Op-ed by IC² Institute Fellow Moris Simson. This piece originally appeared in the January 21, 2016 Austin American-Statesman.
This month has been grueling for equity markets worldwide.
Not a single stock market anywhere has been spared a sharp value-contraction, a scene only comparable in recent memory to the Great Recession’s onset in 2008. Is this signaling yet another financial crisis, or are we witnessing a different kind of disorder?
I suggest the latter. Simply put, the problem is that monetary policy, as a remedy for economic revival, has hit a proverbial wall. It is now clear that it has only been effective at deferring, but not eliminating, the pain of economic malaise in world’s richest countries.
In other words, monetary policy has acted as an anesthetic – strangely mistaken for a cure by both economists and governments – in the attempts to rekindle economic growth after the stock market debacles of both 2001 and 2008. A classic case of misplaced expectations!
Not only that, but overreliance on cheap credit and monetary stimulus – as manifested with artificially low interest rates and its companion of quantitative easing (QE) – has implicitly taken the responsibility of economic policy-making away from governments and placed it in the hands of financial markets: the same distraught entities that were desperately seeking bailouts in 2008 after being hit by severe banking-insolvency and sovereign-debt crises, all of which propagated quickly to afflict many affluent countries of the world, across both sides of the Atlantic.
Yet, listening to the arguments of investment pundits opining over the stock markets’ recent woes, one would infer the blame solely belongs to (pick your favorite one): China’s slowdown, collapse in the price of oil and other commodities, insufferable currency volatility, and, inescapably, the US Fed’s miscalculation in pushing interest rates up prematurely. Why not? Assigning fault is always easier than offering substantiation.
Ironically, the “elephant in the room” does not even make it to the list: the aggregate global debt-burden. According to the Geneva-based International Center for Monetary and Banking Studies, that burden – which includes private and public debt but excludes financials – has now broken new dubious records: as a percentage of world’s economic output, it now stands at 215, almost 20% higher than it was in the Great Recession!
In view of runaway indebtedness, is it time now to get seriously worried? The answer is no more than in any of the many stock-market slumps experienced since 2008.
Although total debt has grown globally, it has also been accompanied by a massive shift from the private to the public sector in just about every country in the world. In the US alone, such transfer of liability from the private to the public sector is estimated to have surpassed $5 trillion. The bad news is that public debt is way up; the good news is that, unlike companies, governments don’t go bankrupt, but they muddle through instead.
And, as Japan’s case so clearly illustrates, this fiscal/economic re-balancing act can take a long time, sometimes measured in decades. It is all tied to making often difficult economic policy choices, seldom supported by special interest groups. The longer it takes to reform things; the more entrenched economic stagnation gets. No surprises there.
So, what is all this telling us that the world’s stock markets aren’t?
Firstly, and paradoxically, cheap credit and QE have not driven worldwide deleveraging, as expected. So, be ready to hear a lot more about the need for government debt and deficit reduction. If interest rates start moving higher, the urgency of deficit avoidance will rise everywhere, as servicing oversized public debts gets naturally more difficult.
Second, artificially low interest rates have failed to rekindle economic growth commensurate with the length and intensity of the effort. Betting on the wealth-effect with rising stock prices, at the expense of interest bearing instruments sporting higher predictability with less or no volatility, has failed to stimulate constructive large-scale investments, increased consumer spending or improved investor confidence about the future — all absolutely critical elements to sustainable economic growth.
Furthermore, in the US, our Fed must now be extra vigilant as to prevent adverse conditions in upsetting the revival of what predominantly still is a consumption-driven economy: refraining from stoking larger income distribution disparities, through excessively cheap and plentiful credit, will henceforth be a key topic of deliberation.
Thirdly, one would hope that the Fed realizes that the downside of continuing to levitate financial asset-prices with QE, against scrambling investors in search of decent returns on their money, has now reached a danger zone. The risk is now disproportional with the rewards for all. They will have to prick that “asset bubble” slowly, but surely. Implication? Interest rates aren’t likely going back to zero anytime soon.
Finally, there are some lessons to be drawn for governments from this as well. Overreliance on monetarism, as administered by their central banks, as a core therapy for stalled economies with a view to improve national prosperity is no longer sufficient.
The US, widely identified with embracing monetarism over the last three decades, is certainly no exception. Policies geared to encouraging investments in infrastructure upgrades, to becoming more competitive in the cost/quality ratio of essential services like health-care and education, to attaining fiscal discipline as manifested with balanced budgets, are all changes that no amount of central bank intervention can ever bring.
What the disrupted markets of affluent countries need are well-targeted remedies for the promotion of economic growth, instead of yet another sedative from their central banks.
Moris Simson is an accomplished technology executive who now runs a corporate strategy consultancy. He has been an IC² Institute Fellow since 2006.