I have always had a diminutive stature and as a kid I cannot forget when I was first bullied in school by a guy who was bigger, pretended to be invincible and for some reason managed to instill a belief among all of us that if we don’t toe his line, our future would be bleak and sustained existence – questionable!
But obviously there comes a realization when enough is enough and the 8 of us got together and decided to give it all back to the big B. The next few months were excruciating. The Bully wasn’t ready to concede and did all that it took to create many disruptions in all ways, irrespective of whether they were fair or unfair, and we figured out that that fellow is just a pretentious bully who didn’t stand a chance in front of our cohesive group.
Well, the economists and the global observers reading this piece would have already figured out that this analogy above is scaringly congruent to the US and its present situation on the global arena. As the most powerful and influential country on the planet struggles to find a balance between the devil (inflation) and the deep sea (recession) while grappling with the unmanageable excesses of the Modern Monetary Theory, it has to face the consequences of the bully getting cornered by the bullied.
When a large part of the world was struggling with the unknown unknowns of the Covid in the 2nd half of 2020, my friends in the US were buying new houses, cars and Rolexes as they started receiving direct credits because of the largest expansion of US debt. ‘31.5 Trillion and Counting’.
Corporations were being doled out unconditional lines of credit and the economic activity was pushed by liquidity rather than a fundamental demand momentum.
And this released the inflation genie out of the can that’s seemingly impossible to put back.
The quantum of liquidity unleashed in the global markets, the QE1,2,3,4 – The Balance Sheet expansion by more than double in less than 2 years are all a matter-of-fact data available in public domain but lets look at how we are staring at an economic winter triggered by the US of A.
And the reason behind this is that US is such a large consumer of everything on this planet, wields so much economic and military power, is the epicenter of almost all inventions, that if US sneezes, the world won’t catch a cold now – it will suffer from pulmonary pneumonia.
1. Going off the Gold Standard
When elections are won on the premise of false prosperity, writing off loans, rescue of debt ridden citizens – this has to go on and on as there is no going back.
It’s an irony that countries such as India that have far more robust Balance Sheets are rated lower by American rating agencies as compared to their own Balance sheets that are standing on the precipice of disaster but are still rated AAA+.
The US dollar held its ground as long as the music was going on but US never anticipated the consequence of other formidable nations ganging up to jointly make an effort to de-dollarize the global economic activity – so suddenly, so soon.
2. Hopelessly trying to be a global policeman & Underestimating others
And no country supporting Ukraine to fight this surrogate war even as much as fathomed or anticipated that Putin might just change the world order because he controls the largest nuclear arsenal, largest natural reserves, has been accumulating gold for last 10 years to challenge the fiat currencies of the west, is teaming up with other brats – China and Saudi, has bypassed the SWIFT system of payment and while all other currencies cant seem to find the bottom on their way down, the Russian Ruble is up 40% as compared to its long term averages.
By sanctioning the foreign reserves of Russia (which were obviously in dollars and Gold) US has fired a bullet, albeit holding the gun backwards where it has scared every other nation that US can freeze the so-called global reserve currency at its own whim and fancy and all the central bankers are now securing and upping their gold reserves and selling American Treasuries thereby hedging themselves against the US Dollar and the whims of US of A.
Can one even begin to imagine that if dollar begins to lose its status of being the reserve currency, what will happen to an average American who barely has a thousand dollars in bank while the nation has a per capita debt of ~92000 dollars.
And what might be the consequence on the rest of the planet when the world’s most voracious consumer doesn’t have the buying power to import and other countries that have created humongous capacities to feed the US, no longer have a market anymore.
3. The dance between QE and QT
Almost infinite and uncontrolled QE took every asset price on the planet thru the roof in the last 2 years. Creative guys were selling NFTs of the most obnoxious things that one could fathom and they found a thriving suckers market for the same. Second hand Rolexes were being sold at double the price of the new ones and house prices in some favorite districts in the US shot up by 200 percent. It’s almost obvious – when the interest rate is zero or near zero the value of the underlying asset could be infinite.
And almost everyone believed that this would go on forever.
Uncontrolled inflation is a bane for any nation. Venezuela, Iraq, Pakistan and the erstwhile Weimar republic are great case studies and US will have to do whatever it takes to bring in price stability.
475 bps of interest rate increases later, the inflation is still far from being tamed. And while prudence demands that inflation must be brought down to levels that are appropriately mandated to the FED, the destruction of businesses, banks, Private Balance Sheets along the way will take years to recover and will kill demand and in turn – global businesses.
4. All it takes effort – to cling on to power and to maintain supremacy.
We have seen with the Portuguese, The Dutch, The British – that all thru the history the loss of power by one empire/nation is hard for it to accept and empires/nations do whatever it takes to cling onto the power at whatever cost. This is likely to create larger quantum of conflicts over the next decade as Russia, China, Saudi and India start to ally with each other and challenge the hegemony of the erstwhile superpower – The USA.
In turn USA will try and do whatever it takes to protect its economic and military turf and I would love to be completely wrong here but no other nation needs a global conflict of a massive proportion more than the US today. A global conflict, as history teaches us, is almost a sure shot way to create a much required distraction and to end a recession. A global conflict is seemingly the only solution that might give US the much required runway that its almost run out of.
Markets reaction to the QEs, Covid, Russia war and now QT has been sanguine so far. S&P 500 is only some 15% away from its highs. The chills that the Fed chairman, Powell tries to infuse in every Fed meet has been taken lightly by the market ( market always almost says through its reaction that – ‘Powell is lying’ )but will most likely will lead to a long winter for the global markets ahead. A 400 bps interest rate increase by Fed between 2004-2007 led to financial meltdown in 2008 and orchestrated Lehman like collapses Et al, and a much quicker 475bps increase in rates from March 2022 till date is unlikely to have any different outcome. Fed has almost run out of the bullets and even if it finds one, its holding the gun backwards.
The bullied have become the bully and the erstwhile bully is clueless and hapless.
This article originally appeared in cxotoday.com https://www.cxotoday.com/specials/how-usa-can-trigger-a-decade-long-economic-winter/