Blain’s Morning Porridge Oct 11th 2022 – Bernanke and Dimon: A curious moment in Markets
“The lesson of history is that you do not get a sustained economic recovery as long as the financial system is in crisis.”
This Morning: While Jamie Dimon warns of recession, Ben Bernanke is picking up a Nobel Prize – yet the roots of the multiple crises threatening to overwhelm markets and topple capitalism lie in the solutions they led 14 years ago. They saved the world then – who will rescue it this time?
There is a curious asymmetry to markets this morning.
Big News is a Warning from Jamie Dimon, CEO of JP Morgan these last 17 years: “Europe is already in recession, and the US will be there is 6-9 months”. He reckons the cracks will appear first in the credit markets, (In bonds there is truth), or “it might be ETFs, it might be a country, it might be something you don’t suspect….” He is hinting at a classic no-see-um moment. He is clearly a reader of the Porridge, commenting “if you need money, go raise it.” That’s one of my classic market mantras: Raise money when you can, not when you need to.
Time to go cash and gold?
Dimon is the last of the bank CEOs from the Global Financial Crisis of 2008 still standing – one of that band of banksters, regulators and central bankers who huddled round the financial crisis strategy tables, taking the big decisions about bailouts, letting Lehman go… while he snapped up Bear Stearns for a pittance.
Even as Dimon spoke, the market was learning Ben Bernanke has won the 2022 Nobel Prize for Economics. Along with Douglas Diamon and Philip Dybvig, his work on banking has “significantly improved our understanding of the role of banks… during financial crisis”, says the citation. For anyone under 40, (ie 60% of the financial markets), Bernanke was Chairman of the Federal Reserve 2006-2014 and is credited with leading that same rescue of the tottering World economy through in 2008.
As I’ve written so many times in the Porridge, Regulators and Central Bankers are so desperate to avoid the last crisis happening again, they often fail to see the next one coming.
It’s different this time. It’s all about consequences, consequences, consequences. The consequences of the last crisis. For every action in finance, there will be an opposite and equal reaction. Risk cannot be eliminated – it can only be transformed. For every winner there is a loser.
The coming crisis is very much a product of the way we solved the last one. A decade plus of ultra-low interest rates, quantitative easing, easy liquidity and the implied Fed Put to avoid “market instability” triggered unsustainable financial asset value gains – the longest, steepest market rally, but sustained on distortion and mispriced money. It’s been a factor in inflation (but not to the extent monetarists believe). A decade of monetary experimentation undermined the failsafe of the capitalist economy system – the importance of corporate and individual failure.
Bernanke and Dimon did what they had to do – they successfully prevented complete systemic meltdown in 2008/09. They deserve our praise. But now the bill is due….
The bailouts of 2008 triggered so many consequences in terms of transferring risk from banks to investors, from distorted asset values, to shifting investment from plant and jobs to stock buy-backs, to widening income and wealth inequality, the rise of fantabulous speculation and the gig-economy… Free market economies were twisted and distorted by the pernicious effects of mispriced capital.. All of it is unravelling now, and although its going to hurt… it’s got to happen.
On the threat board today is possible panic about how investors will handle the liquidity threats barrelling towards them: from UK pension funds trying to work out the real risk-free rate on their Gilts holding after an incompetent UK Chancellor triggered a run on the National Debt, to corporate bond holders figuring out what inflation and higher rates will do to default rates, or equity investors anxiously scanning US earnings looking for signs of just how badly the system is broken..
Meanwhile speculative shorts have built up to record levels. This means another of my market mantras is in play: The Market has but one objective: to inflict the maximum amount of pain on the maximum number of participants. It will no doubt kick in shortly, creating a short-squeeze rally that will fool many participants thinking we’ve touched bottom. Not yet. Steady…
Markets are about liquidity – and it has dried up due to regulatory change and the end of the QE Era. The biggest danger is not that markets collapse – that’s what they do. They go and up and down to reflect reality. The reality today is they are still overpriced. Real bond yields are still negative. When they are positive, let’s talk about value in stock markets. In bonds there is truth. In stocks there is speculation.
The biggest danger is we don’t let markets correct themselves. If Central banks intervene on a massive scale to address the market instabilities created by inflation, energy crises and war, then they will distort markets further – and the consequences will simply multiply. We will become that much more dependent on and addicted to fake markets. Capitalism will become more and more distorted, and loaded in favour of the rich, wealthy and greedy, sowing the seeds of its own ultimate destruction. It will die.
Yes. I am advocating letting markets free-fall and find their own level – as much as is possible.
The Bank of England has already hinted it is willing to make selective bailouts, doubling up on its Gilts liquidity rescue package yesterday. But if they are bailing out gilt holders, what about pension savers’ equity positions, or their losses on ETFs. If the ECB is preparing to bail out Italy and the rest of the Pasta Belt, why should Germans be expected to pay the consequences?
Going back to Bernanke’s Nobel Prize:
Bernanke’s expertise in banking served him well. In 2008 he swiftly perceived saving the banks and stimulating them to continue lending was the key issue necessary to avoid the Collapse of Lehman becoming the signal for general systemic loss of confidence and collapse around the global financial system.
My good chum Economist Stuart Trow, formerly of the EBRD, describes it well in a Bloomberg article this morning:
“Unlike many of his peers, Bernanke grasped what was at stake. Bank collapses involve losing valuable information about borrowers that can’t be recreated quickly. The credit creation process is best handled by banks, but when they are weighed down by nonperforming loans and a lack of capital, they can’t perform that vital role.
In Europe, measures to support the banking sector were less structured and comprehensive, with the emphasis as much on “punishment” of these perceived to have been culpable for the crisis. As a consequence, Europe’s undercapitalised banks played no useful role in the post-crisis recovery. Instead, many countries remained in or near recession, ultimately leading to a series of sovereign crises, the echoes of which are still apparent today.”
US banks are up 65% since 2008. European banks are still 70% on where they were pre-crisis. But it’s the response to the GFC of 2008 that haunts us today.
Before he became Fed Head, Bernanke was a proponent of the Great Moderation; the theory the amplitude of business cycle volatility has been tamed by effective central banking and the application of modern macroeconomic policy. In terms of a Doh! moment it was right there with UK premier Gordon Brown’s hopelessly optimistic pronouncement the days of boom and bust were over. Both men learnt from their mistakes.
Five Things To Read This Morning
Torygraph – This may be the calm before the storm…
Out of time, and back to the day job…
Strategist – Shard Capital