Global Agenda: Hiss, pop, bang

It is possible that we are in the early stages of another global market collapse, on a par with or greater than that of 2008-09.

June 20, 2013 23:23
4 minute read.
US Federal Reserve Board Chairman Ben Bernanke.

Ben Bernanke 370. (photo credit: REUTERS/Gary Cameron)


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That hissing sound you hear is the air going out of the global bond market. There is no more ominous sound in the world than that, because – as Andrew Haldane of the Bank of England explained to a parliamentary committee last week, and was quoted in this column – the world’s leading central banks have been engaged for the last four years or more in creating the biggest financial bubble in the history of markets, and they did so in the government bond markets.

If, therefore, one or more of the big central banks – certainly if the biggest one, the US Federal Reserve – says it will desist from making the bubble ever bigger, indeed it will start reducing the flow of new money into the markets that created the bubble and has kept it expanding, then that is the bubble’s death-knell. Everyone hearing that pronouncement, which was most officially declared by Fed Chairman Ben Bernanke on Wednesday but had been widely previewed by Bernanke and his colleagues on numerous occasions over the previous month, must react by adjusting, if not reversing totally, their investment strategy, activity and portfolio.

This adjustment process is what has caused the massive sell-off in global markets – all markets, including equities, government and corporate bonds of every level of quality, commodities and other assets – over the last couple of days.

It is more than likely that it has much further to go and that over the course of the coming days and weeks we will see the largest and most violent “correction” in the markets since the summer of 2011.

It is also possible that these falls mark the onset of something much bigger than a mere correction, however sharp. It is possible that we are in the early stages of another global market collapse, on a par with or greater than that of 2008- 09. That is so because, unfortunately, the speculative excesses engendered by the bubble in government bond markets was even greater than those generated by the real-estate and housing bubble that blew up in 2007.

The only possibility that the leaking of air out of the bubble will be stopped or prevented is if other central banks take the baton that the Fed has now dropped. The Bank of Japan seemed to be doing just that; indeed, on April 4 it said it would do much more than the Fed has ever done. But, as discussed here in recent weeks, the Japanese economic policy experiment, known as “Abenomics” after the premier who launched it, is in deep trouble in Japan itself, as well as creating growing tensions between Japan and other economic powers, most recently Germany.

Worse, by far, is that whatever contribution Japan is making to the maintenance and further expansion of the global liquidity bubble is being more than offset by the monetary policy of China, which is actually moving in the other direction.

That is the popping noise – which you probably can’t hear because your ears are directed toward Washington and Bernanke while the pop came from the other direction, from China. It should be remembered that the true “savior” of the global economy in 2009, during the “Great Recession,” was not Bernanke, although he certainly did his best. Rather, it was the political leadership of China, which unleashed the largest stimulus program ever seen (equivalent to some 15 percent of China’s GDP then) and thereby provided the primary impetus for the recovery that began in, and was led by, East Asia and the developing economies around the world.

However, in so doing, China exhausted its abilities, and it now appears that the distortions it created in its own economy, by misallocation of capital and over-investment, have forced it to end its unsustainable growth path. The popping noise is the deliberate bursting of bubbles being undertaken by the Chinese central bank, the People’s Bank of China, and by other regulatory agencies. The Chinese bubbles have been on so massive a scale that they have not only caused severe distortion and hence damage to the Chinese economy, but they have affected the global economy via their impact on essential commodities – and none more than copper.

Readers with a keen interest in the mechanics of market distortion and a good understanding of financial instruments and how to use them, as well as with an hour of undivided concentration to devote, should read this very long, complex, but utterly riveting explanation provided in the Zero Hedge blog, based on an outstanding piece of analysis by Goldman Sachs ( swan-redux).

The bottom line is shockingly simple: The Chinese manipulations of the markets, which were much more sophisticated and hence more powerful than anything going on in the West in recent years, are being targeted, ended and reversed. The fallout, the collateral damage, the unintended consequences of this development, are huge. One of the most dramatic is the extraordinary rise in money-market rates in China in recent days as a severe credit crunch wreaks havoc on financial institutions.

The bang heard Wednesday, which made a considerable contribution to the market mayhem, was the report that a Chinese bank had gone bust for lack of liquidity. If this proves true, much louder bangs will soon follow.

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