RMR: Special Guest - Charles Hugh Smith - Of Two Minds (05/22/2018)

America 2018: Dicier by the Day
May 25, 2018

 

Scrape all this putrid excrescence off and we're left with a non-fantasy reality: everything is getting dicier by the day.

If we look beneath the cheery chatter of the financial media and the tiresomely repetitive Russian collusion narrative(that's unraveling as the Ministry of Propaganda's machinations are exposed), we find that America in 2018 is dicier by the day.

The more you know about the actual functioning of critical subsystems, the keener your awareness of the system's fragility, reliance on artifice and an unceasing flow of "free money." Keynesian economics boils down to a very simple premise: a slowing or stagnant economy can be goosed by distributing plenty of "free money" which can be freely blown on either speculation or goods and services.

The "free money" (either created out of thin air or borrowed into existence at rates of interest so low that they're less than zero when adjusted for inflation) dumped into speculation gooses assets higher, generating the "wealth effect" beloved by Keynesians, and the "free money" dumped into goods and services gooses consumption, tax revenues, hiring and so on.

The catch is "free money" is never actually free. Creating trillions out of thin air reduces the purchasing power of all existing currency, and pretty soon you're following Venezuela into "our money has lost all its value" territory.

Borrow trillions into existence and at some point even ludicrously low rates of interest start piling up serious sums of interest due, and the system eventually collapses under the weight of defaults and interest payments that stripmine the economy's productive capacity.

Every subsystem in America has compensated for structural stagnation and increasing friction by reducing redundancy and buffers. Have you noticed how many airline flights are now delayed by mechanical issues? Nobody keeps spare parts in stock, and servicing is now concentrated in a handful of hubs; there's no spare aircraft or flight crews available. All the buffers and redundancy have been stripped out to lower costs and maintain profits, lest the management team be fired for missing a quarterly earning target.

If you think America's healthcare system is functioning wonderfully, you need to hear some unvarnished, frank reports from nurses and doctors who are speaking off the record. Healthcare is increasingly fragile as physicians and nurses bail out by retiring early. A destructive feedback is taking hold in rural America and other under-served "markets": chronic shortages of physicians and nurses overload the overworked frontline care providers, burning them out as the workloads becomes impossible to manage without leaving widening cracks in care and infrastructure.

As for education: virtually every school district is screaming for more money while its budget is increasingly devoted to soaring pension contributions.The same can be said for many public agencies and institutions. The unwelcome reality is there isn't enough money in the Universe to fund all the pension obligations and increase funding to meet the demands for more of everything-- unless you just create vast sums out of thin air, in which case you follow Venezuela down the monetary black hole to the point that 1 million units of central bank/government-issued "money" equals one loaf of bread.

Public services are stripmined to meet pension obligations, and this zero-sum reality will only become more apparent as the excesses of speculation, debt, malinvestment and asset bubbles decay into the inevitable business-cycle recession--a recession that will be made worse by the issuance of more "free money," as the increasing reliance on the marginal speculator and borrower will hasten the avalanche of defaults and malinvestments that will bring down the entire house of cards.

As the tent cities of the homeless proliferate, cities and counties are finding their revenues are devoted to pension obligations, leaving less and less to education, filling potholes, addressing the homeless crisis, the opioid crisis, etc. When the "everything bubble" pops and assets crater, the impossibility of fulfilling promises made in "good times" will be apparent to all but those demanding "their fair share."

About that "cheap abundant energy" provided by fracking: it's only cheap if we overlook the $250 billion in losses racked up by the sector, and it's only abundant if we ignore the rapid depletion of the majority of wells.

We're supposed to take Facebook's ease in brushing off its blatant exploitation of users' data as proof all is well in social-media-land, but the reality is sobering: America's devotion to Facebook is evidence of the populace's desperate yearning for a connection, any connection, no matter how thin or artificial, to a sense of community in a society stripped of authentic community by the dominance of maximizing profit (Facebook, Amazon and Google's raison d'etre) and centralized power.

This chart of total debt reveals the system's profound fragility--a fragility the Powers That Be are trying to mask with a tsunami of artifice: the system is now so dependent on the heroin hit of "free money" that even the slightest pause in credit growth will collapse the entire global financial system. This is why central banks have created trillions out of thin air--TINA: there is no alternative.

