Tuesday, February 25, 2020

How Many Cases of Covid-19 Will It Take For You to Decide Not to Frequent Public Places?

As empty streets and shelves attest, people taking charge of risk has dire economic consequences.
How many cases of Covid-19 in your community will it take for you to decide not to frequent public places such as cafes, restaurants, theaters, concerts, etc? How many cases in your community will it take for you to decide not to take public transit, Uber/Lyft rides, etc.? How many cases in your community will it take for you to limit going to supermarkets and ask your boss to work at home?
One of the most unexamined aspect of the Covid-19 pandemic is the human psychology of risk assessment and fear. The default human response to novel threats such as the Covid-19 virus is denial and abstraction: it can't happen here, it won't happen to me, it's no big deal, etc.
This careless denial of danger and urgency characterized the official response in China before the epidemic exploded and it characterizes the lackadaisical sloppiness of official response in the U.S.: few facilities have test kits, thousands of people who arrived on U.S. soil on direct flights from Wuhan have not been tested, confirmed carriers have been placed on flights with uninfected people, and the city of Costa Mesa, CA had to file a lawsuit to stop federal agencies from transferring confirmed carriers to dilapidated facilities that are incompatible with thorough quarantine protocols.
This lackadaisical sloppiness didn't hinder the spread of the virus in China and it won't hinder it in the U.S. That means each of us will eventually have to make our own risk assessments and decide to modify our routines and behaviors or not.
Hence the question: what's your red line number? Do you stop going out to public places and gatherings when there's ten confirmed cases in your community, or is your red line number 50 cases? Or is it 100?
For many people, even a handful of cases will be a tremendous shock because they were unrealistically confident that it can't happen here. The realization that the virus is active locally and can be spread by people who don't have any symptoms shatters the comfortable complacency and introduces a chilling reality: what was an abstraction is now real.
Human psychology is exquisitely attuned to risk once it moves from abstraction to reality. Why take a chance unless absolutely necessary? For many people, the first handful of local cases will be enough to cancel all exposure to optional public gatherings: cafes, bistros, theaters, concerts, etc.
Many others will decide to forego public transit, taxis and Uber/Lyft rides because who knows if the previous fare was an asymptomatic carrier?
If you doubt this impulse to over-reaction once abstraction gives way to reality, look at how quickly market shelves are stripped in virus-affected areas. Once we understand what rationalists might declare over-reaction is merely prudence when faced with difficult-to-assess dangers, we realize that there's a bubble not just in the stock market and Big Tech but in complacency.
Once a consequential number of people decide to avoid public places and gatherings, streets become empty and all the businesses that depend on optional public mixing--cafes, bistros, restaurants, theaters, music venues, stadiums, etc. etc. etc.-- dry up and blow away, even if officials maintain their careless denial of danger and urgency.
All the jobs in this vast service sector will suddenly be at risk, along with the survival of thousands of small businesses, many of which do not have the resources to survive weeks, much less months, of a sharp decline in business.
All the official reassurances won't be worth a bucket of warm spit. After being assured the risk of the virus spreading in North America was "low," the arrival of the virus will destroy trust in official assurances. People will awaken to the need to control their own risk factors themselves. And as empty streets and shelves attest, people taking charge of risk has dire economic consequences.
Money and Work Unchained $6.95 (Kindle), $15 (print) Read the first section for free (PDF).


