So I was reading an article today on CNBC and it struck me as ridiculous the way mainstream media avoids the conflict between their message to the public and reality regarding the economy.
“With stocks at record highs and the economy shows signs of growth, autos—which typically do well in times of economic growth—are slumping.”
What does that even mean?? “The economy shows signs of growth”. Is that a positive thing or a negative thing? If I am reading that logically I must assume that while there are indications of growth, growth is actually not occurring or it would have been described as occurring. So what that means each time we see it, and we see it all the time these days in mainstream media, is that while they’d love to be able to say “with real economic growth occurring” they can’t. And so instead they find a way to suggest growth but by suggesting it rather than saying it readers need to recognize that validates a no growth economic state. So how that should read in plain English is,
“With stocks at record highs but the economy not growing, autos – which typically don’t do well in times of no economic growth – are slumping”.
And if it was written that way, well there would be no need for the rest of the article. For it follows that whilst the world is experiencing record low extended growth rates that auto stocks should be slumping, and they are. Profound article!
But that leads us into the right discussion. Why are stocks at record highs when global economies are struggling to find any sort of growth as represented not only by the slumping auto stocks but by actual output data? That’s right the following chart shows world GDP is down to an annualized YoY growth rate of 1.72% with a 4 year average of around 2%. That is the lowest average in modern history (excluding periods of US recession).
We can avoid saying it in so many words as much as we like but the stark reality is that the world is closing in on 0% extended growth rates. Just look at the chart and remember these are official figures which means there is a very good chance many of the input data are generously overstated. This downward trend is not new. We’ve been on course to hit this precipice for several decades and are just now entering that critical territory. One more bubble burst and the math tells us we will cross that barrier.
And why? Well there are several reasons but the main reason is that policies implemented to stem the destructive nature of a debt obligation backed fiat monetary system have guaranteed it. When the base tool for transacting requires principal + interest repayment with interest
Why are Far more likely than Europe is that China will be the source of disruption within the global banking system. The amount of domestic and foreign sourced debt circulating within the Chinese economy is 280% of Chinese GDP. And remember the way debt works is that it requires efficient enough investment to repay the principal plus interest, labour costs and a required rate of return to the capital investor. At 280% total system debt to GDP, double digit growth against each dollar borrowed is necessary to satisfy the total service on that debt. And while China had been achieving double digit growth in output for many years it too is deteriorating to mid single digit growth. Foreign banks are facing an exposure of about $350B against the Chinese growth story. This is an increase of 700% in just the past 10 years; 10 years that has watched Chinese growth continuously deteriorate to developed nation levels.
Perhaps more significant is that the entire world has amassed ridiculously unsustainable total system debt. Let’s have a look at a few major economies.
These debt ratios have increased continuously for decades. Essentially what they are telling us is that the system is getting more and more costly to maintain. Not only is it requiring more and more debt to achieve growth but we are achieving smaller and smaller levels of growth and this downtrend has been ongoing for decades.
What we find is that growth levels over the past 5 years have been only slightly more than half of the historic levels (excluding periods of US recessions). The reason is simple. Policies are being implemented that attempt to quick fix the massive resource misallocations that have resulted from decades of harmful economic policies.
Since the mid 1990’s the US and the rest of the world have attempted to create global growth through capital appreciation rather than income. That is, rather than taking on sustainable risky investments with high probabilities of long term economic prosperity through a build up of wealth via expanding income distribution the world has attempted to turn debt directly into wealth by exchanging debt for non working assets such as residential real estate and secondary equity markets. The result in the US has been wealth destruction with steadily deteriorating incomes for 90% of the population. In China the result is extreme asset bubbles with wealth volatility never thought possible in large economies.
Both the US and China, the world’s two economic engines have spent 20 years pushing policies of quick wealth schemes. On the back of these policies, US corporations have used the cheap debt to engineer a facade of earnings growth (through a diversion of capex and labour to profit) which has led to the deceleration of economic growth and thus a narrowing of income distribution despite increasing total profits. China has built entire cities with no residents which has led to an enormous bubble in global commodity prices that have recently collapsed because the debt funding the policies is becoming scarce.
These scenarios necessitate ever more debt as wealth to the masses is transferred to the very few. This means debt to the masses must be used to a much greater extent for consumption rather than investment. In the US almost nothing is owned at this point. Cars, education, healthcare, houses and even household goods are now being purchased purely on debt (refer to stores like Fingerhut popping up where purchases are done entirely on debt with monthly payments + interest rather than cash/debit payments).
What most economists fail to understand or are at least fail to vocalize is that consuming via debt has the same end result as debt lost to bad investment. Specifically, it is contractionary to long term output despite it being included in current GDP as growth. For instance, a story from the Guardian describes an airport in Spain that cost €1B to build (which opened in 2010 only to close in 2012) and was recently sold to a small Chinese firm for €10K. We can all see how that is a terrible loss. But that is exactly the same loss that results from debt that is used to spend on consumption (e.g. buying food, cars, clothes, etc). And the frightening fact is that the US population has been spending trillions on consumption each year.
The above chart (data sourced from St. Louis Fed) depicts compensation as a percentage of consumption (grey line), so that 1 – (Comp/PCE) is the amount consumed on debt. What we see is that until the early 1970’s more than 80% of consumption was supported by income. However, today only around 60% of consumption is supported by income meaning 40% of consumption or about $4.5T annually is purchased on debt. This means that almost a third of the US annual GDP is mathematically going to come out of future GDP as it represents the same loss as the Spanish airport debacle. Please note that this is mathematically factual and not at all conjecture or some obscure theory. The obscure theory is that turning debt consumption (rather than debt investment) into growth is a possibility and even less so while incomes and wages are declining. It simply cannot happen.
This is the very key to understanding why debt to GDP levels have been continuously increasing (meaning each dollar of debt is generating less and less output) and why GDP growth has been declining to levels no longer sufficient to cover the required debt service, profit and wages. It is a vicious downward spiral and the data is screaming at us to acknowledge these facts. Yet to acknowledge them is to admit that not only have the policymakers failed but so too has the system itself. And that is simply not something that those responsible will acknowledge. And so down the rabbit hole we go….
The central bankers have painted all of us so desperately into a corner now that there is no comfortable way out. Does this mean total destruction to all? Well no, this isn’t the first time the powers that be have led humanity down a faltered path. But it does mean there is more pain to come. 2008/2009 were uncomfortable but the reality is that for most of us that period was not a game changer. The reason is that rather than restructuring, the world doubled down. But as the global economy moves to zero growth and as debt continues to grow exponentially, another doubling down will not be an option as the chips window will close. As Bernard Shaw once stated, “In gambling, the many must lose in order that the few may win”. A most laconic description of the past 15 year’s economic policies.