The Next Bubble to Burst? The Peril of the Stimulus Bubble, by Joseph B. Lora
My inaugural blog post explores what I believe is the 3rd bubble of the millennium: the Stimulus Bubble. We've already suffered both the Tech Bubble of 2000 - which took the Nasdaq 16 years to recover - and the ignominy of the Housing/Credit Bubble of 2008 - which almost lurched us back to the financial Stone Age. The Fed swooped in with a massive liquidity injection to prop up the banks and the economy, saving the day.
And yet now we must lament, as did Hamlet, "Ay, there's the rub," because there’s been one big problem with all that 2008 liquidity: it is still ongoing. No, actually, it’s accelerating.
But why? As of Feb 19, was our economy still on the precipice as it was in 2008? Certainly not as evidenced by President Trump tweet-festing on an almost daily basis: “greatest economy in history!”
Our employment numbers were at historic lows of 3.6%, average wage gains were not bad at 3%+, real estate was shifting from 4th to 5th gear, and, of course, the S&P 500 hit an all-time high of 3393. The market was trading at a valuation metric, the PE ratio, of about 20 – roughly 25% higher than historical standards, but nowhere as outrageous as the 2000 bubble PE of about 35.
So why were government officials – including Trump over Twitter – pushing for MORE rate cuts and ever-cheaper money? Why was government spending blowing up budgets to whip-slap the economy forward, with deficits eclipsing $1 trillion into 2020 and for years beyond?
To put it bluntly: wtf?
Oh, and about that Fed: in 2008, with GDP at (-6%), they purchased government bonds to depress rates and stimulate lending - famously known as Quantitative Easing. In any rational universe, one could expect QE to end after a few years with an economy that was growing again, albeit mildly at an average GDP rate of approximately 1.8% (Obama) and 2.2% (Trump). After a December 2017 $1.2 trillion stimulus tax cut, one would expect any QE program to be complete overkill. Even a marathon runner can only drink so much Gatorade.
But, as of today, the Fed has dived back into QE for going-on 6 months now and they dived in head-first. After tremors in the commercial paper market shook Wall Street last August of 2019, the Fed has thrown something in the neighborhood of $500 billion to prop up the markets, with most of that money going “directly into US equity markets” to quote Paul Gambles of MBMG Group. No wonder we reached an all-time high in stocks as of Feb. 19: if you give an athlete a steroid, he or she will run faster. As the financial website, Real Money, writes on Feb 26: “the growth in…prices have all been exacerbated by the Fed…printing money to no end to keep the growth engine moving along.”
To make matters worse, the entire globe has mimicked the US (because, arguably, we forced their hand, economically speaking) and cooked up their own home-grown stimulus measures. Our dear friends in China acted with particular transgression and, since 2008, went from being good Confucian savers to racking up a debt/GDP ratio of 270%, depending on whom you ask. That’s about 2.7x worse than ours, making us look like penny-pinchers in the race to rule the world.
But still – yes, still! – it gets worse. The tragedy of the 2020 Corona Virus crisis will compel further stimulus measures from countries around the globe. As of Leap Day 2020, Feb 29, it is yet to be seen what stimulus the US will push through but the market is already “pricing-in” 3 more rate cuts in 2020. A rate cut is not a vaccine, not even a hand sanitizer, and so no expert on TV can adequately answer the question of how 3 rate cuts can stop a renegade virus. But the rate cuts are coming: as unwelcome by realists as is the virus. So as I wrote above, the stimulus is accelerating.
What is the conclusion? One day, this stimulus has to not only end; it has to unwind. In plain language: rates have to normalize and the debt has to be repaid. There are few sure things in life, there are even fewer sure things in finance. But one seems sure enough: when “The Stimulus Bubble” ends, it is likely to come with great economic pain.
In future blog posts, I will go into more detail with my customary array of facts, figures, research – and hopefully good writing – to explain the painful consequences of The Stimulus Bubble. It all began out of necessity – to save the economy from a 2008 Great Recession. But our economy got hooked on the drug. And now we may need saving again. GO FIGURE.