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  • JIM RICKARDS: I'm Jim Rickards, writer, author of number of books, all on the international

  • monetary system.

  • Currency Wars, The Death of Money, The Road to Ruin.

  • I have a new book coming out and of October called Aftermath.

  • And these four books together are what I call the International Monetary quartet, or almost

  • the four horsemen of the monetary apocalypse.

  • My view is that the world has been in a depression since 2007, and will remain so for an indefinite

  • period of time.

  • And when you say that people are, wait a second, we know the definition of a recession.

  • The technical definition of a recession is two consecutive quarters of declining GDP,

  • rising unemployment.

  • There's a few other bells and whistles, there's a little bit of subjectivity to it.

  • The National Bureau of Economic Research are the unofficial but widely followed referees

  • on when you're in a recession and when you're not.

  • Well, we're in the ninth year of an expansion.

  • The expansion started in June 2009.

  • Here we are in the summer, 2018, nine years behind us, in our 10th year.

  • So wait a second, how can we be in a depression if we're in the 10th year of an expansion?

  • And the answer is, that people don't really understand the definition of a depression.

  • They assume intuitively, well, if a recession is two quarters of declining GDP, and a depression

  • sounds worse, it must be quarters of declining GDP.

  • Well, we haven't had that.

  • As I say, we're in the 10th year of an expansion.

  • But that's not the definition of a depression.

  • The definition of a depression is a sustained period a below trend growth with no particular

  • tendency to collapse or getting back to trend.

  • In other words, if trend growth-- I'll use the United States, but you can apply this

  • more broadly to the world-- if trend growth is three 3%, 3.5%, and that's probably the

  • long term potential of the United States, higher nominal growth with inflation, but

  • we're talking about real growth-- if trend is three 3%, 3.5%, and you're running at 2%,

  • that gap between say 3.5% and 2%, that's depressed growth.

  • So yes, you have growth, you're not in a technical recession.

  • But you're in a depression because you're not getting back to that trend.

  • And people say, well, 2%, 3%, 1 percentage point, who cares?

  • No, that gap is huge.

  • And because of the compounding effect, think of it as a wedge.

  • There's the trend line.

  • Here's the actual line.

  • That wedge gets bigger.

  • So we're 10 years out.

  • We've left $5 trillion of potential growth on the table.

  • That's the output gap or the growth gap, the difference between depressed growth and trend

  • growth.

  • That's how much wealth has been lost because of this depressed growth.

  • By the way, that definition I gave, a sustained period of below trend growth, that's not my

  • definition.

  • John Maynard Keynes came up with a definition in the 1930s.

  • It was good enough for him, it's good enough for me.

  • I think it's accurate.

  • But being objective using the numbers I mentioned, we're in a depression, we're going to stay

  • that way.

  • The United States is Japan.

  • You know, Japan had the famous lost decade.

  • Well, the lost decade was 20 years ago.

  • Started in 1990 through 2000.

  • Japan is now almost at the end of their third lost decade.

  • The United States has had a lost decade from 2007 to now 2018.

  • If something doesn't change either in terms of policy or a collapse, something gets worse,

  • but absent that, we're going to remain in this kind of pumped 2% growth as far as the

  • eye can see.

  • People say, well, second quarter GDP, Atlanta Fed predicts 4.5%.

  • Yeah, but we've had 4% and 5% quarters in the last nine years.

  • They don't last.

  • You get these spikes.

  • You get it real good you know 4% print, and then the next quarter's 2%, and the one after

  • that is 0.5% or maybe even negative quarter.

  • So a year and a half into the Trump administration, he's producing the same kind of growth as

  • Obama, and I don't think it's policy driven.

  • I'm not saying one guy is a good guy, one guy's a bad guy.

  • What I'm saying is that the headwinds, demographic, technological, productivity, psychological,

  • et cetera, haven't changed, and there's no reason to expect they'll change.

  • So combine this world depression, because what I just described is true of Japan, it's

  • true in Europe- - not so true in China, but China is a special case.

  • They cook the books.

  • Maybe we can talk about that.

  • Their 7%, 8% growth that they've been printing, cut that in half, because 45% of that growth

  • is infrastructure, most of which is wasted.

  • So if you apply generally accepted accounting principles, made them write off all that wasted

  • investment, they'd be a lot lower than it appears.

  • But the whole world is caught in this trap.

  • Meanwhile, debt is going up faster than the growth.

