By Thom Lachenmann with Scott Tzu
Janet Yellen's call to not roll back banking regulation last week had an air of desperation and fear to it, we believe.
Janet Yellen and Mario Draghi are both turning their heads and running scared from their biggest problem, which is the Keynesian mess they have created and propped up their respective "economies" with. This past week's commentary at Jackson Hole regarding why we should not be rolling back regulation is proof that Yellen and Draghi are both on their back feet and that Yellen may actually even be acknowledging that she knows we could eventually be in a relatively serious predicament.
The topic of choice over the past week at Jackson Hole was these two central bank titans urging their respective administrations not to roll back banking regulation. Bloomberg reported,
The world’s two most powerful central bankers on Friday delivered back-to-back warnings against dismantling tough post-crisis financial rules that the Trump administration blames for stifling U.S. growth.
European Central Bank President Mario Draghi, speaking at the Federal Reserve’s annual retreat in Jackson Hole, Wyoming, said it was a particularly dangerous time to loosen regulation given that central banks are still supporting their economies with accommodative monetary policies.
It is a relatively empty and meaningless gesture on the part of Janet Yellen, but it helps solidify our argument that Yellen knows that the Federal Reserve can't unwind all of the stimulus it has put forth over the past decade or two in any sort of fashion that will not be completely catastrophic. We have argued for the past couple of years that quantitative easing is going to have to continue if the Federal Reserve does not want an even bigger bubble to burst, but that eventually, we are not going to have a choice. So why would Yellen focus on making sure banking regulations are not rolled back?
One of the main reasons is that a rollback in regulation in the banking sector encourages speculation and speeds up the process with which our new-found bubble may find itself bursting. We know that it was lack of regulation in 2008 that catalyzed the housing crisis, all the while being backed by accommodating monetary policy that made it easy to inflate asset prices, speculate across asset classes, and offer access to cheap debt.
Now, from a countrywide balance sheet perspective, we are in similar territory.
US households have taken on more debt than prior to the financial crisis. We have inflated large bubbles in student loans, consumer credit, and in subprime automobile loans. The stock market is raging to record highs and is significantly overvalued and all the while, the Federal Reserve has done the absolute bare minimum that it can do with regard to raising interest rates. We actually believe the only reason it has raised interest rates at all is to couch the psychology of the market - which, after eight or nine years, really started to expect interest rate hikes. Unfortunately, the Fed has led us down in ugly path again while, instead of being clinical and objective with its monetary policy, it has let itself become beholden to the equity markets.
Now that the bubble has expanded in size, a rollback of regulation in any industry, let alone banking, could significantly speed up the process with which we begin to see these bubbles burst. Nobody wants that to happen under their watch, and that especially goes for Janet Yellen, who has presided over a relatively event-free and dovish term as Fed chair.
Our current administration's presumption that regulating the banks is an issue that is stifling economic growth is both right and wrong. It's right in the sense that banks would likely do more business with less regulation, but it is wrong in the sense that all of our "economic growth" over the last eight years has been a direct result of Fed policy and spending, instead of actual meaningful productivity and true prosperity.
The truth is that we are not especially pro regulation across any sector, as we are generally free market thinkers who believe industries would eventually regulate themselves to entice conscientious consumers. With that said, we believe that the current banking regulations in place are the absolute least that we can do to try and ensure a false sense of stability in this system that has grown so large that we will have no choice but to bail it out yet again when the next crisis takes place.
We would argue that Janet Yellen understands these mechanics and that these macroeconomic mechanics have perhaps helped prompt her to urge continued regulation in the banking sector.
If we were Janet Yellen, we would be thinking about our exit strategy from the Federal Reserve. No, we are not referring to our exit strategy from quantitative easing; we are referring to our actual exit strategy from the position of Fed chair. Time is starting to be of the essence and there are very few roads that our economy, coupled with central bank policy, can go down without leading to an uncomfortable and precarious situation one way or another. Markets have performed blindingly well over the last 9 or 10 years but under current central bank policy, there will always be a time to pay the piper. We believe that time is getting closer.
Our investment strategies for this type of situation include making sure we have a well-balanced long/short equity book, investing in international equities, investing in foreign currencies and investing in precious metals. These are the asset classes that we believe will enter lengthy bull markets as it becomes clear that not only can the Fed not unwind the stimulus it has done over the last couple decades, but that we are just further losing our grip on the economy and monetary policy as a whole.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.