Between the ceaseless Ministry of Propaganda hysteria, the childish fantasy of super-hero films (we're gonna be saved by somebody, no effort on our own behalf required) and the disgorging of zero-credibility economic statistics, the distractions are 24/7. But scrape all this putrid excrescence off and we're left with a non-fantasy reality: everything is getting dicier by the day. 

The Next Recession Will Be Devastatingly Non-Linear
May 23, 2018

The acceleration of non-linear consequences will surprise the brainwashed, loving-their-servitude mainstream media.

Linear correlations are intuitive: if GDP declines 2% in the next recession, and employment declines 2%, we get it: the scale and size of the decline aligns. In a linear correlation, we'd expect sales to drop by about 2%, businesses closing their doors to increase by about 2%, profits to notch down by about 2%, lending contracts by around 2% and so on.

But the effects of the next recession won't be linear--they will be non-linear, and far more devastating than whatever modest GDP decline is registered. To paraphrase William Gibson's insightful observation that "The future is already here — it's just not very evenly distributed"the recession is already here, it's just not evenly distributed-- and its effects will be enormously asymmetric.

Non-linear effects can be extremely asymmetric. Thus an apparently mild decline of 2% in GDP might trigger a 50% rise in the number of small businesses closing, a 50% collapse in new mortgages issued and a 10% increase in unemployment.

Richard Bonugli of Financial Repression Authority alerted me to the non-linear dynamic of the coming slowdown. I recently recorded a podcast with Richard on one sector that will cascade in a series of non-linear avalanches once the current asset bubbles pop and the current central-bank-created "recovery" falters under its staggering weight of debt, malinvestment and speculative excess.

The Intensifying Pension Crisis (37-minute podcast)

The core dynamic of the next recession is the unwind of all the extremes:extremes in debt expansion, in leverage, in the explosion of debt taken on by marginal borrowers, in malinvestment, in debt-fueled speculation, in emerging market debt denominated in US dollars, in financial repression, in political corruption--the list of extremes that have stretched the system to the breaking point is almost endless.

Public-sector pensions are just the tip of the iceberg. What happens when the gains in equities and bonds that have nurtured the illusion that public-sector pension funds are solvent and can be funded by further tax increases reverse into losses?

Pushing taxes high enough to fund soaring public pension obligations will spark taxpayer revolts as the tax increases will be monumental once the delusion of solvency is stripped away in the upcoming recession.

The entire status quo rests on the marginal borrower/buyer. All the demand for pretty much anything has been brought forward by the central banks' repression of interest rates and the relentless goosing of liquidity: anyone who can fog a mirror can buy a vehicle on credit, get a mortgage guaranteed by a federal agency, or pile up credit card and student loan debts.

Those with stock portfolios can gamble with margin debt; those with access to central bank credit can borrow billions to fund stock buy-backs or the purchase of competitors, the better to establish a cartel or quasi-monopoly.

What's not visible in all the cheery statistics is how many enterprises and households are barely keeping their heads above water as inflation shreds the purchasing power of their net incomes. Inflation is supposedly tame, but once again, following Gibson's aphorism, inflation is already here, it's just not evenly distributed.

While employees with employer-paid health insurance are dumbstruck by $50 or $100 increases in their monthly co-pays, those of us who are paying the unsubsidized "real cost of health insurance" are being crushed by increases in the hundreds of dollars per month.

The number of cafes, restaurants and other small businesses with high fixed costs that will close as soon as sales falter is monumental. Add up soaring healthcare premiums, increases in minimum wages, higher taxes and junk fees and rising rents, and you have a steadily expanding burden that is absolutely toxic to small businesses.

The first things to go are marginal employees, overtime, bonuses, benefits, etc.--whatever can be jettisoned in a last-ditch effort to save the company from insolvency. The first bills cash-strapped households will stop paying are credit cards, auto loans and student loans; defaults won't notch higher by 2%; they're going to explode higher by 20% and accelerate from there.

Here are a few charts that reveal the extremes that have been reached to maintain the illusion of "recovery" and normalcy: total credit has exploded higher, after a slight decline very nearly brought down the global financial system in 2008-09:

The massive expansion of assets purchased by central banks will eventually be slowed or even unwound, removing the rocket fuel that's pushed stocks and bonds to the moon:

As governments/central banks borrow/print "money" in increasingly fantastic quantities to keep the illusion of "recovery" alive, the currencies being debauched lose purchasing power. Venezuela is not an outlier; it is the first of many canaries that will be keeling over in the coal mine.

