What a bloodbath the markets experienced this week as monetary reality appears to finally be setting in. Inflation is a problem, a big one and may not be as transitory as it was sold. With the midterm elections coming up and the White House attempting to salvage what is left of their credibility. President Biden gave the Fed the "Green Light" to do whatever it takes to rein in inflation.
This week it appears evident that markets are finally waking up to reality. The Dow, S&P 500, NASDAQ, and Russell 2000 all saw some of their greatest losses in months. With some single day declines only being matched a select few times over the last twenty years. Ironically each of those times a significant event in the markets soon followed.
Is another crash coming?
The NASDAQ has led the way down closing -2.72% on Friday. Solidifying a complete risk off move as the reality that high flying tech stocks will soon face the pressure of interest rate hikes. Many of highflying tech stocks that have dominated the NASDAQ are making 52 week lows. While the high rollers are losing 10% plus percent per day.
Overleveraged traders appear to finally be waking up to economic reality. All of the leverage taken on over the past two years have left many people overly sensitive to even the slightest of rate hikes. A .25% rise in rates once or twice will send many a people rushing for liquidity to make margin. As selling continues in order to make payments they will have to sell even more as everything starts to unwind. This is why understanding the idea of all the excess leverage that exists in the system is so important when looking at the bigger picture. The Fed only knows one way to deal with inflation and that is to raise interest rates. The extended ZERO percent interest rates we have now are not normal by any stretch of the imagination.
There have been times where we have seen drops to zero percent rates but they have always moved back to a stable level. This period of forced zero percent interest rates that we have expirenced since the 2008 Great Financial Crisis highlights our lack of real growth. All of this money has been spent and "invested" into our economy but we do not have anything "real" to show for it. Only elevated asset prices which have created to one of the largest buddle's ever witnessed.
Everyone needs to realize how unrealized gains and paper profits aren't real. They can become real if you realize the gains but they only become wealth when you can do something tangible with the gains. You have to be able to get stuff, goods and services, in exchange for those profits. We have entered a time where the amount of goods and services has rapidly decreased. Also while the quality of those things has also decreased.
The idea of continuing to expirence elevated levels of inflation in certain areas, food/energy/shelter, even if the value of assets decline is an increasing probability. There already is a strong demand of goods to buy in those things which have become limited in supply. What happens when the Fed tightens monetary policy and makes "money" harder to obtain or more expensive (higher interest rates)? That doesn't do anything for improving the supply of goods and services people need to live off of. In fact it could make it much harder to obtain those things. Businesses need expanding capital in order to increase their production to meet growing demand. If they have less access to capital then they cannot easily increase production to meet the growing demand.
Sadly we have reached a point where growing demand is just baseline demand. Businesses in food and energy spaces are having a hard time meeting baseline demand for their products. Companies themselves have eaten much of the growing costs to meet demand. We have seen increases in pay, energy costs, and shipping/freight increases. Going into 2022 and beyond they are going to be passing those costs onto consumers in the form of higher prices. Companies only have so much margin room in which they can operate before a business become unprofitable. No smart person except the government can afford to operate a money losing business.
Artificially low interest rates over the past decade and a half have brought decades of demand forward to the present without allowing for the proper investments to be made to productively meet that demand. Worker productivity has been down therefore REAL wages have not risen to meet this current inflation predicament.
Real economic growth is the only true way we can get ourselves back on the road to prosperity.
Any more government spending fiscal or monetary will only damage any true growth potential. Look at GDP growth post 2008 and how below trend it has remained in real terms.
QE has done immense damage to our real economy as you can see above. We have lost trillions worth of real economic growth. We can all see how our overall standard of living has not truly increased over the past decade. When anything is artificially stimulated nothing REAL is a result. We have finally entered the realm of experiencing the result of constant stimulus that hasn't produced anything real.
If you look back at data from The Great Depression then compare the data to now, the conclusions drawn are jaw dropping. The Great Depression started in 1929, arguably marking the beginning of the worst decade of economic activity our country has ever seen. Was it really though?
In 1929 real GDP was $1.109 trillion. Twelve years later in 1941 real GDP was at $1.566 trillion. That marks a GDP growth of about 70% for those twelve years. Lets compare that to the period from 2008 to 2019 where I pointed out above we went off the rails in real terms of GDP growth. In 2008 our real GDP was $15.605 trillion. In 2019 our real GDP was at $19.092 trillion. Throughout that span of twelve years our real GDP growth was only 81%! That is roughly only 11% more growth then in the period following the greatest economic depression EVER! In 1929 and the following decade there wasn’t any stimulus injected into the economy. Yet from 2008 onwards we have seen over 10 trillion dollars injected in. Ten trillion for only 11% more growth seems a bit much of a price to pay. A price to pay which will prove very difficult to met when the only thing you're selling is dollars.
Think about this when seeing how markets react to the realization of how poor we and our economy really are. The leverage and debt built up since 2008 is nowhere near comparable of the situation in 1929 before The Great Depression. There was excess that built up over the 1920s but when that came crashing down it failed and was not papered over like in 2008. Unlike then where the government and Fed left the economy to recover mostly on its own. We currently are in a period where the government and Fed believe they are the only ones able to produce a recovery. This even when all of their previous remedies have resulted in no meaningful real growth.
Pain is coming so we need to position ourselves to be able to weather the storm.
I want to finish by pointing out that the economic distortions of the last two years have not gone completely unnoticed. Some businesses are doings things to shore up their supply chains and doing so in a way that will actually help America. Intel just announced they will be investing 20 billion dollars to build a cluster of new semiconductor manufacturing plants in Ohio. This will not only create jobs but it helps bring a major part of many supply chains, semiconductor manufacturing, into America. Hopefully beginning a trend of making American industry independent again. Investments like these are the type of things that create REAL economic growth. Intel's CEO suggested this could signal a start of a bigger movement making this area "the largest semiconductor manufacturing location on the planet."
Lastly it was not any politician in Washington D.C., the president or Ohio's governor that made this area the prime location to begin American semiconductor manufacturing. It was local and state officials/representatives that crafted business friendly policies that opened the door to a company like Intel to want to Invest BILLIONS of dollars into the area. That investment needs to have decades of reasonable assurances before it is made. Ohio legislators appear to have done that. It is no wonder so many manufacturing companies are located in Ohio and willing to reinvest in their businesses here. I believe this is part of a bigger trend that will bring American Manufacturing back. Spurring real GDP growth and helping us bring ourselves out a the depression we currently find ourselves in.
Despite what the media, politicians and elites want us to believe. America's working middle class will not allow the government to destroy them. Whatever attempts are made, they will show extreme resilience as they have throughout our countries history. We will not go quietly into the night but the government will!