next recession has been on its way for years, and it will arrive no matter what the Fed does, if it’s not already here. Sometimes reality hurts, but fantasy can be more damaging in the long run.
 
The real choice is not between recession now or recession later. It’s between a massive recession now, or an even more devastating one later. Either way, there is no Fed policy that will be able to fight it. But that is not because the Fed is out of bullets, but because it never had any real bullets to fire in the first place. All it had was morphine to numb the pain as the wound festered. Now is the time to bite the bullet, endure the pain, and allow the wound to actually heal. This will also allow us to finally bury the idea of a new normal, enjoy a real recovery with all of its traditional benefits, and actually make America great again.
 
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Source: Commentaries By Peter Schiff

Gold vs. Paper: The Only Debate That Matters

Our weekly commentaries provide Euro Pacific Capital’s latest thinking on developments in the global marketplace. Opinions expressed are those of the writer, and may or may not reflect those held by Euro Pacific Capital.

By: 

Peter Schiff

Thursday, September 29, 2016

While a record audience watched the first presidential debate between Hillary Clinton and Donald Trump, the sad truth is that the candidates differ very little on the issues that matter most. As president, both Clinton and Trump are likely to drive the country deeper into debt, expand government power, and further curtail individual liberty and economic freedom. Though we can vote against the candidate we feel will accelerate this trend, our votes may do nothing to change the direction we are headed.
 
But there is one vote that may actually make a difference.  The real source of government power is its monopoly over money.  Working hand and glove with the Federal Reserve, the Federal government has been able to finance permanent deficits by creating purchasing power out of thin air. Voters think government spending in excess of taxation means that the public gets something for nothing. But the more invisible “inflation tax” is not only more expensive than the overt official taxes, but does even more damage to our economy.
 
While government taxation and regulation have worked to limit productivity, private sector investment and innovation have worked to enhance it. But the recent rise and acceptance of activist central banking has tilted the balance in favor of government. Interest rates held at close to zero have short-circuited the economy’s natural vitality. As a result, living standards have spiraled downward for rank and file Americans. Despite government statistics that seek to paint a brighter picture,  this dissatisfaction has been clearly reflected in the tone and tenor of the current election. But if we really want to take our country back, we need to start by taking our monetary system back.
 
The United States was built on a foundation of sound money, and is now crumbling without one. A constitutional gold standard served us well for nearly 200 years, until Richard Nixon decided to do away with it “temporarily” in 1971. It’s been 45 years and we are still waiting for the return. As the Federal Reserve prepares to stamp out any remaining integrity that our currency may still possess, I suggest that we can’t afford to wait any longer for our government to honor Nixon’s promise. We must do it ourselves.
 
Goldmoney is an Internet startup that has developed a new super-charged gold standard that works better than the original. It provides all of the conveniences of money substitutes, such as paper currency, bank accounts, credit cards, etc., with none of the disadvantages. It’s a Gold Standard 2.0 that everyone can adopt today.  It doesn’t matter which candidate wins this election. Elections only change the players. But Goldmoney changes the game,  empowering us to individually reject fiat money, and return en masse to the gold standard, one American at a time. Without firing a shot, we can win a second American revolution. You may have seen the news recently that my gold sales company, SchiffGold, was recently purchased by Goldmoney. I am now working with them to offer the public a convenient and comprehensive gold savings and spending platform.
 
With Goldmoney, consumers can buy gold instantly and inexpensively using a laptop or cell phone. It’s real gold that you own.  You can take delivery whenever you want, in quantities as small as 10 grams or, if you prefer, your gold can be stored free of charge by Brinks (a 157-year old 3rd party custodian) in a vault in the international city of your choice.  Goldmoney provides a platform that gives you 24/7 access to your gold, enabling you to spend it*, or transfer** any portion of your holdings free of charge. In addition, Goldmoney provides free debit cards, enabling you to convert your gold into any currency and spend it wherever MasterCard is accepted, including cash withdrawals from ATMs.
 
Throughout history gold beat out all commodities to become the people’s choice for money. Along the way, governments tried to force people to accept paper instead, but their efforts always failed. Now you can help this most recent attempt fail as well. Just as Fedex once disrupted the U.S. postal monopoly, and companies like AirBnb and Uber are now upending the hotel and taxi industries, Goldmoney could be a game changer for the Federal Reserve and its irredeemable notes.  Money needs to be a reliable store of value, and the Fed’s product fails that test miserably. In fact, as official policy now mandates at least two percent annual inflation, it can be argued that the Fed’s product is designed to fail. Two percent inflation means your savings lose two percent of its value every year. My guess is that this target will be moved higher over time, so the annual rate of loss will accelerate in the years ahead. Gold, on the other hand, cannot be debased as its supply is extremely scarce and mining output will not even come close to matching the rate at which new Federal Reserve notes will be conjured into existence.

When the Federal Reserve was at least perceived to be an inflation fighter, and savings accounts paid interest of five percent or more, the convenience of fiat money and a modern banking system made a gold standard seem expensive and obsolete. But with the Fed now an unapologetic inflation creator and a possible looming threat of bank failures and “bail-ins” in the traditional financial system, the case for opting out of fiat money and into gold has been made all the more compelling. With Goldmoney, the path has never been easier. Goldmoney lets everyone easily save, earn*** and spend in gold. Don’t be the last one on your block to make the transition. In fact, being an early adopter has its advantages. The sooner you make the switch to gold, the sooner the government will no longer be able to tax you with inflation.

 
But it’s not just about preserving the purchasing power of your own savings, but about helping your friends protect theirs. Through the Goldmoney referral program, you can earn free gold every time one of your friends opens an account as a result of your invitation.  It’s as easy as sending a text or an email. In fact, if you open your account today, Goldmoney will fund it with some free gold to help you get started. You can easily add to your account with an additional purchase using your debit or credit card, begin inviting your friends to open accounts, and sit back and watch your personal gold holdings increase. 
 
But the decision to open a Goldmoney account is not only a good financial decision for yourself, but a good political one for our nation. Voting may be a waste of time as no matter who wins elections nothing ever seems to change. But a vote for gold is a vote our politicians will not be able to ignore. If enough people reject their flawed monetary system, the government will have no choice but to bow to the competition. To compete with Goldmoney, and win back lost market share, the government will be forced to cut spending, balance its budget, and raise interest rates.  Just as the gold standard of yesterday restrained the growth of government and preserved individual liberty, a new gold standard can deliver the same benefits today. But our government will not voluntarily surrender its power. We will need to take if from them. Thanks to Goldmoney we now have a means to do it!
 
* Fee is charged to fund and to spend
** So far physical transfers have only been approved for residents in the following states: TX, CO and OH.
*** Sending payments with Goldmoney is not currently available to US residents

There will be potential taxes on the gains or income deferral on the losses in transacting and saving in gold.

Physical ownership of gold will not yield income.

Peter Schiff is a shareholder of Goldmoney and a spokesperson for the company, for which he receives remuneration as part of its referral program.

 
Subscribe to Euro Pacific's Weekly Digest: Receive all commentaries by Peter Schiff, John Browne, and other Euro Pacific commentators delivered to your inbox every Monday!
 


To order your copy of Peter Schiff's latest book, The Real Crash (Fully Revised and Updated): America's Coming Bankruptcy – How to Save Yourself and Your Country, click here.

For in-depth analysis of this and other investment topics, subscribe to Peter Schiff's Global Investor newsletter. CLICK HERE for your free subscription.


Source: Commentaries By Peter Schiff