Tuesday, May 22, 2018

The Next Recession Will Be Devastatingly Non-Linear

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.


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Monday, May 21, 2018

Our Economy Is Failing Our Society

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 lengthy Atlantic 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.
These two charts reveal the structure of economic and thus social asymmetry: the top owns capital/productive assets, the bottom own either a bet on an unstable asset bubble (housing or stocks) or no productive assets at all:



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Thursday, May 17, 2018

Sustainability Boils Down to Scale

Only small scale systems can sustainably impose "skin in the game"-- consequences, accountability and oversight.
Several conversations I had at the recent Peak Prosperity conference in Sonoma, CA sparked an insight into why societies and economies thrive or fail: It All Boils Down to Scale. In a conversation with a Peak Prosperity member who goes by MemeMonkey, MemeMonkey pointed out that social / economic organizations that function well at small scales (i.e. localized) fail when scaled up and centralized (i.e. globalized).
I was immediately struck by the impact of scale on markets (Capitalism) and the state (Socialism), an ideological spectrum I've written about recently.
Both markets and governance function well at a small scale because those making the decisions must absorb the consequences of their actions/choices.
In large-scale centralized systems, those at the top of the wealth-power pyramid who wield the greatest influence are typically immune from the consequences of their (self-serving) decisions.
Indeed, the entire point of centralized hierarchies is to buffer top decision-makers from the consequences of their actions and choices.
This ties directly into Nassim Taleb's most recent popularization of the critical role played by participants having "skin in the game," i.e. exposure to the consequences of their actions and choices.
In a small localized group, it's basically impossible for anyone, even those at the top of the local welth-power pyramid, to escape the consequences of extractive activities that disupt the local ecosystem.
For example, should overfishing destroy the local fisheries, even the leaders no longer have access to fish.
Should the leadership pursue a conflict with a neighboring tribe, the leaders are just as likely to be killed or maimed as any participant (and very possibly more likely to be killed/injured, as leaders are naturally high-value targets).
History offers many examples of leadership that suffered the consequences of their poor choices/strategies. In the catastrophic Roman defeat at Cannae, roughly a third of Rome's entire political leadership elite was killed in combat. This is the acme of "skin in the game," a point Taleb makes by noting that our political leadership is free to pursue wars of choice with zero risk of being killed on the battlefield. No wonder it's so "cost-free" for leaders of highly centralized hierarchies to pursue disastrous policies: they evade any of the consequences or blowback.
In a conversation with fellow Peak Prosperity scribe Davefairtex, Dave described the centrality of the reward structure of cheating: approximately 20% of the populace experiences an outsized positive brain-chemistry reward (dopamine release) when they get away with some form of cheating--passing off a lie or deception or successfully concluding a fraud or scam.
A similar percentage of humanity is genetically predisposed to experience outsized brain-chemistry rewards for detecting and revealing cheating.
Dave also noted that human groups (and primate groups including monkeys, chimpanzees, et al.) become very agitated when group standards of fairness are flouted.
Cheating--broadly speaking, what's known as the "free-riding problem," as cheaters get a free ride on the work of everyone who abides by the rules and fulfills their duties-- pays dividends.
Males who father children via a secret tryst with a married woman pass on their genes without having to support their offspring or the mother. Cheaters who reap unearned wealth from the group benefit by slicing off some of the income and wealth of everyone else in the group.
So there are powerful incentives to cheat and equally powerful incentives to ferret out and expose cheaters, lest the group dissolve and everyone is tossed out to face the world (and potentially hostile groups) alone.
This conversation made me realize this is partly why small-scale markets and groups succeed: cheaters must work in a small theater where their actions are more easily observed and exposed. It's therefore much more difficult to get away with systemic cheating in small-scale organizations.
Compare this to the vast centralized hierarchies that are the controlling dynamics of our socio-political-economic system (i.e. our Mode of Production). Cheaters at the top of the wealth-power pyramid hire slick attorneys to evade consequences, or they buy political influence/protection, in effect legalizing cheating by those at the top of the pyramid in systemic ways.
Once we grasp the critical role played by scale, we conclude that centralized hierarchies cannot function effectively because their scale makes it too easy and too rewarding for those at the top of the wealth-power pyramid to cheat and evade consequences.
Only small-scale markets and structures of governance can succeed in the long run because only these small scale systems can sustainably impose "skin in the game"-- consequences, accountability and oversight.
State-issued currency ("money") is the perfection of a centralized system: here is the Venezuelan national currency the bolivar, a once-stable currency obliterated by Venezuela's political-economic elite:



