The Dow went up 87 points yesterday. Gold went nowhere.
Our guess: Neither stocks nor gold knows where to go from here. The economy is still weak, with mortgage lending at its lowest point in 14 years. But the Fed is still holding interest rates down… and feeding plenty of QE money into the market.
The Fed is expected to continue tapering its QE program next month, taking another $10 billion off its monthly allowance for buying bonds from the private sector. But for the moment, economist Richard Duncan tells us that there’s still enough “excess liquidity” to keep stocks up.
Later this year, Duncan says, the trouble should start. Stay tuned…
A Crisis of Capitalism?
On Sunday, we became godparents to a six-month-old girl. A cute little girl, with dark skin, dark eyes, dark hair… and chubby cheeks. Her mother, as near as we can tell, is a descendant of the local Diaguita tribe. The history books tell us that the Spanish tried to exterminate them… but they seem to have failed.
Up here, according to local tradition, landowners are often asked to be godparents to children born on their farms. Who could refuse? We’re not sure what to make of this new and totally unexpected responsibility. But heck, you take things as they come… and do your best.
Meanwhile, we’re dissing a book we haven’t read. Paul Krugman calls Thomas Piketty’sCapital in the Twenty-First Century a blockbuster. We can’t wait to get our hands on a copy, just to see if Piketty is really the blockhead he seems to be.
Yesterday, we pointed out that real capitalism is self-correcting. Piketty is worried that capitalists are making too much money. The returns from investing, he says, are outstripping the rewards to working stiffs.
Piketty expresses this as r > g – where r stands for the average annual rate of return on capital (including profits, dividends, interest, rents, royalties and other forms of income from capital) and g stands for the rate of growth of the economy.
He really shouldn’t worry about it. When rates of return are high, investors pile in. Then, with too much money chasing too few good investments, the rate of return – r – falls.
Often, investment returns fall so hard investors cry out in pain. But that is just the way it works. You can’t enjoy the pleasure of profits without the pain of losses from time to time.
Thomas Piketty doesn’t seem like a big fan of capitalism. But then who is?
“I guess you’re having your crisis of capitalism in the US,” said the woman who runs a nearby welfare program. She rode up on a motorcycle (a two-hour drive) so she could help the locals improve their lives. Dressed in khakis, she is the sort of woman you could be marooned with on a desert island and not break your marriage vows. A round face… a round body… she nevertheless seemed to have a sharp edge.
“I hope you Americans are holding up okay,” she said with the cheerfulness of a vegetarian in an abattoir.
For her, capitalism is a doomed creed. It is just a matter of time before it is replaced by well-meaning, correct-thinking vegetarians who make sure the chips fall where they want, not where they may.
We figured her out when we visited her headquarters and found a picture of Che Guevara on the wall. She is no fan of capitalism either.
No Strangers to the Baseball Bat
But she is not alone. Capitalism has so few real aficionados they could all probably be rounded up and shot in an afternoon.
The poor don’t like it because they think it – rather than their own bad luck or bad habits – keeps them from getting rich. The rich don’t like it because it threatens to ruin them with crashes and bankruptcies. Businessmen don’t like it because its process of “creative destruction” threatens to make their industries obsolete. Intellectuals don’t like it because it is inherently unpredictable and uncontrollable. The media doesn’t like it because it gives no press conferences and provides no “talking points” for lazy journalists. Investors don’t like it because it punishes their mistakes.
And of course, professors of economics hate it more than anyone. Why? Because it refutes their claptrap ideas about how an economy works.
And so they all – rich, poor, mighty and miserable – turn to the government for succor. Why the government? Because it is the only institution that can lawfully stop capitalists from creating wealth.
Piketty’s observation – that the richest have gotten much richer over the last three decades – is not wrong. It’s too bad that he can’t think more deeply about how it happens.
He believes when wealth is concentrated in few hands there follows a phenomenon he calls “state capture.” Rich people are able to get control of the government and use it like amafioso with a baseball bat: to whack their challengers and skim the profits.
But the state is no chaste and innocent participant. It is not “captured” at all. Those with control of the police and the military are no strangers to the baseball bat; they use it regularly. In fact, they often take the rich hostage and demand as much ransom (taxes… bribes… campaign contributions… payoffs to special interests) as they can get from them.
More often, they simply connive and conspire with any group that can help them – rich and poor, labor unions, business groups, lobbyists and so forth – always subverting capitalism and undermining the public welfare.
Our old friend Jim Davidson tells the story of the “sugar daddies” who have gotten billions of dollars in direct and indirect subsidies over the years.
They learned their trade – bribing politicians – in Cuba before Castro took over. In the 1960s, they brought their techniques to the US. They managed to get much of the state of Florida drained at taxpayer expense, so they could plant cane and sell sugar at artificially high prices.
You have to admire “Pepe” and “Alfy” Fanjul; they know how the game is played. Alfy is so well connected, according to the Lewinsky affair report, that he had President Clinton’s ear when Monica had another of the president’s parts.
Crony capitalism is just a part of the way the economy is twisted and corrupted. Health care, finance and education – the biggest industries in America – have been largely captured by Washington (or vice versa).
You might say, too, that the feds acted after the crash of 2008-09 to protect the wealthy. Without their intervention the problem of inequality wouldn’t exist; as much as half of their stock market wealth would have been wiped out… and probably would have stayed wiped out.
The feds might just as well have wished to spread the wealth among more voters. But the goal was not so much to make the rich richer. Instead, the feds just wanted to keep capitalism from doing its thing. Stephen Roach explains:
The Fed‘s strategy [has been] to get the share markets up, get risky assets up, [and] stimulate the economy through “wealth effects.“ One problem: “wealth effects“ are for wealthy people. What about the real problem in America, which is middle-class, structurally unemployed, workers and their families? Are they benefiting from the “wealth effect“?
Well, then rant about inequality… and crony capitalism. Write a bestseller. And find more ways to stop real capitalism from taking place.
Editor’s Note: Investors still believe the Fed can ‘fix’ the economy with QE without causing inflation down the road. If they’re right, gold is probably a terrible investment right now. But if they’re wrong, it could be the best move to make in 2014. For details on why gold could soar this year, go here.
Why Are Bonds Beating Stocks?
From the desk of Chris Hunter, Editor-in-Chief, Bonner & Partners
One thing you can say for sure about capitalism is it’s never boring.
A big surprise in 2014 has been the strong performance of long-dated US Treasury bonds.
T-bonds with a maturity of over 25 years have delivered a total year-to-date return of over 10%, according to Barclays Indices. This trounces the return on the S&P 500, which is up by just over 1% since the start of the year.
This is surprising because the strength in long-dated bonds is coming on the back of continued tapering of QE by the Fed… which is draining demand from the bond market. (When the Fed engages in QE it buys long-dated bonds from the private sector using money it creates “out of thin air.”)
A further cut of $10 billion in QE to $45 billion (spread evenly between Treasury bonds and agency-backed mortgage bonds) is expected next week.
One explanation for this counterintuitive behavior is that QE boosted stocks. The unwinding of QE is proving a headwind for stocks. And this is pushing investors into the perceived safety of bonds.
Another possible explanation is that, after a 30% rally in the S&P 500 in 2013, pension funds and insurers are rebalancing their portfolios by selling stocks and buying bonds to maintain their strategic asset allocations.
Or maybe bond investors simply see a disinflationary, slumpy economy ahead. Bonds tend to do well when inflation – and economic growth – is low.
Our take is that persistently low yields… despite the Fed’s tapering of QE… is a major non-confirmation of the view among US stock market bulls that the economy is set to rebound over the coming months.
But only time will tell…