Submitted by Thad Beversdorf via FirstRebuttal.com,
In the following piece I want to lay to rest any notion
that the accepted state of the economy has anything to do with any
other than perception.
My hope is that by the end there will be very few that can
continue to believe there is anything left to the idea that the
underlying economy is either strong or improving; a perception
substantiated by current market valuations rather than a reality
substantiating current market valuations.
But remember
the idea that perception is reality is a force to be
reckoned with in that perception not only deceives but can create a
temporary self fulfilling prophecy. This is the very
basis of the danger of perception. For it is perception of
thick ice that leads us to the middle the of lake but reality that
takes us to the bottom. And so it is in the perception that
the true danger of reality can hide. I will limit the
discussion today to economics but make no mistake, the putrescence
via the dislocation between perception and reality extends to every
nook and cranny of modern American and the Western world.
I recently listened to a fairly impressive speech on television
but unfortunately tuned in after the introduction. It was a
representative of the indigenous nations of North America.
The speaker discussed many issues and wrapped in the well being of
all people so it was very inclusive and, as I said, very
impressive. However, toward the end of the speech the
lecturer made a point to place blame, for much of his subject
matter, on capitalism. Such a disappointing and trite end in
an otherwise interesting and persuasive set of arguments.
While this speaker was just some obscure orator, there are much
more prominent ‘authorities’ of public policy constantly making
similar disappointing claims on perceptions for the public to
digest. Guys like Paul Krugman are incessantly twisting and
mutating Keynesian economics to mean full on, full time government
control of the economy while decrying capitalism as some evil force
meant to destroy all but the top of the food chain. But at
the same time we have those profiting from the current system too
twisting perception that indeed our system is capitalism at its
finest.
Capitalism is, in its most honest and basic form (i.e. its
true and only form), simply the trade off of something for
something else, with the value of trade being determined by supply
and demand dynamics on both sides of the transaction. That’s
it. And so then it becomes a very difficult task to
understand how that can be the evil force so many around the world
attribute to capitalism. It is also a very trying task then
to see how the current system has anything to do with
capitalism. But as does Krugman with Keynesian economics the
definition of things that most don’t understand very well can be
easily mutated for public consumption to make a particular stance
seem much stronger than truth would merit. And there is that
other evil term that goes hand in hand with capitalism, merit.
Again, merit is something just about all of us understand
innately. I don’t care how compassionate one wants to see
them self, everyone gets annoyed when people take something that
seems to have been earned by someone else. For example,
standing in line at the “I love trees”, T-shirt booth, if socialist
A were to, for no reason, bud ahead of socialist B who has been
patiently standing there for 3 hours, this would be a problem for
all but the very best of us. And this really explains
merit.
There is an inherent understanding by all, that socialist A
didn’t deserve to be ahead of socialist B. In other words,
socialist B earned their place in line ahead of socialist A and so
has every natural right to expect socialist A not to jump the
line. I say natural right because this concept is so woven
into the reality of existence that it is a natural right. It
doesn’t preclude socialist B from kindly given up his right to be
ahead of socialist A in line but the right is his prerogative to
give up or keep. If you understand and agree with that
proposition then you understand and agree with capitalism and
acknowledge it is a natural system. But I would argue capitalism
has been replaced by economic cannibalism.
Capitalism has an inherent way of avoiding dead weight
losses via efficient resource allocation, while Cannibalism feeds
on dead weight losses. To be clear these dead weight
losses are losses to labour (i.e. the consumer) in the current
system (but can be otherwise, for instance with regulated
pricing). Similar to
monopolistic pricing, in a cannibalistic
economy profits to the producer increase despite a reduction in
output. While monopolies are difficult in the current
regulatory world, the Fed has created a similar earnings scenario
for corporations by allowing a reallocation of funds away from
operations and into a guaranteed secondary stock market that
provides no benefit to the economy (or to labour).
Yet there is an active perception campaign that is taking
us out to the middle of the lake. Specifically, we
are being led to perceive an expanding and thus improving economy
despite the reality of contraction. In fact, this focus on
creating an ideal perception has become the main strategy of
American policymakers.
