I really appreciate Whitney Baker (@TotemMacro) ‘s willingness to communicate her ideas. Without her effort, I would never have been moved to write this. I hope this is a good thing. I have set up an imaginary debate using her contentions and my retorts.
(Find the Financial Times article that contains these ideas and inspired this text, here: https://t.co/70dSeKuvGP . I ought to warn you that it is hidden behind a damned paywall.)
Whitney Baker: We’re at a sort of inflection point that only strikes once or twice a century.
Hugh Hendry: We’ve created a volatility machine that generates once-a-century events every c. 7 years. The Nasdaq crash 2000, Great Financial Crash of 2008, and indeed the outbreak of Covid-19 in 2020.
WB: Most people grew up alongside a simply historic rise in ﬁnancial wealth.
HH: Tell that to the Brits, the Chinese and the Japanese, etc.
WB: Liquidity outpaced the economy.
HH: I have no idea what that means…
WB: Disinﬂationary, liquidity-dependent assets
HH: There are no such things. I think you are referring to Treasuries. Their stand-out attraction has been their liquidity and their lack of commercial risk, “disinflationary” assets demand oceans of liquidity. When liquidity falters, central banks underwrite the liquidity of such assets, see March 2020. Or at least they used to until very recently. I believe they will continue to do so…eventually.
WB: Assets deﬂate and “real things” inﬂate.
HH: What does that mean? We can draw a distinction between real and nominal assets but today both are deflating.
WB: Richard Nixon’s gold and China policies set the parameters of the world we’re now leaving
HH: This is 50% correct. Those who don’t understand money often cite Nixon’s closure of the gold window. It’s more complicated than that. The FT should have emphasized its ambiguity.
WB: We’ve spent more than we’ve made.
HH: This is sloganeering. I’m not convinced. Not until at least 2010. Growth is determined by the availability of productive investments funded by savings. Beyond 2010, too much growth was secured by the funding of unproductive investments. A billion $ bridge with an NPV of $300m…building apartment complexes for no one to live in is not “investing”…
WB: globalization – cheap labour and a privileged ability to import the world’s savings.
HH: A privilege? Feels more like accepting serfdom in the west for the surplus savings of mercantilists that don’t trust their local serfs to spend their legitimate wealth. My prejudice
WB: Globalisation kept prices down and the $ up, funding twin imbalances by supplying ample buyers for US paper.
HH: This is bias not factual. China targets high domestic savings. This makes its growth dependent on running trade surpluses. A state-sponsored class war. My prejudice. Such trade surpluses generate capital surpluses or trading partners.
WB: The old economy boom gave way to a new economy bubble.
HH: It’s the other way. The 1990s Nasdaq bubble gave way to the old economy boom as China became the marginal price setter of all things industrial. This then gave way to the bubble in risk-less securities such as Treasuries and negative yielding bonds and the rise of Apple’s $3 trillion market cap…bubbles begot bubbles with diminishing appetites for risk in a world flooded with capital and lower prospective returns.
WB: There is no immaculate disinﬂationary force to counteract the demand shock.
HH: What is an immaculate force? The demand shock is organised by central banks seeking demand destruction to control prices following the supply shortages engendered by the global pandemic closure. This is state-sponsored demand-destruction during a depression…no good will come of it. My prejudice.
WB: Markets expect inﬂation and rates to converge at c. 3 % with negative real rates.
HH: Markets’ best guess of inflation presently is resetting to 3%, it may rise further or peak here; we don’t know yet. Prospective real rates are presently guessed at zero’ish. The curvature of treasury term curves suggests the present tightening will indeed destroy demand. The chairman of the world’s largest bank has warned of a hurricane force type recession arising imminently.
WB: External dependencies are growing.
HH: Globalisation demands external dependencies. Dependencies probably peaked. China will never have a better opportunity to turn rogue. The West is helpless to counter any Chinese militarism with economic countermeasures. I pray I’m wrong.
WB: Real rates are negative.
HH: The present economic world cannot function with positive real rates. We live in an age of abundance. Companies are not capital constrained. They’re bereft of wealth-creating investments. Returns on investment are low in a world of plenty. This is factual. The corollary is high asset values or low investment returns. Positive rates need scarce capital which is the opposite of today. Negative real rates are appropriate for today.
WB: Policymakers are just waking up.
HH: Policymakers remain comfortably numb as always…
WB: Your currency falls and inﬂation persists until you give your foreign creditors the positive real returns they demand.
HH: I presume you’re referring to the US and the $. The latter is rising. Please explain how this matches your thesis, are you dismissing the market? Foreign creditors are mostly sovereign funds whose trade surpluses dictate their actions. They don’t seek commercial returns. Their motivation is political. They fear that enriching their own citizens could lead to a boom and bust cycle that might boot them out of office.
WB: The end of abundant liquidity can crush assets trading at multiples of sales.
HH: Agreed. US assets are about 7x GDP. Depressions form when fictitious wealth resulting from the fallacies of positive imagined realities crash. When losses are greater than GDP.
Today’s perception of wealth is greater than reality. Voilà, we agree. But reprice fictitious to real: S&P resetting to the highs of 2k and 2007? Imagine BTC resetting to 5k? Imagine China devaluing to reset the $80 trillion top mark in residential real estate. Imagine wealth destruction… I know I can.