As is his wont in his monthly ‘Investment Outlook’ for Janus, Bill Gross gets personal in his September letter.
He starts off with a tongue-in-cheek complaint about his wife’s superior golf prowess and how he’s regained his golfing expertise (“practice, man, practice”) before criticizing Federal Reserve Board Chair Janet Yellen and her central bank colleagues around the world for their zero/negative interest rate policies that “destroy capitalism’s business models.” Not only that, he writes, those policies also fall short in attaining their stated goals, since they “fail to provide an ‘easing cushion’ should recession come knocking at the door.”
Gross says that Yellen and other central bank governors past and present have “mastered the art of market manipulation,” a charge they would “plead guilty to over a cocktail at Jackson Hole or any other get together of Ph.D. economists who have lost their way.”
Yellen et al. espouse, he says, “decades of old orthodoxy that follows the tarnished golden rule of lowering interest rates to elevate asset prices, which in turn could (should) trickle down to the real economy.”
Then Gross relates the story of ex-Fed District President Kevin Warsh, who he calls a “lone Fed wolf in wolf’s clothing,” who argued in a monograph called “The Federal Reserve Needs New Thinking” that a “numeric change in the inflation target isn’t real reform.” Rather, Warsh wrote, “It serves as subterfuge to distract from monetary, regulatory and fiscal errors.”
Warsh doesn’t stop there, Gross points out, saying he “questioned the Fed’s sincerity in speaking to income inequality while refusing to acknowledge that their polices have unfairly increased asset inequality,” In addition, Gross says Warsh took the Fed to task for its “mantra of data dependence and its refusal to acknowledge the Yellen/Bernanke/Greenspan ‘put’ in financial markets,” and worries that the Fed can’t possibly accomplish its three goals of trying to “maintain that ‘put” while at the same time “subordinating inflation targeting and output-gap modeling to it.” One possible consequence of the public “growing increasingly suspicious” of the Fed — again, Gross quoting Warsh — is that the Fed may be forced to give up its very independence.
With that description of what the Fed and other central bankers have done wrong, Gross then puts his finger on the big issue. The “primary problem lies with zero/negative interest rates; that not only do they fail to provide an ‘easing cushion’ should recession come knocking at the door, but they destroy capitalism’s business models — those dependent on a yield curve spread or an interest rate that permits a legitimate return on saving, as opposed to an incentive for spending.”
That’s not all. Central banks’ interest rate policies “keep zombie corporations alive and inhibit Schumpeter’s ‘creative destruction,’ which many argue is the hallmark of capitalism,” referring to the notion popularized by Joseph Schumpeter of the Austrian school of economics that some destruction of old hidebound industries is necessary to create the environment where new, vital industries an flourish. “Capitalism, almost commonsensically, cannot function well at the zero bound or with a minus sign as a yield,” Gross continued. “$11 trillion of negative yielding bonds are not assets — they are liabilities,” he wrote before becoming personal again: “Factor that, Ms. Yellen, into your asset price objective.”
Yellen and her colleagues have “deferred long-term pain for the benefit of short-term gain and the hopes that your ancient model renormalizes the economy over the next few years,” Gross writes. “It likely will not,” he judges, and presents Japan as the “petri dish example for the past 15 years.” So what should investors do? They should “know that they are treading on thin ice,” Gross warns, then lumps himself in with other market ‘Cassandras’ like Jim Grant of Jim Grant’s Interest Rate Observer and hedge fund manager Stanley Druckenmiller of Duquesne Family Office who he characterizes as “a broken watch that is right twice a day but wrong for the other 1,438 minutes.”
In an interview last week with a Swiss publication in which he was critical of the Fed and other central banks’ interest rate policies, Grant said that in finance, “mostly nothing is ever new,” but when it comes to “interest rates and monetary policy we are truly breaking new ground.” The prescriptions delivered by central banks to save national and global economies and spur growth after the global financial crisis are not only failing to be effective, Grant said, but “to some degree, I believe, they are not recovering because of radical monetary measures.”
In May, Druckenmiller, George Soros’ former partner and a highly successful hedge fund manager, told Ira Sohn Investment Conference attendees, according to CNBC, that “The conference wants a specific recommendation from me. I guess ‘Get out of the stock market’ isn’t clear enough,” and that gold “remains our largest currency allocation.” In that same speech, Druckenmiller had his own harsh words for the Fed. ”The Fed has borrowed from future consumption more than ever before,” he said.
Finishing his thoughts by returning to the golf course, Gross concludes that his broken watch “is ticking because of high global debt and out-of-date monetary/fiscal policies that hurt rather than heal real economies,” and that “sooner rather than later, Yellen’s smooth shot from the fairway will find the deep rough.”
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