The historic alternative being a focus on building an ideal
reality. This focus on perception is the putrescence of
politics and it is an incredibly dangerous game for we the
people.
The very question of how is it that our ‘capitalistic’ society
has become so seemingly unbalanced highlights the dislocation
between perception and reality. Very simply, our society is
no more capitalistic than it is democratic. This is where the
effort to understand and be aware is an obligation of
citizens. To be a wantonly foolish citizen is to be an
immoral citizen. If we hope and expect to have a fair and
just society, which does include the economy, we must work for it,
that is, we must earn it.
Society, with it’s rules and regulations is man made, and so by
definition comes without natural rights. And that is good
because nature can be cruel to the weak. However, we can
design the rules and regulations to mimic our natural rights where
ideal and can curve them where compassion is perhaps lacking in
nature. But again, such a design requires a moral citizenry,
meaning, in part, an aware citizenry.
By simply accepting the story as told without regard to
integrity of truth we allow ourselves to become feed for those
controlling the story and thus the system. That is,
our sweat equity becomes their wealth, our might becomes their
weapon and our efforts become their strength. In effect those
controlling the story eat the just rewards of all those around
them. And that is exactly the system currently in
place. You will find it impossible to reconcile the
description of the existing system against the nature of
capitalism. The two systems couldn’t be further apart, in
fact, each is the antithesis of the other.
Capitalism inherently optimizes the allocation of available
capital between profits and labour. But by creating policies
that reward operational contraction (whether it be the ability for
monopolies or for risk free returns in a secondary market) and by
incentivizing investors and management in the short term, capital
allocators will always divert capital to profits and away from
labour. This is a pure example of economic cannibalism in
that investors and C-suite managers are filling their bellies from
the meat of not only labour but also future investors and managers;
an incredibly short sighted strategy.
Warren Buffet, often perceived as America’s most beloved
capitalist, is perhaps that grandest example of a economic
cannibalist. Let me give you give you a couple
examples of how Mr. Buffet has zero respect for or interest in
capitalism but practices economic cannibalism as a normal course of
business.
With his BNSF rail company generating significant profits
transporting oil across the Midwest, Buffet lobbied hard and fierce
against a pipeline being built that would create a more efficient
method of delivery. He lobbied all the way up to the
president of the United States. Not only did he lobby to get
his way but he aligned himself with the Environmentalists no
less. Touting trains are safer and more efficient than a
pipeline for transportation of oil is mythical at best. But
truth is irrelevant when it comes to cannibalism. The truth
is simply that Warren is willing to eat any competitive benefits to
the end consumer to fill his own belly. He does so not by
being more competitive (capitalistic) but by purchasing ideal
legislation for himself (cannibalistic) with all lost gains to the
consumer from denying a capitalistic process being digested
directly by him.
Step forward to today and we find Buffet this time fighting
against the Environmentalists and casinos to protect his bets on
energy profits (MidAmerica’s purchase of NV Energy) in Nevada by
lobbying to eliminate credits to folks that are net suppliers of
renewable solar energy back into the grid. Clearly, if people
are adding to the existing power supplies using renewable sources
of energy generation they should receive credit for those
supplies. However, that would eat away at the non-renewable
energy profits being generated by Buffet’s energy plays.
What it means is that nonrenewable energy companies like
Buffet’s holdings need to quash the more competitive (albeit
smaller) renewable sources and do it via purchasing favourable
legislation rather than by being more competitive (hard to compete
with the efficiency of the sun once the cells are in place and paid
for). This is quite obviously anti-competitive and thus
anti-capitalistic. The truth is that Warren is wealthy and
unethical enough to eat the meat of all those competitive benefits
of renewable energy supplies into the grid simply to keep his own
belly filled.
And look I’m not trying to have a go at Buffet in particular he
just is an easy target to make the point. In reality there
are a million examples at all levels and in all facets of the
economy but the point is that capitalism has very little to do with
America today. Let me say that again. Capitalism has
very little to do with America today and so we need to get this
idea of evil capitalism out of the public discourse.
