Nomi Prins: 10 Years Later, A Debt Crisis Is Building Again
Though it seems like only yesterday, it’s been a decade since my former employer, Lehman Brothers, went bankrupt, and in the process, helped instigate a massive global financial crisis.
That collapse catapulted the Federal Reserve on a mission to, in its own narrative, save the economy from further collapse. In fact, its creation of $4.5 trillion to purchase U.S. treasury and mortgage related bonds from the big private banks in exchange for continued liquidity was the biggest subsidy in U.S. history.
In some ways, we seem much better off now. Employment is at record highs in most developed nations outside the Eurozone. Global economic growth has picked up overall and stock markets have recovered.
Indeed, many stock markets around the world have regained or passed their former record highs. Asset prices are booming.
But that only tells half the story.
That’s because the last financial crisis was about debt and debt levels have increased substantially since 2008. The entire “recovery” was built on debt.
From 179% before the financial crisis, the global debt-to-GDP ratio has jumped to 217% today. Companies and governments have piled on more debt than before. Emerging-market debt, led by China, is also at a record. The big banks are even bigger, and remain “too big to fail.”
Eliminating all that debt is the ultimate solution for avoiding another crisis. That’s because if interest rates drift higher, it can lead to problems in debt repayment, followed by defaults, followed by crisis as defaults spread like a contagion. But there’s no magic bullet for doing that.
First, you should know that no two crises are exactly the same. The last one was met with huge debt on the back of the Fed’s quantitative easing policy. Central bank credit, or what I call dark money, tended to go to the wealthy and into financial assets.
“Dark money” comes from central banks. In essence, central banks “print” money or electronically fabricate money by buying bonds or stocks. They use other tools like adjusting interest rate policy and currency agreements with other central banks to pump liquidity into the financial system.
That dark money goes to the biggest private banks and financial institutions first. From there, it spreads out in seemingly infinite directions affecting different financial assets in different ways.
Dark money is the #1 secret life force of today’s rigged financial markets. It drives whole markets up and down. It’s the reason for today’s financial bubbles.
On Wall Street, knowledge of and access to dark money means trillions of dollars per year flowing in and around global stock, bond and derivatives markets.
Now, ten years after the financial crisis, there are major complications building with the deluge of debt created on the back of quantitative easing policy.
When the next shoe drops from our inflated bubble markets, it will be the debt markets that lead the way. Whether the financial bubble begins to pop in emerging markets, over-leveraged corporate sectors or from over-stretched consumers — the reality is that a storm is brewing.
All of this is a recipe for another crisis. Meanwhile, a new article lists ten warning signs of a recession by 2020.
Written by Nouriel Roubini, a professor at NYU’s Stern School of Business and CEO of Roubini Macro Associates and Brunello Rosa, co-founder and CEO at Rosa & Roubini Associates, shows why 2020 could be the year of the next financial crisis.
They range from the economic to the geopolitical triggers. They posit that the “current global expansion will likely continue into next year, given that the U.S. is running large fiscal deficits, China is pursuing loose fiscal and credit policies, and Europe remains on a recovery path.”
After that, however, they believe that conditions will lead to a financial crisis, and then a global recession. The main four reasons are:
By 2020, “a modest fiscal drag will pull growth from 3% to slightly below 2%.”
Trump’s trade wars “will almost certainly escalate, leading to slower growth and higher inflation” around the world.
Growth outside of the U.S. will likely slow down – especially, if more countries retaliate against U.S. protectionism. In addition, China would have to slow its growth to reduce its level of “excessive leverage” in order to avoid “a hard landing.” Plus, emerging markets can get hurt by a double whammy of trade wars and dollar-strengthening.
In the event of a correction, “the risk of illiquidity and fire sales/undershooting will become more severe.” That could result in high-frequency/algorithmic trading that produces “flash crashes” which could hurt exchange-traded and dedicated credit funds.
The main difference between 2008 and now is that central bank sheets are dramatically higher today. They just don’t have the room to accommodate nearly as much easing this time around.
Now, J.P. Morgan Chase, another of my former employers, sees a problem. The next crisis may become so serious a recent JPM report suggests, “that the next financial crash may be so cataclysmic that the Federal Reserve may have to enter the market to buy up stocks…”
So let’s get this straight. JPM has spent tens of billions of dollars over the past several years buying back its own stock to boost the price. Now they want the Fed to directly bail out the stock market — and JP Morgan stock by implication. Call it whatever you want, just don’t call it the free market.
What all of this means that the Fed will either stop its current tightening program, re-invoke QE, or get its central bank allies to do the same when necessary. It means that further rounds of quantitative easing (through various dark money ploys), in addition to all the help they’ve received, will continue. The banks can see no other option.
All of those options could prop up the market through volatile periods ahead and drive the current bull market even further.
In the long run, this is not sustainable. No one can say exactly when the next crisis will arrive, but there are lots of signs it may be getting close.
In the meantime, you can take steps to prepare yourself by taking profits and allocating money into cash or gold if signs of a crisis grow stronger. By staying diversified in your portfolio and watching stories like these you can be well prepared for market turmoil when it arrives.
While we aren’t there yet, I’ll be watching for signs of risks and opportunities along the way.