  • Is debt good or bad?

  • Well, it depends debt can be good, if you can afford it, if you can pay it off, and

  • you can use for productive purposes.

  • It's bad if you can't afford it, it's not sustainable, you're using it as a substitute

  • for real growth, and it's all going to crash and burn.

  • So you can't understand debt in isolation.

  • You have to understand debt relative to income.

  • And that debt to GDP ratio, which is something I spent a lot of time looking at, the GDP

  • is kind of chugging along, not going up very much.

  • But the debt is going like this, the debt to GDP ratio is getting worse.

  • It looks like we're heading for a global debt crisis.

  • Not quite there yet, but it could happen sooner than later.

  • Very little doubt that Fed is going to tighten in September.

  • The baseline scenario for the Fed is straightforward.

  • They're going to tighten four times a year, every March, June, September, and December,

  • 25 basis points each time, until they get interest rates up to you know 3.75%, 3.5%,

  • somewhere in that range.

  • Unless one of three pause factors applies.

  • The pause factors are disorderly decline in the stock markets.

  • Employment starts to go down, they basically lose jobs, unemployment's going up.

  • The third one, disinflation or deflation spins out of control.

  • Meaning core PCE goes down to 1.4%.

  • Right now, it's at 2%.

  • Right now, none of those three pause factors applies.

  • The stock markets, they're going sideways, but they're not crashing.

  • The Fed doesn't care if the stock market goes down 15% in six months.

  • They do care if it goes down 15% in six days.

  • That's disorderly and that's the kind of thing where you would see the Fed pause, but that's

  • not happening right now.

  • Job growth is strong.

  • Inflation is ticking up.

  • I don't think it will spin out of control, but we're out of that disinflation danger

  • zone.

  • So none of the three pause factors applies.

  • Therefore, you should expect the Fed to just keep raising.

  • So my forecast for September would be yes, and then at this point, December, more likely

  • than not.

  • But there's no doubt that Fed is over tightening because in addition to trying to get interest

  • rates back to normal, they're also reducing the balance, they're trying to normalize the

  • balance sheet.

  • But now the Fed has a dilemma, which is, what are they going to do if the US economy goes

  • into a recession.

  • As I said, we're in the 10th year of an expansion.

  • The old cliche, expansions don't die of old age is true, but they do die.

  • And history shows that it takes about four percentage points of cuts, 400 basis points,

  • in other words, to put the Fed to get the economy out of a recession.

  • Well, how do you cut interest rates 4% if you're only at 2%?

  • The answer is, you can't.

  • You cut them to zero, and then you're stuck.

  • You're at that zero bound and the evidence is good that negative rates don't work.

  • So then what do you do?

  • Well, then you go to QE 4, we're going to print some money again.

  • But there, if you had the balance sheet at $4.5 trillion, how high can you go before

  • you destroy confidence?

  • $5 trillion, $6 trillion, $7 trillion?

  • Well, the modern monetary theorists would say, yes, I disagree, and I think the Fed

  • disagrees, as shown by their own actions in trying to reduce the balance sheet.

  • So what the Fed is doing.

  • They're trying to raise rates to 3% or 4%.

  • They're trying to get the balance sheet down to maybe $2 trillion, a little bit less so

  • that when the recession hits, they can run the playbook again.

  • They can cut rates, and if necessary, do QE.

  • But here's the dilemma.

  • Can you normalize interest rates and normalize the balance sheet without causing the recession

  • that you're preparing to cure?

  • That's the conundrum.

  • I think the answer is, no.

  • I think that actually in trying to tighten to get ready for the next recession, they're

  • probably going to cause the recession.

  • There's no data, no time series that tells you how this is going to play out.

  • Except during QE, what did we see?

  • We did not see a lot of inflation, but we saw asset prices blow up, stocks, real estate.

  • Other asset categories.

  • They all went up a lot.

  • So it seems at least the kind of first order intuitive that if you print money, asset prices

  • go up.

  • If you destroy money, asset prices are going to go down.

  • So what the Fed is doing, they're destroying money, reducing the money supply.

  • So they're really double tightening.

  • In addition to the four rate hikes a year, this reduction in the balance sheet is probably

  • equivalent-- this is an estimate-- probably equivalent to four more rate hikes per year.

  • So they're actually tightening on a tempo of about 2%.

  • Probably going to throw the economy into a recession.

  • The Fed has never forecast a recession.