Another great piece, Florian! I've been an avid follower of your content and admire your process and framework. I largely agree with your thesis and it's associated knock-on effects.
A couple of thoughts, perhaps just to play devil's advocate:
1) For all her alleged faults, one of America's great strengths IMO remains its largely democratic system and freedom of expression. It wouldn't be too much of a stretch to imagine a reflexive process where a continued rise in treasury yields puts intolerable pressure on the US government, thus putting the U.S. fiscal state front and center of the public eye. Would the rhetoric then shift towards taking steps to put the U.S. on a more sustainable fiscal path? Admittedly, as Churchill once said that the Americans will always do the right thing, only after they have tried everything else. So the U.S. might have to go to the brink before practical action is taken. That may come in the form of tax and healthcare reform, budget process reform and national security solutions that involve trade-offs.
2) While I agree that IORB and fiscal liquidity leave bank flushed with cash and ample room to make loans, that addresses only the supply side of the equation. Pre-COVID, banks were similarly in prime position to make loans but tepid demand for loans translated to a disappointing decade of economic growth. Though it's true that most large firms had termed out their loans at low rates post-COVID, small and medium firms seem to be feeling the negative effects of rising cost of funds disproportionately. The SLOOS also indicates a continued decline in the net percentage of firms reporting stronger demand for C&I loans. That said, there has also been an uptick for the consumer loans category. So I'm less sure about the growth path going forward.
3) While things appear relatively rosy at the moment, I'm concerned the major components of U.S. household net worth such as home equity and retirement accounts could come under pressure if the labor market weakens much more in 2024. Job losses may led to forced selling of homes previously tied to low mortgage rates and create cascading effects on economic growth, especially the cyclical areas. That's all very hypothetical and certainly not what I'm projecting. Just thinking out loud about the stability of the collateral backing the household net worth figure. Cheers!
Agree with a lot of these devil’s advocate points. On top of a reflexivity around the public debt, there’s the practical matter of who actually buys that debt to keep the fiscal dominance party going... and the knock-on effects that has. Gold may be holding in for the same reason people are still long longer-dated treasuries, but it could also be a persistent bid from countries choosing to diversify reserves. So if they largely drop away as a large force taking down our debt, who will? Banks by mandate? Fed via QE? Both have drastic and different implications...
Another thought: if we are in a situation where we have a bifurcated economy of large companies benefiting from higher rates and smaller ones hurt, the rich benefiting because they own assets while the less well off don’t, we may be living in a house of cards. All that interest income going to the tiers of the economy that have the lowest marginal propensity to spend, may give a false sense of health when looking at the aggregate. All the linkages in the economy, if the bottom falls out, we may suddenly find ourselves in a very different place than we had just been in.
Great piece! Certainly not mainstream. It seems that liquidity is driving these markets, and as you point out monetary policy is actually increasing liquidity. While I'm in the higher inflation camp, it seems that for the next year or so (until the election) nothing will change much!
What a great piece of independent analysis! And you present it quite thoughtfully with the appropriate caveats and counter arguments. Thanks very much for sharing this.
Thanks. I am new here. Your writing seems very simple and effective.
I have question.
Are you 100% sure banks can treat the reserves and the income on the reserves as assets upon which they can lever?
I am yet to read George Robertson's text.
Most of the people I follow are saying roughly speaking: reserves are money not used in the real economy, they are interbank money used for settlement and sit dormant. Not sure about the income on the reserves though?
It seems to me that with $307 trillion of global debt sloshing around, the political forces lined up against increasing real interest rates are irresistible, whatever central bankers pretend.
In 3.1 you say "Fiscal deficit spending, which creates new private sector deposits". Now I can easily understand that under QE, but with QT doesn't the private sector have to fund those deficits? Doesn't that mean no new net private sector deposits?
Another great piece, Florian! I've been an avid follower of your content and admire your process and framework. I largely agree with your thesis and it's associated knock-on effects.
