Bloomberg Businessweek - USA (2019-12-23)

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◼ REMARKS Bloomberg Businessweek December 23, 2019

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advisertotheGermaninsurerAllianzSEanda Bloomberg

Opinioncolumnist.

ButasKeynestaught,whatworksfora singlehousehold

doesn’tworkfortheeconomyasa whole.Oneperson’s sav-

ingsdeprivessomeoneelseofincome.Thebusinessprofits

thatMinskypeggedasthekeydeterminantofsystembehav-

iordependonconstantlyincreasinginvestmentinhouses,

factories,software,etc.Andthoseinvestmentsarelargely

financedwithdebt.

Theonlywaybusinessescouldmakea profitata time of

deleveragingwouldbeif governmentstookuptheslackwith

massivepublicspending,astheydidinWorldWarII.Buteven

thatwouldn’tworkif it bolsteredtheprivatesector’sconfi-

denceandledhouseholdsandbusinessestoreleverage. The

warwasa specialcase.IntheU.S.,wroteLevy,“thatsituation

includedgravehouseholdandbusinessfears,greatuncer-

tainty,governmentquotas,outrightbansonsomekinds of

spending,a powerfulsocialforceforthepopulationtocom-

plywiththegovernment’sprograms,massivegovernment

deficitspendingequaltoa quarterofGDP,andhyperdrive

economicgrowth.”

Levyconcludedthattheinevitablecorrectiontobalance

sheets,wheneverit comes,willproduce“seriousfinancial

turbulence,systemiccreditproblems,andgenerallyunsat-

isfyingeconomicconditions.”Hewrotethat“byfarthetrick-

iest priority” for the government is to rescue the economy

without inducing new risk-taking by the private sector, which

would generate the problem all over again. A “benign transi-

tion,” he wrote, is “next to impossible.”

Given the ugly alternatives, governments are keeping the

game going through stimulative fiscal and monetary policy.

But for how long? The late economist Rudiger Dornbusch

once said, “In economics, things take longer to happen than

you think they will, and then they happen faster than you

thought they could.” <BW> —With Enda Curran

Are Negative Interest Rates Pumping Up Bubbles?

As rates fell below zero in Europe and Japan, U.S. stock markets soared

While having lots of debt is obviously precarious, he says,

having too much in assets is also problematic for the economy

as a whole. It can indicate overinvestment (too many houses

in the Phoenix exurbs) or excessively high valuation of what-

ever assets exist (so prices are unsustainable).

Americans emerged from World War  II with little debt

because consumption was rationed during the war years. They

owned few assets because private investment had been sup-

pressed and valuation of assets was pessimistically low, with

a price-earnings ratio in 1949 of less than 6 for the S&P 

(it’s 21 now). But balance sheets grew. In each successive busi-

ness cycle, the ratio of debt to income grew as lenders com-

peted for market share. By the 1980s it began to be a problem.

Ominously, a growing share of the debt went to buy existing

assets rather than new ones: It was inflation vs. creation.

With balance sheets getting too big to fail, the Fed came to

the rescue in each recession with interest-rate cuts to reduce

the carrying cost of all that debt and to prop up the value of

rate-sensitive stocks, bonds, and other assets. It worked like

a ratchet. Rates fell in each successive cycle because the big-

ger balance sheets grew, the lower interest rates needed to

be, Levy says.

True, households in the U.S. have paid down some of

their debt since the 2007-09 financial crisis. But the non-

financial corporate sector has gotten even deeper into hock.

“Corporate America’s fragile debt pile has emerged as a key

vulnerability,” Oxford Economics Ltd. senior economist Lydia

Boussour wrote on Oct. 31. Half of investment-grade corpo-

rate bonds are in the lowest tier by credit rating, vs. 37% in

2011. And 80% of leveraged loans are covenant-lite, vs. 30%
      during the financial crisis, she wrote.
      Unfortunately for the would-be rescuers—or enablers—at
      the world’s central banks, interest rates are about as low as
      they can possibly get in Western Europe and Japan. (The Fed
      still has a little room.) The banking system begins to break
      down at negative rates because depositors, who supply banks
      with funds, refuse to lose money by leaving it in the banks.
      At some point they’re better off keeping it under the mat-
      tress. “We are very aware of the side effects” of negative rates,
      European Central Bank President Christine Lagarde said after
      herfirstboardmeetingonDec.12.
      Lagardehasa biggerproblemthandoesFedChairJerome
      Powell.She’supagainstratiosofprivatenonfinancial-sector
      debt to gross domestic product above that of the U.S. The
      ratios in Australia, Canada, China, and South Korea are, in
      fact, higher than the ratio was in the U.S. at its 2009 peak,
      according to the Bank for International Settlements. That’s
      why Levy predicts the next crisis will begin abroad. “It may
      not be as bad for the United States as in 2008-2009; it is likely
      to be worse for most of the rest of the world,” he wrote.
      The fix seems simple enough: De-risk balance sheets by
      allowing the air to come out of asset prices and paying off
      debts. “The best is to grow out of it gradually and consis-
      tently, and it’s the solution to many but not all episodes of cur-
      rent indebtedness,” says Mohamed El-Erian, chief economic

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Worldwide value of S&P 500

negative-yielding debt