<blockquote>
'I will suggest that 2009 marked a historic inflection point in global finance. I have argued that years of policy mismanagement led to the breakdown in the dollar reserve “system” - that for more than 60 years worked (with varying success) in restraining global Credit expansion. This year saw key inflationary/reflationary biases move decidedly from the “Core” (U.S.) to the “Periphery” (notably China, Asia, Brazil, India and the “emerging” markets). Importantly, a discredited dollar and the prospect of ongoing U.S. policy-induced currency devaluation created a backdrop of extraordinary market accommodation for “Periphery” Credit systems.
...
It’s my view that 2009 marked the onset of China’s “terminal phase” of Credit Bubble excess. The China Bubble is enormous and it is historic. It’s poised to make Japan’s late-eighties Bubble era appear rather petite - and to perhaps even rival the scope of the U.S. Credit Bubble. Importantly, “terminal” phases of excess notoriously create acute financial and economic fragilities. They tend to foment perilous asset market distortions; distribute wealth poorly/inequitably; foster systemic malinvestment and structural impairment; and create a financial/economic structure dependent upon unrelenting Credit expansion and speculation. Only determined policymaking – with a willingness to pierce Bubbles and live with the consequences – can stem what evolves into powerful Bubble momentum and an expanding constituency supporting uninterrupted monetary accommodation.
...
...Indeed, 2009 was a historic year of global, government-induced synchronized reflation and speculation in virtually all markets, everywhere. The greater the financial and economic fragilities, the more speculators could bank on an extended period of ultra-loose financial conditions.'</blockquote>
The Year In ReviewBy Doug Noland
December 31, 2009
SourceFor the five quarters ended September 30, 2009, combined growth of federal government (Treasury) borrowings and outstanding GSE-guaranteed mortgage-backed securities (MBS) jumped to an unprecedented $2.810 TN. This massive growth/inflation of “federal” finance was arguably one of history’s great Credit splurges. No discussion of 2009 is near complete without examining the government’s momentous role in stabilizing the U.S. Credit system and economy.
The Treasury was certainly not acting alone. Throughout the year – and despite global market and economic recoveries – the Federal Reserve held short-term interest rates down at near zero. Importantly, Fed holdings of mortgage-backed securities ballooned from nothing to end the year approaching $1.0 TN. This unprecedented monetization reliquefied markets, pushed mortgage borrowing costs to record lows, fueled a refinancing boom, and worked surreptitiously to transform hundreds of billions of problematic “private-label” mortgages into (market-appealing) government-backed securities.
When final year-2009 data is tallied, I would not be surprised to see combined Fannie, Freddie, FHA and Ginnie Mae government mortgage guarantees to have expanded as much as $600-$700bn (in a year of flat to down total mortgage debt growth!). This massive government intervention/nationalization coupled with zero rates stabilized the securitization marketplace and stemmed the decline in national home prices.
The U.S. economy notably lagged in spite of massive fiscal and monetary stimulus. Even with the meaningful boost from “cash for clunkers,” the best our maladjusted economy could muster was a 2.2% third-quarter growth rate (preceded by 4 straight quarters of negative growth). Third quarter nominal GDP was still down 2.1% y-o-y. After beginning the year at 7.2%, unemployment jumped to as high as 10.2% in October (before declining to 10.0% in November).
The year 2008 saw the collapse of the Wall Street/mortgage finance Bubble. Two thousand and nine marked the full-fledged emergence of the Global Government Finance Bubble and attendant Global Reflation. I have expected this reflation to be altogether different from those of the past. The bursting of the Wall Street/mortgage Bubble brought an abrupt end to our housing mania and discredit to U.S. private-sector Credit instruments – in the processes quashing powerful inflationary biases so easily in the past manipulated by our central bank. It is the nature of post-Bubble reflations to neglect the burst Bubble, fueling instead new and increasingly unwieldy ones.
No longer will Fed rate cuts rapidly transmit into huge home equity extraction, a surge in real estate transactions, inflating home prices, surging household net worth and spending, and self-reinforcing Credit expansion. It is worth noting that during the five quarters (ended 9/30) of unprecedented federal borrowings and policy-induced reflation, Household Net Worth actually declined $6.6 TN.
Moreover, the massive expansion of non-productive U.S. Credit further weakened global confidence in the dollar. As we witnessed throughout 2009, the new reflationary backdrop has liquidity inundating non-dollar asset classes, certainly including the emerging markets and commodities. Not surprisingly, foreign central banks began to more aggressively diversify away from U.S. financial assets and into hard assets.
I will suggest that 2009 marked a historic inflection point in global finance. I have argued that years of policy mismanagement led to the breakdown in the dollar reserve “system” - that for more than 60 years worked (with varying success) in restraining global Credit expansion. This year saw key inflationary/reflationary biases move decidedly from the “Core” (U.S.) to the “Periphery” (notably China, Asia, Brazil, India and the “emerging” markets). Importantly, a discredited dollar and the prospect of ongoing U.S. policy-induced currency devaluation created a backdrop of extraordinary market accommodation for “Periphery” Credit systems.
To an extent never before imagined, economies around the globe could partake in aggressive fiscal and monetary stimulus, rapidly expand Credit, reflate markets and economies – and have little worry about currency vulnerability or an outflow of speculative finance (a far cry from the ‘90s). The world had changed, and global asset prices were revalued based on a backdrop of expected ongoing dollar devaluation and newfound resiliencies in Credit system and financial flows to (“undollar”) “Periphery” economies and non-dollar asset classes.
