The Economy

CPI print (measure of inflation) later this morning. The forecast is for 6.8 percent year over year. Last month came in at 6.2 percent. Thing is, those forecasts are useless, because the economists they survey have no ability to forecast this number. So they are never even close. They could miss big to the upside or the downside. But markets are on edge right now. The spike in CPI is what put political pressure on Jay Powell, and why he signalled a faster tapering of their latest quantative easing (bond buying) program that has juiced markets since the pandemic, when he testified before Congress recently. They want to be done with the tapering quicker so they can raise the overnight interest rate to try (emphasis on the try, because they probably will be too scared to do it aggressively enough) to fight inflation if this keeps up. He is getting earfuls from politicians right now about prices strangling people.

This is why all of the bubbled up risk asset markets from speculative NASDAQ stocks to cryptocurrencies have been so volatile and seem to have hit a wall. This time of year there is usually a Santa Claus rally, and it has felt like stocks have wanted to do it, but worries about that rate rise (first the accelerated taper they will probably announce at the Fed meeting next week) is putting a lid on things.

Yesterday, Joe Biden made a crypic comment in the morning. ... boasting about how gas prices are coming down (as if he has anything to do with it), but then warning that you won't see it in the CPI print yet. Markets reacted almost immediately, it was almost like people were wondering what he knows about today's number in advance. So now there is a fear we are going to get a 7 or 8 percent year over year number. But with this number (which is largely bs anyhow), you could just as easily get a massive surprise to the downside (which would defy the prices people are seeing in the supermarket, in their rents). A very big number will put fear into the bubble.

If inflation stays this hot, the pressure the Fed is getting from politicians means their worst nightmare. They have created a mountain of bad debt over a long period of time, and in the process of the fantasy they were living, they created bubbles that are permeating everything. If they finally have to stop spiking the punch bowl, the end of the party is likely to be violent.

We have been down this path a few times since the financial crisis, most recently in 2018 when Powell tried to raise rates. The minute the stock market buckled, he showed the courage of a sloth and reversed course. The difference now is the price inflation. If it keeps up, his back is against a wall. Right now, he is just trying to buy time and hoping prices magically calm down on their own. It's the same old playbook.

 

BTW. ... I saw someone who follows credit yesterday talking about something that isn't on people's radar screens right now.

There is a wall of junk debt that is going to be maturing in 2022. Not just from shaky U.S. corporations that borrowed beyond what they could repay without interest rates pinned so low. There is something like $75 billion in debt in emerging markets that is set to mature. And those emerging markets are VERY sensitive to rates in the U.S. When we pawn off inflation on them, they can't weather it even a little.

If the interest rate environment is rising because the Fed is frantically trying to fight inflation, that will become a problem. Since the financial crisis, interest rates have been so artificially low due to the thumb they put on the debt markets, that it has created a huge junk bond debt bubble. Whenever that junk debt has been about to mature for these borrowers, they have been able to refinance and tap the credit markets for even more debt. Which has kept the debt levels growing. If rates are rising quickly, they likely won't be able to refinance. And if that happens, it will be time to pay the piper with credit defaults.

This is why the Fed now has its back against the wall. We need permanent artificially low interest rates to keep what they created propped up. But the inflationary impact of that is now causing enough discontent that they are damned if they do and damned if they don't.

 

6.8 percent, highest level in 40 years.

Consumer prices rose at the fastest pace since 1982.

 

And yet there was a general sigh of relief in markets that it wasn't worse than that. There was some genuine edge in markets late in the day yesterday, with worry that we might get surprised with a number way more insane than that.

I realize that markets aren't a barometer for anything except speculative behavior right now. But the 30-year bond auction yesterday was pretty bad. The Fed hasn't even taken its foot off the accelerator yet, and is still double-fisted buying with freshly created money at those bond auctions. But just the hint of them not being there anymore at some point soon is creating a small bit of jitteriness. That has a carryover effect in that without the buying, yields get forced up. And with higher yields, all of the speculative things from stock in electric car companies that don't earn anything to cryptocurrency exchanges that lose money can't maintain the insane valuations they have fetched.

This may not end tomorrow, but when it ends a lot of people who got sucked in and are leveraged at levels we have never seen are going to get hurt badly.

But as has been the case for way too long, the Fed's ability to just make up new schemes to monetize debt makes it so that just when you think they can't be even more reckless. ... they just might do it. The difference now. ... that inflation you are referencing. They are under tremendous political pressure because of it and it leaves them between a rock and a hard place. Take their foot off the gas, and look out below. Keep doing what they have done to juice things and inflation may become even more sticky. It should have never gotten to this point, but their hubris has been incredible.

 

We are in an everything bubble. Markets are distorted beyond what most people realize, and it's even more dangerous because there is a class of speculators who don't understand where we would be without the debt monetization. This isn't just what they did over the last 2 years -- blowing the money supply through the roof. It has been built for a period of decades, really, and a lot of the excess came out of the quantitative easing after the financial crisis -- rather than allowing defaults and a reset they propped up a lot of bad debt by creating conditions for exponentially growing debt loads.

Dan Niles was on TV this morning. CNBC has the video, but you need to subscribe to their "pro" service to get it. The run up in stocks over the last decade + has not been supported by anything fundamental OTHER than the Fed making money cheaper and cheaper. It's been all multiple expansion, not earnings growth, driving it. That kind of inflation requires them to keep injecting more and more liquidity in. When they stop. ... it will be game over.

One thing Niles pointed out. ... The total market cap of the stock market divided by GDP is sitting above 2.0 right now. We have never seen anyhting close to that. At the height of the tech bubble that popped in 1999 / 2000, that ratio was 1.4. And when that bubble popped, things came down with a thud.

This is the biggest bubble in history, whether people realize it yet. Markets will push it, as even more savvy people think they will be able to get out in time when it ends.

I know people think valuations are some mystical thing and markets go up randomly, they go down randomly. But in the macro scheme of things, what is going on is not random. The Fed injected a lot of liquidity into the banks. It's free money. That has enabled a crazy amount of financial leverage that dwarfs anything we have ever seen in history. That leverage is being used to gamble on way more things than any bubble in history has spawned. Think about the kind of leverage that brought Lehman Brothers down in 2008. The levels now are much greater. And we don't know the extent of how reckless the behavior has been yet. There is a ton of risk to our financial system because of it. But people will remain in the dark until an accident starts to unwind the craziness.

The only thing that matters is the Fed and the other central banks around the world. It's clear that they will keep debt levels growing with real negative rates forever if they can get away with it. Which is why this has gone on so long. But if they lose control -- or they get forced to step away because they have spurred runaway inflation -- people will start to understand.

 

That has nothing to do with the CPI number, which purports to be a measure of price inflation. That number is a government number and was released at 8:30 am.

The sentiment number is a survey done by the University of Michigan. That number was released at 10 am.

People pay attention to sentiment, particular inflation expectations in this environment, but the CPI number mattered way more because it is what may force the Fed's hand.