Our system could be considered an immoral system in the sense
that it is materially unethical and inefficient, based on massive
resource misallocation but it cannot be considered
capitalism.
Now I’m certain you are asking yourself if this is going
anywhere or is this just some theoretical moral point being
made?? Ok, let me bring this back to the here and now
tangibility of the average American.
Part of being an American profiteer today is getting ahead by
any means available for which one will not go to prison nor pay
100% of their ill gotten gains in fines to the Treasury’s General
Fund. Just refer to the libor, FX, MBS or gold market
manipulations that have so far found guilt but no one of any
relevance prosecuted or broke. The facts speak loud and clear
to a system designed on economic cannibalism. But because a
picture is worth a 1000 words allow me to provide a few charts to
make the point slightly more succinctly how this impacts we the
people.
The following is a visual of economic cannibalism in its
most obvious form, understanding the idea that capital must go to
either profit or labour. It is apparent that while
labour once sat at the table with profiteers, today, labour has
become the meal.
What we find in the above chart (source: Bloomberg/ Allocated
Bullion Exchange) is that while corporate profits (dark blue line)
and S&P valuations (light blue line) have historically
correlated positively to real incomes, in the new Fed manipulated
and highly cannibalistic economy, corporate profits and market
valuations are actually feeding on incomes i.e. labour and thus on
their own source of subsistence as labour is also the
consumer. Purely cannibalistic activity. But due to the
short term nature of today’s investor and managers, long term
health has no place in strategy discussions.
The next chart I’ve presented previously but it is perhaps the
best representation of how earnings growth is simply an
illusion/perception created by operational contraction. You
see while historically stock valuations grew with increased sales
meaning operational expansion (i.e. non-temporary increased
expected future cash flow), in the new cannibalistic economy,
markets are thriving on lower sales i.e. contracted operations i.e.
contracted labour i.e. temporary earnings growth.
I simply cannot disseminate the above chart
enough.
It is at the heart of the giant con I’ve been discussing for
the past year. Consumers are not spending more (i.e. real
sales are down) because they have less income. When one reads
between the lines of the above chart one understands that the
growth in market valuation has come via earnings growth, which has
come by eating corporate operations (cannibalism not
capitalism). In effect, reducing economic activity by
reallocating capital away from operations (capex and labour) and
into profits via dividends and buybacks, corporations have created
the perception of growth (expansion) leading to increased stock
valuations when in fact the opposite it true.
The next chart dispells the perception that because the
defined unemployment statistic is falling more people are
working. This is truly unbelievable to me that people
still talk as though we have had any sort of an improvement in
labour over the past 6 years.
What we actually find is that declining unemployment
historically resulted in increasing labour participation rate
meaning as unemployed fell out of the statistic they actually were
moving into jobs as one would expect. However, subsequent to
08 in the new perception economy, while the rate of unemployed
persons (U6- red line) is falling those persons are not moving into
employment as we are led to perceive but are simply no longer part
of the defined labour force (blue line). In short, they
simply no longer exist according to the unemployment statistic.
There is an abundance of evidence indicating the same
reality. For example, the Fed still cannot raise
rates despite a historically low unemployment statistic (U3 at
5.8%). Additionally, the instance of declining real wages and
income is not a typical economic phenomenon during a tightening job
market. Yet the perception is of a highly improved job market
via a deceptive unemployment statistic which continues to be
pressed and pressed very hard despite all of the evidence to the
contrary.
Now let’s look at perhaps the strongest argument which I expect
should alleviate any remaining doubt as to a choreographed
perception based strategy.
The fact of the matter is that markets have now completely
lost any logical tangibility to real economic growth vs
contraction. Allow me to crystallize the point with a
chart that leaves no room for argument. In fact, I would love
to have one of you permabulls reach out to me and explain this next
chart.
I’m not sure there is a better depiction of long term market
manipulation than the above chart. Note that we’ve
experienced an economic collapse (white line) matching that of
2008, yet while 2008 S&P (orange line) sold off +45% the market
today has traded slightly higher in the face of the equivalent
economic collapse. I’ve added a vertical red line showing
just where the pure market manipulation begins. Notice the
market price pops at each unexpected economic downturn (post 2011)
with absolute absurdity and blatant market manipulation.