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Monday, February 24, 2020

No, The Fed Will Not "Save the Market"--Here's Why

The greater the excesses, speculative euphoria and moral hazard, the greater the reversal.
A very convenient conviction is rising in the panicked financial netherworld that the Federal Reserve and its fellow dark lords will "save the market" from COVID-19 collapse. They won't. I already explained why in The Fed Has Created a Monster Bubble It Can No Longer Control (February 16, 2020) but it bears repeating.
Contrary to naive expectations, the Fed's primary job isn't inflating stock market and housing bubbles, though punters are forgiven for assuming that, given the Fed has inflated three gargantuan bubbles in a row, each of which burst (1999-2000, 2007-08 and now 2019-2020).
The Fed's real job is protecting the banking/financial sector from a richly deserved and long overdue implosion. Blowing speculative asset bubbles is a two-fer, enabling rapacious, parasitic financiers and banks to profit from debt-serfs borrowing and gambling in rigged casinos (take your pick: student loan casino, housing casino, stock market casino, commodities casino, currency casino, etc.).
Blowing guaranteed-to-burst bubbles also generates a bogus PR cover, the Fed's beloved "wealth effect," an idiots' delight belief that the greater the speculative bubble, the more tax donkeys and debt serfs will spend, spend, spend on defective junk and low-value services they don't need--in essence, speeding up the global supply chain from China et al. to the local landfill, all in service of Corporate America profits.
The Fed's secondary interest is maintaining some measure of control over the financial sector and the real-world economy it ruthlessly exploits. Just as the Fed gets panicky if interest rates start getting away from its control, the Fed also gets nervous when its speculative bubbles get away from it via infinite moral hazard:
When punters no longer care whether the Fed actually intervenes or not, so powerful is their faith in eventual Fed "saves," the Fed has lost control and that's not what the Fed wants.
The Covid-19 pandemic is a godsend to the world's central bank, the Fed. Recall that the Fed has a dual mandate: protecting U.S. financiers and banks and global financiers and banks. The Fed thus has the equivalent of Triffin's Paradox, the dual role of the U.S. dollar as a domestic currency and as a global reserve currency.
The two roles are not always compatible and conflicts may arise, requiring sacrifices to keep the entire overheated machine from coming apart.
To re-establish the essential linkage between punters' speculative greed and its actual interventions, the Fed must let the current euphoric faith in its "guarantee" to rescue infinite greed crash to Earth. As noted earlier, the Fed lords are foolish but not stupid. They understand speculative bubbles always pop, and so the Covid-19 pandemic is just the excuse they needed to let the air out of the current grossly unsustainable bubble.
"Buy-the-dip" punters are placing bets on the belief the Fed can't possibly let the current bubble pop. Oh yes they can and yes they will. All bubbles pop. That leaves the Fed with an unsavory choice: either be viewed as responsible for the bubble bursting or engineer some fall-guy to take the blame and give the Fed cover for its self-serving incompetence.
It's also instructive to note, as many have, that the Fed enters this global recession with very little policy ammo. Interest rates are so near zero already that a couple of rate cuts will do very little good in the real economy. As for buying Treasury bonds, this is also overblown; at the rate U.S. Treasury debt is rising, all the Fed will be doing is sopping up fiscal-deficit debt nobody else wants.
For all the brave bleatings of Fed luminaries about negative-interest rates being the "cure" to all that ails the precarious global economy, Japan and Europe have effectively proven that negative interest rates only further cripple the banking sector while doing essentially nothing to boost spending in the landfill economy.
All negative-interest rates accomplished was further boosting speculative bubbles and wealth inequality, which threatens to destabilize the social order--something the Fed cannot control.
Panicky punters expect the Fed to blow its wad on saving their hides, but what would that leave the Fed for the real recession that's just getting underway? Nothing. Would the Fed lords be so short-sighted and stupid to blow their last ammo just to save speculatively-insane punters from the inevitable bursting of a moral hazard-driven bubble? In a word, no.
As I suggested last week, When Bubbles Pop, Only the First Sellers Escape Being Bagholders (February 21, 2020). There is a great deal of recent history on how bubbles arise and burst that's worth studying. The Covid-19 pandemic promises to be much more consequential than the run-of-the-mill financial excesses of the past 20 years, but we already know one important thing: All bubbles pop.
We also know this: the greater the excesses, speculative euphoria and moral hazard, the greater the reversal.
Money and Work Unchained $6.95 (Kindle), $15 (print) Read the first section for free (PDF).


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Sunday, February 23, 2020

When Will We Admit Covid-19 Is Unstoppable and Global Depression Is Inevitable?

