As I begin my further analysis of the unfolding political/economic factors facing the global markets I seek your indulgence and set the table by quoting from what I believe is one of the most significant chapters in western literature. Notes From Underground takes its title from the essay of the same name of by Fyodor Dostoyevsky. The tagline, 2+2=5, is a summation by Dostoyevsky to poke at the Rationalists of his day. But the chapter of note is from the novel The Brothers Karamazov titled, “The Grand Inquisitor.” The scene is set as the Grand Inquisitor has arrested the Christ figure for daring to upset the social order that the Church has created. The entire chapter is so moving but allow me to quote a small part:
“Receiving bread from us, they will see clearly that we take the bread made by their hands from them, to give it to them, without any miracle. They will see that we do not change the stones to bread, but in truth they will be more thankful for taking it from our hands than for the bread itself! For they will remember only too well that in old days,without our help, even the bread they made turned to stones in their hands, while since they have come back to us, the very stones have turned to bread in their hands. Too, too well will they know the value of complete submission! We shall show them that they are weak, that they are only pitiful children, but that childlike happiness is the sweetest of all. They will become timid and will look to us in fear, as chicks to the hen. They will marvel at us and will be awe-stricken before us, and will be proud at our being so powerful and clever that we have been able to subdue such a turbulent flock of thousands of millions.”
Yes, the Great Fyodor portrays well the concept of the Davos crowd as it leaves in awe of the miracles, mystery and authority promoted by the world’s self-anointed elites.
And now, the issues from the G-7 meeting, which will play out in the communique:
1. Expect a bow to the 500 articles of Larry Summers, who has spent the last two years pushing his plan for a fiscal stimulus package based on global wide infrastructure projects. In a hat tip to Kevin McCarthy, who called me to note that a massive fiscal stimulus program financed by central bank sovereign bond purchases is the consummate “helicopter money drop.” It’s free money not spent on flat screen TVs but massive projects controlled by policy makers so no fear of any type of Ricardian Equivalence effect where the possibility of the “dropped money” going into savings accounts. The Summers effort is based on seizing the opportunity of ultra-low interest to spend, spend, spend. It is widely held that monetary policy is a spent force and therefore fiscal stimulus is the key to preventing the onset of SECULAR STAGNATION. This is certainly a desired outcome for five members of the G-7 and I would expect that Germany gets singled out for their failure to correct their massive stockpile of foreign reserves from a robust current account and trade surplus.
2. There was a Bloomberg article today titled, “Draghi In QE Quandary After Draining Bond Market By $800 Billion.” The gist of the article is that the ECB will need to change the rules on bond purchases because as the balance sheet grows there is less product that meets the criteria established by Draghi and Company. As Richard McGuire of Rabobank said: “Everything is on the table. Whenever they meet resistance, they get around it by adjusting the rules, adjusting the limits or targeting new asset classes.” This supports the case that monetary policy has broken all global markets turning everything into a relative value trade in which the value base is established by central bank fiat.
3. The Ghost of China present will be felt at the G-7 as Bloomberg News reported today, “China Said to Plan asking U.S. on Timing of Fed Rate Hike.” I never knew CHUTZPAH was a Chinese word but this is the finest example of it. The scheduled Strategic and Economic Dialogue (SED) is to take place in Beijing on June 6-7. The Chinese have been worried that a FED rate hike would push the dollar higher and thus affect the YUAN, and also have a negative impact on some of China’s largest customers. The Chinese maintain that “consulting on policy decisions would be in keeping with a pledge that both China and the U.S. made as members of the Group of 20. After a Shanghai meeting in February, G-20 finance chiefs pledged to consult closely and clearly communicate our macroeconomic and structural policy actions to reduce policy uncertainty’ and minimize spillovers.”
It seems that the U.S. Treasury has signed onto a commitment that violates U.S. law if it is met. A move to fiscal stimulus prior to any change in monetary policy would placate Chinese concerns about the possibility of an over strong DOLLAR. The Fed and Treasury better get their communications in sync for the Chinese have a problem about promises made.
4. In a Financial Times article from Monday, the headline says much about the inconsistency in the British Brexit discussion: “Cameron to Face Pressure Over China Relations At G7 Summit.” It appears the Cameron will be challenged over his stance to make Britain China’s “best partner in the west.” The Japanese are miffed that Britain fails to deal with the aggressive China actions in the South China Sea. As the article noted, “Britain’s courtship of Beijing has caused irritation in Washington–last year the Obama administration warned of a ‘constant accommodation’ of China by London.”
Remember, it was the British who broke ranks with the U.S. and signed up to support Chinese efforts in the Asian Infrastructure Investment Bank (AIIB), which really upset plans for the U.S. efforts to contain Chinese economic influence. Further, George Osborne said in an FT interview during his visit to Xinjiang “… he wanted to take a bit of risk with the China relationship, pushing it so it really brings jobs and growth to our country.” This of course begs the ultimate question for Cameron/Osborne: Why are you so desirous of wrapping Britain in the rules and regulations that define Brussels and the EU. Full EU membership will limit the U.K.’S choices to act in its own interests. (For explanation, see Dostoyevsky above.)
***Chutzpah, ECB edition: In today’s FT, there was a headline that caused me to shake,rattle and roll my eyes: “ECB Warns of Populist Threat to Stability.” The article pulls from the semi-annual ECB report, Financial Stability Review, and gets deep into EU politics. “These rising political risks, at both the national and supranational levels, as well as the increasing support for political forces, which seem to be less reform orientated, may potentially lead to the delay of much-needed fiscal and structural reforms.” This is a tremendous act of arrogance by an non-elected entity which has vast power and influence. If a Fed Chair would have issued such a statement Congress would have demanded he/she to appear before the legislative body. As the balance sheet of the ECB expands, its influence seems to have no self-imposed restrictions on its demands. The voices from the German Constitutional Court on June 23 will be hearing from those in opposition to ECB policies as Draghi has now stepped on political toes. The AfD will be certain to respond. Back to Dostoyevsky.