The Economics Of Decline

There is always a price

by Mark J. Grant

I have long stated that one of the ways our current party might end is by an “Event.” The most likely suspect here has long been in Europe. An uprising, a change in the democratic political climate, a refusal to accept more funding with onerous terms, a refusal to fund as cash runs out. There are a host of possibilities here. 

It is more than likely that Portugal will be back at the trough soon and then there is Slovenia and more money for Greece and there is quite a list of upcoming traumas. It is also likely that Italy and Spain may be forced to the window and then the calls on capital will be enormous.

Leaving some “Event” aside however we are surely facing an economic decline both in Europe and in America. The reason is simple enough; it is the consequence of what the central banks are doing. The lowering of interest rates to miniscule levels has a cost and while the cost is not immediately paid or apparent; it is there and now, after some time has passed, right in front of our noses.

Consumers and investors and the people with money are what keep any economy growing. As each month passes and as months turn into years since the central banks began their actions; disposable income has been declining. If you got 5.00% on a ten year Treasury and now you are getting less than 2.00% then possible purchasing power has declined by 60%. This is true for all classes of fixed income assets. While bond compression has helped with portfolios; maturities and calls are causing havoc with available funds that can be spent. Those with money have significantly less to spend.

The other side of this coin, no doubt, is the equity markets but with the bond market approximately five times larger than the stock markets the decline in yields has the same leverage factor of five times for disposable income. Those with money are growing poorer. 

We are a scant thirty basis points off the low yield for the 10 year Treasury. As the Fed buys, with calls and maturities, some $100 billion a month of securities it is now quite likely, with no inflation, that absolute yields will keep declining. Also as people and institutions stretch for yield they are also taking on increasingly more credit risk and at yield levels that do not adequately reflect the risk that is being assumed. Consequently the demand for goods and services is being impaired and, at some point, we will cross the line where consumers can no longer provide growth for the economy and the American economy will begin to shrink just exactly like what is happening in Europe. The wealth effect created in the equity markets will eventually get overrun by the bond markets and then even equities will begin to decline as revenues begin to fall off. This is also why I believe that the possibilities of Deflation are much greater than for Inflation. 

Europe has already entered a Japanese sort of existence and America will be coming next in my opinion. We are caught in a trap of our own making and this will be the price for the printing of all of this money. As China has reached its apex and begun a gradual grinding down in their economy, as Japan wrestles with insolvency, as Europe falls further into its sinkhole; America will follow. 

Make hay while you can but you may also wish to notice that the fields are shrinking and that less hay may be forthcoming. Borrowers have reaped the benefits. Those with money have paid the price. Wealth that can be redeployed is evaporating.

Buying power is in decline.