What seemed so permanent for 13 long years will be revealed as shifting sand and what seemed so real for 13 long years will be revealed as illusion. Magical thinking isn’t optimism, it is folly.
Predictions are hard, especially about the future, but let’s look at what we already know about 2022. Viewed from Earth orbit, 2022 is Year 14 of extend and pretend and too big to fail, too big to jail and Year 2 of global supply chains break and energy shortages.
The essence of extend and pretend is to substitute income earned from increases in productivity–real prosperity–with debt–a simulation of prosperity –that doesn’t solve the real problems, it simply adds a new and fatal problem: since productivity hasn’t expanded across the spectrum, neither has income or prosperity.
All that happened over the past 13 years is that debt–money borrowed against future productivity gains and energy consumption–funded illusions of prosperity in all three sectors: households, enterprise and government.
The explosion of debt and interest due on that debt could not occur if interest rates still topped 10% as they did 40 years ago in the early to mid-1980s. We couldn’t add tens of trillions of dollars, yen, yuan and euros in new debt unless interest rates were pushed down to near-zero (for the government, the wealthy and corporations only, of course–debt-serfs still pay 7%, 10%, 15%, 19%, etc.)
This monetary trick was accomplished by making central banks the linchpin of the entire global economy as central banks created “money” out of thin air and used the currency to buy trillions in government and corporate bonds, artificially creating near-infinite demand which then drove the rate of interest into the ground.
Without continuous injections of more “free money” and suppression of interest rates, the market–oh, the horror!– would re-assert its price discovery mechanisms which tied interest rates to risk. The cost of money is causally tied to the perceived security of the currency (i.e. risk) and the interest earned when lending it out (i.e. return or yield).
The $100 USD bill (good old Benjamin) protected from the tropic environment in a plastic bag will have more value than a 100 peso bill in any jungle on the planet because of the general perception that the Benjamin will still have considerably more value tomorrow, next month and even next year than the 100 peso note.
If risk is perceived to be higher, then interest rates must compensate for this risk by being much higher for risky currencies, borrowers and investments.
The central bank-engineered suppression of interest rates has destroyed the market’s core mechanism of causally linking risk and the cost of money. Near-zero interest rates implies near-zero risk, and so this entire 13-year spree of suppressing the cost of money has institutionalized moral hazard, the disconnect of risk and consequence.
The ultimate artifice of extend and pretend is that risk has been vanquished: over-extended and over-leveraged borrowers can always roll over their existing debt and borrow more as ever-lower rates of interest, in effect paying interest with new debt.
Since risk is essentially zero, then why not make use of this opportunity by gaming the system? The big players who broke the laws against insider trading, selling securities designed to fail, etc., found that the global Empire of Debt viewed prosecuting financial crimes as potentially upsetting, so not only did risk fall to zero, so did the consequences of fraud, collusion and malfeasance.
And since the bigger players had unlimited access to central bank credit, their bets quickly became so risky and so large that the entire financial system became fragile and vulnerable to cascading collapse. Central banks and state treasuries were forced to bail out the most egregious criminal firms and ignore the criminality of individuals in those firms, institutionalizing too big to fail, too big to jail.
The truly interesting thing here is that the stability of any system depends on precisely what central banks have extinguished: a transparent market that prices risk within the constraints of consequences. Over the past 13 years, the invulnerability and rewards bestowed on those who borrowed to the hilt and then borrowed even more and put all the central bank-issued “money” on leveraged bets has trickled into the consciousness of retail punters, individuals, households and small-scale gamblers, oops, I mean investors.
With real productivity and earnings stagnant and all the gains of gaming the central bank’s suppression of risk flowing to the top 0.1%, the commoners have now followed the Nobility into the casino. Wealth is no longer perceived as flowing from productivity but from speculation and the leaping from one asset bubble to the next.