Wide swaths of the economy won't even notice the recession devastating the rest of the economy, at least at first. Public employees will be immune until their city, county, state or agency runs out of money and can no longer fund its obligations; shareholders of Facebook et al. who cashed out at the top will be doing just fine, booking their $18,000 a night island get-aways, and those few willing to bet on declines in the "everything bubbles" of real estate, stocks and bonds will eventually do well, though the Powers That Be will engineer massive short-covering rallies in a last-ditch effort to mask the systemic rot.

The acceleration of non-linear consequences will surprise the brainwashed, loving-their-servitude mainstream media. The number of small businesses that suddenly close will surprise them; the number of homeowners jingle-mailing their "ownership" (i.e. obligation to pay soaring property taxes) to lenders will surprise them; the number of employees being laid off will surprise them, and the collapse of new credit being issued will surprise them.

Don't be surprised; be prepared. 

Our Economy Is Failing Our Society
May 21, 2018

If we want to extend the opportunities for positive social roles to everyone, we have to change the way money is created and distributed in our economy.

One of the most unrecognized dynamics of our era is the structural dependence of our society on our economy. One set of pundits, politicos and academics wring their hands over the fragmenting of civil society (the rise of disintegrative, divisive forces and the decay of integrative forces) and decry the rising inequality that is our economy's dominant feature, while another set of pundits and academics celebrate the economy's remarkable adaptability or focus solely on reading financial tea leaves (interest rates, Fed policy tweaks, unemployment rates, etc.)

Those few analysts who escape their respective silos/academic ghettos rarely get past generalities such as the erosion of social mobility, a dynamic that is clearly economic and social. But the precise mechanisms behind the secular erosion of social mobility are lost in platitudes about how A.I. and robots will free us all to be poets or consumers of a vast and endlessly enjoyable leisure.

The key understanding that's lacking is that economic structures organize and limit the social structures underpinning civil society. To understand why civil society is disintegrating on so many fronts (public health, civil discourse, etc.), we must understand how our economy has failed to support the social structures required for an integrative, inclusive civil society.

Our economy is transforming/adapting as a result of powerful secular trends:the 4th Industrial Revolution (a.k.a. the digital-networked-AI-Big-Data revolution), globalization, the commoditization of ordinary capital and labor, the financial and political dominance of quasi-monopolies and cartels, and perhaps the most unrecognized dynamic, the devaluation of ordinary capital and labor in favor of scarce and often rarefied forms of capital and labor in the fields of technology, entrepreneurship and finance.

Collectively, these profound structural changes have created a winner take most economy that favors the politically connected, the privileged (i.e. those who are already wealthy, powerful or holding privileged positions) and those few who have mastered scarce skills in financialization, technology and entrepreneurship.

Everyone below this class has seen their income stagnate or decline, and their household wealth erode unless they happened to own homes in skyrocketing markets or happened to have stock options or some other substantial (and relatively rare) ownership of income-producing assets such as a profitable family business.

My analysis of IRS income found that at most a few million households out of America's 130 million households have productive assets (i.e. assets that generate net income) that aren't tied to asset-bubbles in real estate and stocks. Once those bubbles pop (and all asset bubbles eventually pop), then the millions of households who reckoned their bubble-era wealth was a permanent feature of their lives will discover that bubble-era "wealth" is temporary, a phantom sort of wealth that vanishes as quickly as it arose.

The top tier of our economy lives in a different society than the bottom 90%.Some of the socio-political manifestations of this reality are discussed in a lengthyAtlantic essay: The 9.9% Is the New American Aristocracy.

If we read between the lines, we discern the differences in the economic classes are not just differences in higher education credentials or skills--the fantasy that all we need to solve these structural asymmetries is "more job training"--but differences in values, social networks, family structures and perhaps most invisibly to critics left and right alike, in the positive social roles available to their children.

The foundation of any economy is its money, and this is why I keep saying: if you don't change the way money is created and distributed, you change nothing. Yes, we can tweak various financial parameters and delude ourselves into believing that yet another raft of laws and regulations will actually reverse the erosion of civil society or reverse the rapidly widening gulf between the top 5% and the bottom 95%, but delusions aren't reality.

If we want to extend the opportunities for positive social roles to everyone, we have to change the way money is created and distributed in our economy.That will require a transformation not just in whiz-bang technology but in the foundations of our entire economy.

My new book Money and Work Unchained is $9.95 for the Kindle ebook and $20 for the print edition.

Read the first section for free in PDF format. 

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