My new book Money and Work Unchained is $9.95 for the Kindle ebook and $20 for the print edition.
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Tuesday, May 15, 2018

U.S. Healthcare Isn't Broken--It's Fixed

Healthcare/sickcare will bankrupt the nation by itself.
If you want to understand why the U.S. healthcare system is bankrupt, financially, morally and politically, then start with this representative anecdote from a U.S. physician. I received this report from correspondent J.F. on the topic of direct advertising of pharmaceutical products to the public (patients).
As background information, pharmaceutical companies were not allowed to advertise directly to consumers (patients) in the good old days. Now, as we all know, half the adverts on TV are for pharmaceutical products, and many of the remaining half are advertising lawsuits relating to pharmaceutical products that harmed or injured the patients who received them (or clamored for them as a result of endless direct-to-consumer adverts).
Here is J.F.'s report:
This morning, I read a report on augmentation of antidepressants. It seems folks who get a little better, but not a lot better on an antidepressant may improve if a drug in the class of second generation antipsychotics is added. Three of these drugs have been tested, with pretty much equivalent benefit - quetiapine, aripiprazole, and brexpiprazole. As the names suggest, the last two are very similar in chemical structure.
- quetianpine and aripiprazole are available in cheap generic for. Brexpiprazole is not, it's sold only as branded Rexulti.
- shortly after reading the piece, I walked past the waiting room TV which was playing an ad urging folks to "ask your doctor about Rexulti".
- lowest costs for a month's supply in my neighborhood, courtesy of goodrx.com:
quetiapine - $6.80
aripiprazole - $22.60
Rexulti - $1,120.20 (!)
- so the ad is urging folks to "ask their doctor" about a drug that is 16,473% more expensive than a similar drug that may work just as well.
Thank you, J.F. There you have it in a nutshell: U.S. Sickcare is organized to maximize profits by any means available, including adverts aimed at patients, adverts aimed at physicians, lobbying to include costly medications in the list of what Medicare pays for, and so on, in an endless profusion of crony-capitalist skims and scams, starting with research that's funded to reach the conclusion the funding pharmaceutical company desires, all the way through masking the real-world consequences of medications.
U.S. healthcare isn't broken, it's fixed--fixed to exploit the many to benefit the few, fixed to maximize profits in a we-win, you-lose system of perverse incentives.
AS I have long held, healthcare/sickcare will bankrupt the nation by itself.Endless wars of choice, unaffordable pensions and rising costs of soaring debt will only speed the arrival of insolvency and systemic collapse.



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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Sunday, May 13, 2018

A Funny Thing Happened on the Way to Market Complacency / Euphoria

Fortunately for Bulls, none of this matters.
A relatively reliable measure of complacency/euphoria in the stock market just hit levels last seen in late January, just before stocks reversed in a massive meltdown, surprising all the complacent/euphoric Bulls.
The measure is the put-call ratio in equities. Since this time is different, and the market is guaranteed to roar to new all-time highs, we can ignore this (of course).
Two of the more reliable technical patterns are falling/rising wedges, also known as descending/ascending wedges or triangles. Ascending wedges are bearish, descending wedges are bullish.
The VIX index, one measure of volatility, has been crushed by the recent euphoria/complacency as participants realize that since this time is different, we don't need no stinkin' hedges. Unsurprisingly, the VIX has traced out a falling wedge:
But a funny thing happened on the way to market complacency/euphoria this year: every "this time is different" manic rally in the S&P 500 (SPX) formed a bearish rising wedge which promptly reversed once the pattern peaked.
Fortunately for Bulls, none of this matters. Fundamentals trump technicals (heh), and since profits are soaring while wages stagnate (funny how that works, isn't it?), higher oil prices mean something or other that's positive (it can't be higher gasoline prices are good, can it? Must be something else), Facebook has recovered from its temporary swoon and the Fed is easing or tightening or doing whatever it's doing, so it's a clean sweep: the fundamentals are all rip-roaring good.
Oh wait a minute--technicals do matter--when they support the Bullish case.The descending trendline from the January highs was just broken to the upside, a clear technical signal that new all-time highs are essentially guaranteed--not later this year, but this month--maybe this week, so buy buy buy, you snooze you lose, don't fight the Fed, etc. (insert your Bullish aphorism of choice).
Even more compelling (if that's even possible), the quatloo-bat guano ratio just flashed a huge buy signal, something that only happens on 1.3% of trading days since 1968, so let me repeat: BUY BUY BUY (repeat your Bullish aphorism of choice).


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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