Beware of unintended consequences!
I wish the Federal Reserve chairmen had heeded this age-old advice, as they have set course on the utter and complete destruction of the Federal Reserve System around the globe.
Back in 2008 when the Great Depression started, it triggered a serious challenge to the experiment called capitalism. The fundamental principal of capitalism is the balance of risk and reward for the market participants.
When the financial system meltdown occurred in 2008, fear seized the markets and the weak leaders at the Fed caved and rescued the participants. The violation of the core principal of capitalism called quantitative easing (QE) started a death spiral.
The market got massive doses of QE and rapidly got addicted to the concept of cheap money. The misguided opinion that adding unlimited liquidity will resolve the massive credit boom soon led to asset bubbles, such as the stock market now well above the mid-2008 level without the real recovery happening, without real jobs recovering and without fundamentals resetting, which is a necessity for a recession to end.
Every recession ends with an expansion of credit and increase in interest rates. With the unprecedented debt buying the Feds have undertaken, this increase in rates will crush the Fed before too long. So the Fed now has to print more money and continue to suppress interest rates even more, which in turn will delay the real growth from taking root.
Back in 2008, the goal of QE was to add liquidity to the market so that businesses starved of cash would get the access they desperately needed. Instead the banks hoarded the cash rather than circulate it. So QE could not work freely in the United States.
Instead the cash went to markets in Asia. We saw a great boom in Asian assets and stock markets. We managed to get the Asian economies addicted to cheap cash as well. Given that India and China usually grow at 7 to 9 percent each year, inflation took root at the deepest levels in those places. This has led to major economic upheavals there.
In 2014, we have elections in India, South Africa, Brazil, Russia, Colombia, Turkey and many more emerging markets. China orchestrated it leadership change last year, so that does not count in this list. In most of these countries there is an anti-incumbency wave due to soaring inflation. These hapless countries had no defense to the tidal wave of free cash and now are paying the price for it.
Parties and leaders who are planning to come to power have dubious records and shady pasts. The emerging leaderships are winning just so that current leaders can be punished. While leadership might change and economic consequences are yet to be assessed, the global balance of power is in upheaval, which is going to leave massive scars and lead to unprecedented crises as these leaders take charge of large swaths of global economies.
This year will be a very tumultuous and uncertain year. The United States might continue to show artificial growth in asset values. Europe might start recovering, but only in pockets.
One easy trade for this year could be the continued rise of the Japanese stock values and the continued decline in the Japanese yen. So I suggest going long Japanese stocks and shorting Japanese bonds. This is based on the biggest pusher of the free liquidity drug called QE by Japanese Prime Minister Shinzo Abe. Only time will tell if this trade works out, but in the long run I am certain it will hurt the Japanese economy more than help.
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