Era of Expansive Monetary Policy Is Over, Prepare for Financial Collapse
Federal Reserve Janet Yellen has praised quantitative easing (QE), citing numerous studies demonstrating the undisputed excellent results of expansive monetary policy adopted since 2009. How to can you challenge that? After all, without QE, the U.S. economy would have shrunk in deflation. Some say that’s worse than hyperinflation.
But QE has overheated the markets, increasing the probability of a massive stock market crash and financial collapse in 2017.
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Treasury bond yields have started to grow, and quickly too, because there is a perception of higher risk in the markets. While everyone can feel this, nobody wants to be the first to burst the bubble, causing a financial collapse. Yet, there is nothing sustaining the valuations on Wall Street. Stock valuations, as in price-earnings (P/E) ratios, are titanic. Speaking of titanic, there once was a ship of that name that was supposed to be unsinkable.
The ship may not have reached its destination, but it has left an important lesson. Don’t allow yourself to be carried away by hubris. Nothing is guaranteed, especially something like a bullish streak in a stock market on steroids. In the Olympics, steroids get you disqualified. On Wall Street, so far, they’ve propelled the Dow Jones to 22,400.
Still, the foundations of the market are shaking. Nobody can predict whether the coming stock market crash will be more of a controlled demolition, as in September 2008, or an explosion in successive spurts, as in October 1929. But nobody will come out wondering why they didn’t see it coming. Everyone who’s read a financial article in the past few years should expect financial collapse.
QE has played a key role in America’s economic recovery, as well as in Europe and Japan. But QE cannot last. The Federal Reserve, The European Central Bank (ECB), and the Bank of England (BoE) have all accumulated too many securities. They’re going to start selling them off. Yellen said it clearly: there will be a gradual reduction of holdings and another interest rate hike before the end of 2017.
What happens afterward is anybody’s guess. What’s clear is that the world beyond the markets has become overloaded with geopolitical and other risks. If the markets have kept their bullish momentum, it has only been because of liquidity. There’s too much liquidity, in fact. This means that the same central banks that used to support the financial markets and the world economy have exhausted all their ammunition.
After the next market crash and financial collapse, the central banks won’t have any tools left to lift them back up. Perhaps the QE pullback will remind the markets that the economy has cycles. After many years of growth, there’s always a reversal. It’s inevitable.
The American economy has been growing for eight years, but it has been a rather weak growth. Perhaps, some might even describe it as artificial. Indeed, what has grown is the Dow Jones. The stock market has grown, but the real economy remains loaded with debt and weak growth. Apart from what the Fed does with interest rates, we cannot rule out a new recession.
Buying thousands of billions of dollars worth of bonds a month for three years has created money from nothing. When this creative process ends, and the beginning of the end has come, the markets won’t sustain the weight of the bull any longer.