A couple of thoughts, perhaps just to play devil's advocate:
1) For all her alleged faults, one of America's great strengths IMO remains its largely democratic system and freedom of expression. It wouldn't be too much of a stretch to imagine a reflexive process where a continued rise in treasury yields puts intolerable pressure on the US government, thus putting the U.S. fiscal state front and center of the public eye. Would the rhetoric then shift towards taking steps to put the U.S. on a more sustainable fiscal path? Admittedly, as Churchill once said that the Americans will always do the right thing, only after they have tried everything else. So the U.S. might have to go to the brink before practical action is taken. That may come in the form of tax and healthcare reform, budget process reform and national security solutions that involve trade-offs.
2) While I agree that IORB and fiscal liquidity leave bank flushed with cash and ample room to make loans, that addresses only the supply side of the equation. Pre-COVID, banks were similarly in prime position to make loans but tepid demand for loans translated to a disappointing decade of economic growth. Though it's true that most large firms had termed out their loans at low rates post-COVID, small and medium firms seem to be feeling the negative effects of rising cost of funds disproportionately. The SLOOS also indicates a continued decline in the net percentage of firms reporting stronger demand for C&I loans. That said, there has also been an uptick for the consumer loans category. So I'm less sure about the growth path going forward.
3) While things appear relatively rosy at the moment, I'm concerned the major components of U.S. household net worth such as home equity and retirement accounts could come under pressure if the labor market weakens much more in 2024. Job losses may led to forced selling of homes previously tied to low mortgage rates and create cascading effects on economic growth, especially the cyclical areas. That's all very hypothetical and certainly not what I'm projecting. Just thinking out loud about the stability of the collateral backing the household net worth figure. Cheers!
Hi there, thanks for this very good thoughts. Agree the political mood vs spending good change quicker than thought. Great Churchill quote :)
Agree with a lot of these devil’s advocate points. On top of a reflexivity around the public debt, there’s the practical matter of who actually buys that debt to keep the fiscal dominance party going... and the knock-on effects that has. Gold may be holding in for the same reason people are still long longer-dated treasuries, but it could also be a persistent bid from countries choosing to diversify reserves. So if they largely drop away as a large force taking down our debt, who will? Banks by mandate? Fed via QE? Both have drastic and different implications...
Another thought: if we are in a situation where we have a bifurcated economy of large companies benefiting from higher rates and smaller ones hurt, the rich benefiting because they own assets while the less well off don’t, we may be living in a house of cards. All that interest income going to the tiers of the economy that have the lowest marginal propensity to spend, may give a false sense of health when looking at the aggregate. All the linkages in the economy, if the bottom falls out, we may suddenly find ourselves in a very different place than we had just been in.
You're certainly an independent thinker. We live in interesting times!
Thank you :)
Really insightful read, thank you, glad I found it.
Thank you so much :)
Great piece! Certainly not mainstream. It seems that liquidity is driving these markets, and as you point out monetary policy is actually increasing liquidity. While I'm in the higher inflation camp, it seems that for the next year or so (until the election) nothing will change much!
Thank you.
Thanks Phil, much appreciated!
What a great piece of independent analysis! And you present it quite thoughtfully with the appropriate caveats and counter arguments. Thanks very much for sharing this.
Thank you so much!
Hi Florian.
Thanks. I am new here. Your writing seems very simple and effective.
I have question.
Are you 100% sure banks can treat the reserves and the income on the reserves as assets upon which they can lever?
I am yet to read George Robertson's text.
Most of the people I follow are saying roughly speaking: reserves are money not used in the real economy, they are interbank money used for settlement and sit dormant. Not sure about the income on the reserves though?
If you could please clarify.
Thanks.
It seems to me that with $307 trillion of global debt sloshing around, the political forces lined up against increasing real interest rates are irresistible, whatever central bankers pretend.
Another great piece!
In 3.1 you say "Fiscal deficit spending, which creates new private sector deposits". Now I can easily understand that under QE, but with QT doesn't the private sector have to fund those deficits? Doesn't that mean no new net private sector deposits?
The New Deal fixed the Great Depression....? Not a chance in hell, more like extended it for another decade. You lost me there sadly..