The pundit class writes often about this FED tightening cycle. The latest twist has been that the hikes around the world have caused dislocations or problems, and a change must be made. The bank of England stepped in and caved to pressure to bail out its bond market. The UN called for a stop to the rate hikes and asked nations to implement price controls. Lost in these pleas is the fact that this day was always going to come when the world’s central banks decided not to raise rates early in the 2010s. The FED set this trap up, which they now find themselves in. Everyone else will suffer.
When the FED initiated the zero interest rate policy (ZIRP) to solve the 2008 financial crisis and began quantitative easing, it distorted the entire financial world. This was the elite bankers’ choice as it saved the biggest of banks while harming the entire system. It provided the banks with spreads as with ZIRP, their borrowing costs were nil. It juiced economic activity as suddenly long term rates crashed but with short term rates at zero we still had a positive yield curve. This also had a perverse effect on metrics as some metrics incorporated the slope of the yield curve and this artificial positive slope made metrics look better than reality. Remember the green shoots meme? That was part of the shoots.
Occupy Wall Street freaked them out enough that they deployed the intersectional stack for protestors to fight over and delayed any small staircase raising of rates. Obama had to be re-elected even if pro-banker Romney was the opponent. Couldn’t raise rates in 2015 with the emergence of evil Trump. Throughout this long period, all firms reworked their debt in a ZIRP environment. With debt rollovers, M&A activity and firms going private, they set up an economy dependent on ZIRP.
This long period of zero interest rates restarted the bubbles, and now we have the everything bubble. With ZIRP, everyone was chasing yield. Every single thing that could pull in +5% was funded. Weird consequences were the funding of unicorns with no earnings, private equity firms creating REITs out of trailer park holdings and the zombification of firms. Wall Street watchers have tracked zombie companies who earn just enough to cover operating expenses but not all of their interest.
This is where the FED increases and bond market move up are going to bite in the employment picture. Zombie firms will not make it. For a decade these firms have been able to roll-over debt with rock bottom rates because their spread compared to the 10 year Treasury was still in a manageable zone, and the appetite was there directly from banks getting 0% FED bucks or in bond markets for a buyer to take a chance on them. Compounding this is that firms through the 2010s were hesitant to expand or invest in themselves because the fear was always there that demand would quickly crater and insolvency issues would arise. We haven’t touched on pensions funds, but rest assured with Boomer retirements and the last decade of investments, those funds are sweating.
Demand will be destroyed. We live in a financialized economy reliant on the marginal borrower so these upticks in interest rates cause the marginal borrower to scale back or disappear. That’s strike one. Rising rates make interest payments painful for zombie firms and bankruptcies will grow. That’s strike two. With US bonds yielding higher rates and with the full backing of the empire behind them, the rate spread is not there when the security of the US government earns someone 4%. That’s strike three.
This day was always going to come. Everyone knew that ZIRP could not last forever. The FED was always going to be in the position of threading a very fine needle. Allow runaway inflation or crash the economy. The new call to stop rate hikes and institute price controls is an admission that the ringmasters fear the collapse of the big top. They want a rate hike freeze and pivot to rate decreases to restart the bubbles and allocate resources and money back into their preferred scams. Price controls shift the pain to the productive economy, which will destroy some producers and lad to shortages and rationing. That’s not a problem of the elite. That’s a little people problem. That’s a problem for the productive and resource extraction economic sectors, which are not as woke as the reliable bubble fueled sectors. Let some of them fail and become even more concentrated, making them all the easier to co-opt and make firmly woke and green.
There is no easy way out. They just do not want to be honest about this. Why would they? Their heads are on the line. A counter to this is their heads are not at risk. Where would angry pitchforks and torches mobs go? Does anyone know? A full decade of woke messaging can keep them secure as who would object? If it’s the middle class and overrepresented by whites, they can frame anger and frustration on white resentment and slap a fascist label on any complaint. Keep the government transfers going and hope that year over year inflation comparisons roll over (as they should), declare victory over inflation and go home. We witnessed a month this summer where inflation was +8% but the number being flat month to month for increases allowed the wordsmiths to say there was no inflation. Forty percent of America will buy it.
They really have to make it through winter so those year over year numbers can be broadcast as disinflationary and declining.Then they can pivot and restart those beautiful bubbles that they love. Can they avoid a Lehman moment? That’s the big what if. A lot can happen in six months and winter is coming.