Chinese equities (Shanghai Composite) ended the year with a gain of 80.0%. While impressive, Chinese stocks finished last in the “bric” sweepstakes. Russian (RTS Index) stocks surged 128.6% in 2009, followed by Brazil’s (Bovespa) 82.7% and India’s (Sensex) 81.0% advances. Other notable gains included Taiwan’s 78.3%, Thailand’s 63.3%, South Korea’s 49.7%, Indonesia’s 87.0%, Argentina’s 115.0%, Peru’s 99.0%, Chile’s 50.7%, Mexico’s 45%, Turkey’s 95.9%, Israel’s 88.9%, Ukraine’s 90.1%, Hungary’s 73.4%, and Bulgaria’s 61.7%.
Emerging debt markets enjoyed a huge year. JPMorgan’s Emerging Market Bond Index ended the year with a 28% gain. After trading as high as 750, emerging market debt spreads ended the year at 290 bps - the low since pre-Lehman collapse. Mexico’s dollar bond yields ended the year at 5.16% and Brazil at 5.05%. Brazil, in particular, found itself in the unusual position of being able to enjoy extravagant Credit expansion simultaneously with low interest rates and a robust currency. Credit systems around the globe have been set loose.
But it is China that resides at the very epicenter of global reflationary forces. A $600bn stimulus package and an incredible $1.0 TN first-half expansion of bank lending propelled a remarkable economic turnabout. After slowing modestly to 6.1% annualized in Q1, GDP jumped back to almost 9% by the third quarter. Some are now forecasting a return to double-digit growth in 2010. For the first time, 2009 saw Chinese vehicle sales surpass those of the U.S. Record Credit growth also stoked the reemergence of real estate inflation and rampant asset speculation.
It’s my view that 2009 marked the onset of China’s “terminal phase” of Credit Bubble excess. The China Bubble is enormous and it is historic. It’s poised to make Japan’s late-eighties Bubble era appear rather petite - and to perhaps even rival the scope of the U.S. Credit Bubble. Importantly, “terminal” phases of excess notoriously create acute financial and economic fragilities. They tend to foment perilous asset market distortions; distribute wealth poorly/inequitably; foster systemic malinvestment and structural impairment; and create a financial/economic structure dependent upon unrelenting Credit expansion and speculation. Only determined policymaking – with a willingness to pierce Bubbles and live with the consequences – can stem what evolves into powerful Bubble momentum and an expanding constituency supporting uninterrupted monetary accommodation.
Chinese foreign reserve holdings jumped almost 20% this year to a staggering $2.273 TN. Overall, official foreign reserves inflated almost $900bn during 2009 to a record $7.732 TN (5-year gain of 90%!). The Chinese, in particular, rummaged the world in search of commodities and resource assets. Global reflationary forces certainly fueled a spectacular 2009 for the traded commodities markets. The Goldman Sachs Commodities Index surged 50.3%. Gold jumped 24.2% and silver surged 49.4%. Crude oil jumped about 78% and gasoline surged around 93%. Copper gained 137%. The so-called “commodity currencies” posted big gains this year. The Brazilian real gained 32.7%, the South African rand 28.5%, the Australian dollar 27.6%, the New Zealand dollar 25.1%, the Norwegian krone 20.0%, and the Canadian dollar 15.9%.
Here at home, the Fed’s zero interest-rate policy coerced U.S. savers out of money funds, CDs and Treasuries and stoked a spectacular return to risk markets. Stocks excelled and the riskiest stocks really excelled; junk excelled; collateralized debt obligations excelled; leveraged loans excelled; virtually everything excelled. It was a year of record flows into the emerging markets. It was a record year of junk bond issuance. After trading as high as 1300 bps, junk debt spreads ended the year at a 2009 low of 536 bps. Investment-grade spreads dropped from 290 bps in March to end the year at 123 bps.
A stock market revival emboldened bullish analysis. Many spoke of sound U.S. corporate balance sheets, disregarding the reality that this “strength” is a direct consequence of the massive expansion of household and, more recently, public sector debt. Many optimistically spoke of de-leveraging, while the government borrowing binge pushed total system debt further into uncharted territory. With bank lending stagnant at best, U.S. reflation was fueled by massive issuance of Treasury, corporate and municipal marketable debt securities.
The year saw four million jobs lost. Yet there was little in the way of readjustment to an economy that invests and produces more, consumes less, and operates on a reasonable amount of Credit. Indeed, the shift in (fiscal and monetary) policymaker objectives from system stabilization to one of inciting rapid market and economic recovery created an impediment to fundamental economic restructuring.
This year was pivotal from the perspective of the “Moneyness of Credit.” The year 2008 saw the breakdown of “Moneyness” for Wall Street Credit instruments. No longer did the marketplace trust this Credit as a highly liquid store of nominal value (“money”). This change in fortunes had a profound impact on the capacity of this (“Ponzi finance”) Credit mechanism to expand sufficiently to sustain both inflated asset prices and the underlying U.S. Bubble economy.
This year saw monumental interventions by the Fed and Treasury – essentially a case of Washington moving to back (directly and indirectly) the entire U.S. Credit system. As such, “Moneyness” was restored to U.S. debt instruments specifically on the grounds of a massive and open-ended commitment to federal debt issuance and guarantees; Federal Reserve monetization and market intervention; and a prolonged period of near-zero rates to bolster housing and mortgages, while forcing savers out to the risk assets.
With the U.S. system stabilized, an over-liquefied global financial “system” then rushed feverishly back to asset markets. Synchronized U.S. and global market intervention rejuvenated the hedge funds and, more generally, the “leveraged speculating community.” Indeed, 2009 was a historic year of global, government-induced synchronized reflation and speculation in virtually all markets, everywhere. The greater the financial and economic fragilities, the more speculators could bank on an extended period of ultra-loose financial conditions.