For a while there it looked like Japan had the answer. A strong new leader
comes in and cuts through all the indecision, orders the central bank to flood
the system with cash to depreciate the currency now rather than later - and
boom, the stock market soars, exports rise and the economy starts growing again.
The entire left-of-center world eyed this process hungrily, sensing both vindication
of their views and the coming economic nirvana when their governments finally
accepted the truth about debt (it doesn't matter) and easy money (a free lunch
that always creates wealth). If Japan's success proved sustainable, within
a matter of months the European Central Bank would have no choice but to join
the money creation orgy. And with the euro and yen both falling like rocks,
the US Fed would soon have to follow.
But Japan's success, to put it mildly, didn't turn out to be sustainable.
Just as Austrian economists and common sense predicted, interest rates on Japanese
bonds soared, as the global markets subtracted the 2% target inflation rate
from the 1.5% or so yield on long bonds, and decided that a negative real interest
rate probably wasn't the best deal. They sold, bond prices plunged, yields
rose, and Japan hit the wall that Kyle
Bass and others have been predicting it would hit for, it seems, ever.
Japan's stock market, now unsure exactly what is going on, has sold off in
huge, bloody chunks. (The following chart does not show today's 518 point drop.)
Here in the US something similar is happening. Share prices are at record
levels and real estate is booming, which is a recipe for instabily, so the
Fed has been making noises about easing back on the asset purchases. And the
stock market, no surprise, has started doing what it always does when the Fed
tries to siphon off the river of liquidity. It is tanking, down another 200
points on the Dow as this is written on June 5.
What does this mean? Well, the obituary of the supercycle credit bubble that
began in the 1940s has been written so many times that it would be crazy to
say anything that definite. But it is safe to say that the corner central banks
have been painting themselves into has gotten a lot more cramped in the past
few weeks. The global economy, led by Europe but with the US close behind,
is slowing despite debt monetization that would have been labeled insanely
inflationary by pretty much the entire economics profession two decades ago.
But shifting the printing press into an even higher gear very risky, based
on the Japanese experience.
So our options appear to have narrowed to just two: Roll the dice on complete
monetization in which the central bank buys up all the debt being issued --
government, corporate, asset backed - and accept that an asset inflation might
ensue (a global debt-for-equity swap, in other words). Or retrench, let interest
rates rise to normal levels, and hope that that doesn't send the leveraged
speculating community (which includes the governments issuing and rolling over
trillions of dollars of short term debt) into cardiac arrest.
