Is It Time to Call It a "Bubble" Yet?
We're seeing more talk of "bubble" when it comes to the stock market. New tops in the major indices continue to be made on a weekly if not daily basis; P/E ratios for the S&P approach 18 on a trailing basis, leaving us with dividends that make interest rates on bonds look like an attractive alternative. Combine this with the growing "bullishness" in various sentiment indicators, and we're at least approaching an area where you can start using the "B" word, if we're not there already.
Of course, there's not surprise in all of this. Fed policy has been tailored to push up stocks, even as they struggle to cap rises in bond yields, and in this they have succeeded. One ostensible reason for this effort is to make people feel richer so they'll spend more. The so-called "wealth effect" remains, however controversial, and unproven. While some people may spend a few dollars more, there's no clear evidence that of any broad spending increase that's big enough to goose the economy. But what if that's not really what the Fed has been up to? What if the game they're playing is instead "money illusion."
We find an explanation of this game in James Rickards' The Death of Money, a book we continue to work through and to which we have referred in the past. Here Rickards explains "money illusion" as a strategy pursued by a Fed facing unsustainable federal deficits combined with high unemployment and lagging revenue from a chronically weak economy. The strategy consists of inflating our money in such a way that most of us don't quite feel the pain in any palpable way. The method used is one of engineering higher inflation to produce higher nominal GDP. Nominally higher GDP dosen't always translate into higher real GDP, i.e., higher GDP after accounting for inflation. But the result is a slow stealing of that purchasing power from savers.
Doesn't this strike you as particularly nefarious, this conscious effort to steal while promoting an illusion that your wealth is somehow growing? To be clear, this isn't a situation where the Fed pursues certain policies that, over time, happen to result in a loss of purchasing power. Here we find the Fed consciously, purposely pursuing policies that will result in a loss of wealth, but done in a way that they know virtually no one will notice. Sure, you hear some people talk about how the Fed inflates and therefore erodes the purchasing power of their money. But do they think the Fed is doing this purposely, knowing they are sucking the substance of years of hard work preserved in the form of savings by so many of us? If people really understood this to be the case, we might imagine some sort of ensuing uproar, mightn't we?
Of course, there's not surprise in all of this. Fed policy has been tailored to push up stocks, even as they struggle to cap rises in bond yields, and in this they have succeeded. One ostensible reason for this effort is to make people feel richer so they'll spend more. The so-called "wealth effect" remains, however controversial, and unproven. While some people may spend a few dollars more, there's no clear evidence that of any broad spending increase that's big enough to goose the economy. But what if that's not really what the Fed has been up to? What if the game they're playing is instead "money illusion."
We find an explanation of this game in James Rickards' The Death of Money, a book we continue to work through and to which we have referred in the past. Here Rickards explains "money illusion" as a strategy pursued by a Fed facing unsustainable federal deficits combined with high unemployment and lagging revenue from a chronically weak economy. The strategy consists of inflating our money in such a way that most of us don't quite feel the pain in any palpable way. The method used is one of engineering higher inflation to produce higher nominal GDP. Nominally higher GDP dosen't always translate into higher real GDP, i.e., higher GDP after accounting for inflation. But the result is a slow stealing of that purchasing power from savers.
The Fed's form of theft from savers has a name: it's called money illusion by economists. The idea is that money printing on its own cannot create real growth but can create the illusion of growth by increasing nominal prices and nominal GDP. Eventually the illusion will be shattered, as it was in the late 1970s, but can persist for a decade or more before inflation emerges with a lag and steals the perceived gains. (pp. 187-188)
Doesn't this strike you as particularly nefarious, this conscious effort to steal while promoting an illusion that your wealth is somehow growing? To be clear, this isn't a situation where the Fed pursues certain policies that, over time, happen to result in a loss of purchasing power. Here we find the Fed consciously, purposely pursuing policies that will result in a loss of wealth, but done in a way that they know virtually no one will notice. Sure, you hear some people talk about how the Fed inflates and therefore erodes the purchasing power of their money. But do they think the Fed is doing this purposely, knowing they are sucking the substance of years of hard work preserved in the form of savings by so many of us? If people really understood this to be the case, we might imagine some sort of ensuing uproar, mightn't we?
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