But without this manipulation we are back to the chaos of
late 2008. The reason is that a market sell off
triggers a systemic failure of assets collateralising the banking
system which in turn paralyzes credit. From an economic
standpoint this manipulation holding market valuations constant is
the only thing separating our experience today from our experience
during the last collapse. Think about that for a moment.
The above chart clearly depicts two parallel worlds of
perception and reality. The media picking up only on the
perception and avoiding discussion of the reality. The market
manipulation carries the perception which takes us further out onto
the lake, each step adding to the depth of the lake bottom from
which we will ultimately be forced to rebound or drown. Some
may argue prolonging the inevitable is better but it is a weak
argument in that the lake bottom is only getting deeper and thus
increasingly more difficult to survive when reality finally
bites.
Recently a friend clued me in on a great discussion by
James Montier(h/t Ryan Bailey), who highlights
an idea by 19th century economist, Michal Kalecki.
Kalecki predicted back in 1943 that if the Fed were to
attempt to maintain full employment by stimulating private
investment (via some equilibrium interest rate), interest rates
would end up negative and income would end up being
subsidized. Well this is exactly what the Fed has
attempted. Kalecki’s prediction is brilliant (albeit more
complex than I have laid out here) and we have now seen both
aspects of his prediction come true over the past 15 years.
Negative interest rates are here and consumer debt has
unquestionably become a necessary income subsidy if we are to
maintain the perception output growth.
The perception is that GDP has continued to expand which implies
that the American consumer (to include the government) has
continued to grow.
However, when one adjusts GDP for consumption by way of
debt rather than income we see a very different story.
Now debt is neither a positive nor negative economic influence
naturally but its influence will be determined by its
effectiveness. Taking on debt for a good investment can
create expansion of wealth and income. Taking on debt for a
poor investment or consumption can create loss of wealth and
income. The following chart shows how (inefficiently) debt is
being used today to maintain the perception of a robust
economy. The cost of doing so being an incredible loss of
wealth and income.
You can see that for each dollar of debt we are taking on as a
nation we are returning less than a dollar of output (red
line). The result is a net contraction not just a slowing of
output. And that is exactly what we saw in the previous GDP
chart that adjusted out consumption debt i.e. a true contraction of
output.
Perhaps an easier way to see this is the following chart.
Very simply, below we are subtracting the periodic increase in GDP
(output) by the increase in total public debt.
Notice that historically, only periods of economic recession
(shaded periods) showed results materially less than zero.
However, since 2008 almost all periods have less output than debt
and to greater extents than ever before. This is the epitome
of the perception state. Debt consumption is not
growth. Debt consumption is at very best a zero sum
transaction assuming 0% interest. However, debt consumption
for 99.9% of the economy is a net negative (that is, borrowing
costs are above 0% interest).
What that means is that for each period above with a negative
result, real GDP is actually contracting. This is basic
mathematics I’m afraid and so to all naysayers it is simply not an
arguable point but cold, hard fact. And again the reality is
depicted in the adjusted GDP figure in the earlier chart
above. GDP has, in real – real terms, contracted
significantly below where it was in 2007 when we account for the
negative impact of debt consumption on long term output. The
only way to offset that negative impact is to continue to print and
distribute ever increasing amounts of debt for consumption i.e.
income subsidies as Kalecki had predicted.
In summary,
by accepting the story as told without regard to integrity of
truth we have allowed ourselves to become feed for those
controlling the story and thus the system.
As the charts above clearly depict we have two distinct
economic states. One is perceived and the other is
real. The perceived state gets sole attention allowing the
economic cannibalism to continue and draws us further out to the
middle of the lake.
And as the ice disappeared so quickly not yet 7 years ago
it will again reveal itself only a perception created by
policymakers for sycophants so willing to feast and profit on the
rest of us and, perhaps more startling, on their own future well
being.