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Bank of Bust

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Brace yourselves - the crash is coming…

The consensus seems to be that in 2020 the world economy will experience a mild recession or escape one completely. Actually, it’s likely something much more sinister is brewing. My firm has been warning of impending collapse since March 2017 and after analysing the underlying weaknesses in the global economy we’ve concluded these negative trends will most likely come to a head in the next twelve months.

The simple truth is the global economy never recovered from the financial crash of 2008. After the collapse of Lehman Brothers that September, the financial crisis threatened to become systemic so global leaders did everything possible to stop the banks from failing: deposits were guaranteed, banks were bailed-out and stupendous sums of money were pumped into the markets. The world banking sector could not be allowed to crash - that’s obvious - but the rescue measures were to great, overwhelming necessary corrections and permitting undead, “zombie” banks to linger on, especially in Europe.

Thanks to the exceptional bailout measures enacted in Japan after the Japanese economy crashed in the early Nineties, we know that if ailing banks are left intact, they continue to finance weak corporations in an effort to avoid further losses, inhibiting new, more competitive enterprises from rising up and creating jobs. When capital remains locked in unproductive uses it leads to prolonged economic stagnation.

Central bankers have made every conceivable effort to keep the asset markets from falling, but now their bag of tricks is empty.

The problem of so-called “zombie banks” has been aggravated by the imposition of extremely low or even negative rates. Easy money keeps both unprofitable firms in operation through cheap financing and crushes the profitability of banks whose main source of income is the difference between “lending long” and “borrowing short.” When interest rates are very low, this “net interest margin” diminishes, and when rates turn negative, inverts entirely. Despite these obvious facts, this has been the policy promulgated by the European Central Bank since June 2014.

Following the crash of 2008, central banks took a more dominant role in the capital markets. They started to buy assets, mostly bonds, in the secondary markets in an effort to push long-term interest rates down and to stimulate investment - a process known as Quantitative Easing. But instead of producing a robust economic recovery, this created an unprecedented global asset market bubble.

In the Eurozone, the liquidity that flowed from QE-programmes pushed sovereign bond rates unnaturally low, while the QE of the Fed led to widespread capital flows across the globe in a desperate search for yield. These QE-programmes essentially destroyed price discovery and, consequently, risk-pricing in the capital markets, irreversibly.

Meanwhile, in China, massive infrastructure investment programs pushed banks to increase lending. This led to a relentless growth in debt, and the decreasing productivity of investment, but it also stimulated the global economy into recovery. Since 2009, China has accounted for over 60 percent of all new money created globally. Chinese leaders tried to stop this “debt-bonanza” in 2014, but their efforts led to a sudden and drastic deterioration in their housing market, which had become the backbone of the Chinese economy. The government took fright and enacted a record-breaking debt stimulus, this time through the “shadow-banking” sector - which tripled in the year 2016.

In late 2017, Chinese authorities started to rein-in this reckless lending, and the global economy started to slow. The U.S. and other world economies got a reprieve as a result of the tax stimulus enacted by President Trump, but this effect was only temporary.

Starting in December 2018 and continuing into early 2019, Chinese authorities and the Fed panicked again. By late 2018, asset markets were in an almost-uncontrollable slide and China’s banking sector was showing worrying signs of stress. The People’s Bank of China started to increase system liquidity aggressively in mid-December 2018 and shortly thereafter the Fed pivoted dramatically from its earlier predictions of sequential rate increases to a much more dovish stance. Markets rebounded.

In September of this year, the ECB launched a new QE-program while China initiated a record-breaking stimulus program to keep its economy from sinking prior to the 70th anniversary of the People’s Republic of China. Even so, the growth rate of China fell to a 27 year low.

True to its pledge, the Fed had already cut interest rates three times, and in early October it started to buy U.S. Treasury bills in a move it described as “not QE”. In practice, it was exactly that. The Fed also supported the repurchase market by several tens of billions of dollars daily.

Central bankers have made every conceivable effort to keep the asset markets from falling, but now their bag of tricks is empty. This means there will be no effective way for central banks to resuscitate a global economy deeply submerged in a profound recession and bear market. There’s no other outcome than a global collapse. All the signs indicate it will start in 2020. Brace for impact.