Central banks are spawning a “cannibal economy” by keeping interest rates so low that companies and governments are led to devour current wealth instead of investing for future growth, said investment strategist Michael E. Lewitt.
“Having mortgaged our future and limited our ability to engage in productive economic activity, public and private economic actors are now consuming themselves,” Lewitt said in the April 1 edition of his newsletter The Credit Strategist. “Any society that eats its own is doomed to perish.”
He points to corporations that are taking on record levels of debt at low interest rates to buy back their stocks from investors at higher prices. Companies in the S&P 500 stock index repurchased $550 billion of equity last year, according to S&P Dow Jones Indices. Investors in mutual funds and exchange-traded funds only bought $85 billion of stock last year.
“In many cases, such as IBM and Herbalife, they borrowed a great deal of money at low Fed-subsidized rates to eat their own,” Lewitt said.
IBM’s debt has grown to $40 billion as the technology company cut its
outstanding shares to fewer than 1 billion from more than 2.35 billion in 1995. Herbalife’s
long-term debt more than doubled to $1.7 billion in the past year as stock buybacks reached $1.3 billion.
Meanwhile, central banks throughout the world have bought trillions of dollars in government debt to push down interest rates and encourage more borrowing to finance economic growth. The Bank of Japan has gone a step further in
buying stocks and exchange-traded funds to prop up asset prices.
“Governments are also devouring themselves,” Lewitt said. “I am unaware of any race of cannibals that has thrived in the history of mankind. Eventually they run out of victims.”
The way out of the global debt trap will be through inflation, currency devaluation or debt default, all of which would be very unpopular, he said.
“Central banks are left offering huge doses of debt since equity can’t be conjured out of thin air,” Lewitt said. “But all of this debt is just exacerbating the solvency problem and failing to solve the liquidity problem, pushing global markets closer to the brink.”
Ben S. Bernanke, the former chairman of the Federal Reserve who now works at the Brookings Institution, last week defended the central bank’s interest rate policies
in a blog.
Under his stewardship,
rates were cut to nearly zero percent in response to a financial crisis triggered by the collapse of investment bank Lehman Brothers Holdings Inc.
"The state of the economy, not the Fed, ultimately determines the real rate of return attainable by savers and investors," he said. "The Fed influences market rates but not in an unconstrained way. If it seeks a healthy economy, then it must try to push market rates toward levels consistent with the underlying equilibrium rate."
Meager economic growth of about 2 percent since the recession ended in 2009 justified the low rates, he said.
"The state of the economy, not the Fed, is the ultimate determinant of the sustainable level of real returns," Bernanke points out. "This helps explain why real interest rates are low throughout the industrialized world, not just in the United States."
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