Given the exquisite precariousness of the global financial system and economy, hopes for a brief and mild downturn are wildly unrealistic.
If we asked a panel of epidemiologists to imagine a virus optimized for rapid spread globally and high lethality, they'd likely include these characteristics:
1. Highly contagious, with an R0 of 3 or higher.
2. A novel virus, so there's no immunity via previous exposure.
3. Those carrying the pathogen can infect others while asymptomatic, i.e. having no symptoms, for a prolonged period of time, i.e. 14 to 24 days.
4. Some carriers never become ill and so they have no idea they are infecting others.
5. The virus is extremely lethal to vulnerable subpopulations but not so lethal to the entire populace that it kills its hosts before they can transmit the virus to others.
6. The virus can be spread by multiple pathways, including aerosols (droplets from sneezing/coughing), brief contact (with hotel desk clerks, taxi drivers, etc.) and contact with surfaces (credit cards, faucets, door handles, etc.). Ideally, the virus remains active on surfaces for prolonged periods, i.e. 7+ days.
7. Those infected who recover may catch the virus again, as acquired immunity is not 100%.
8. As a result of this and other features, it's difficult to manufacture a vaccine that will reliably protect against infection.
9. The tests designed to detect the virus are inherently limited, as the virus may be present in tissue that isn't being swabbed.
10. The symptoms of the illness are essentially identical with less contagious and lethal flu types, so people who catch the virus may not know they have the novel pathogen.
As you probably know by now, these are all characteristics of Covid-19, and this is why it is unstoppable. As we now know, millions of people left Wuhan while the epidemic was raging in January, spreading the virus throughout China and the world via hundreds of airline flights to other nations.
As noted here before--no data doesn't mean no virus. Even in the U.S., facilities do not have test kits, for example: No one in Hawaii has been tested for coronavirus as health officials wait for kits from CDC (2/20/20).
The situation in developing nations is similar: few if any test kits, which are not 100% reliable and so multiple tests may be required, and so there is no means to ascertain who is a carrier. No data doesn't mean no virus.
It's impossible to string together a benign narrative that includes these reports:
If we asked a panel of business executives to imagine a global system optimized for vulnerability to external shocks, they'd likely include these characteristics:
1. Long global suppy chains, four, five and six layers deep, so those in the top layers have no idea where parts and components actually come from.
2. Just-in-time deliveries and limited inventories dependent on complex logistics, so any shock quickly disrupts the entire network as key nodes fail.
3. A global supply chain dependent on hundreds of financially marginal factories and suppliers who do not have the means to pay employees for weeks or months while the factory is idle.
4. A global supply chain dependent on hundreds of financially marginal factories with high debts and expenses that will close down and never re-open.
5. A global consumer economy dependent on the permanent expansion of debt.
6. A global financial system with extremely limited capacity to absorb defaults as suppliers and zombie corporations (i.e. companies dependent on ever-greater borrowing to survive) fail.
7. A global economy burdened with overcapacity.
8. A global economy dependent on "the wealth effect" of rising stock and housing markets to fuel spending, so when these bubbles burst spending evaporates.
These are precisely the characteristics of our precarious global economy, dependent on rising debt, vast speculative bubbles, vulnerable supply chains and marginal consumers and producers.
As noted here before, it doesn't take much to break a system dependent on ever-rising debt and speculation. This chart illustrates the dynamic: when debt loads, speculative bets and expenses are all at nosebleed levels, the slightest decline triggers collapse.
Put another way: the global system has been stripped of redundancy and buffers. A little push is all that's needed to send it over the edge.
Given the exquisite precariousness of the global financial system and economy, hopes for a brief and mild downturn are wildly unrealistic. The global economy is falling off a cliff, and calling it a "recession" while debt and speculative excesses collapse is a form of denial.
When debt and speculative excesses collapse, it's a depression, not a recession. If we can't call things by their real name then we guarantee a wider, deeper cataclysm.
Money and Work Unchained $6.95 (Kindle), $15 (print) Read the first section for free (PDF).


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Friday, February 21, 2020

When Bubbles Pop, Only the First Sellers Escape Being Bagholders

Hapless bagholders have two options: buy the dip and be destroyed, or hang on hoping for a reversal and be destroyed.
One often overlooked characteristic of the current stock market bubble is the extremely small exit for sellers trying to avoid becoming hapless bagholders. Bubbles always present small exits because once sentiment turns, buyers vanish and so price goes over the waterfall and crashes on the rocks below (accompanied by the screams of all the punters who reckoned they'd exit at the top).
But modern markets have characteristics which have diminished the exit to a tiny hole in the wall. These include:
1. The dominance of index funds. When shares of the index are sold, every constituent stock gets sold. This triggers cascades of selling that overwhelm "buy the dip" buying.
2. Computers do most of the trading, and the algorithms are set to follow trends with extreme ferocity. Once the trend is "sell," the program selling will self-reinforce the cascade.
3. Central banks have generated a mesmerizing moral-hazard propaganda field that implicitly suggests "we'll never stocks go down again, ever!" Yet the only way central banks can causally intervene is to buy stocks directly in size, i.e. in the trillions of dollars. (Recall U.S. stocks are around $35 trillion, global stock markets about $85 trillion. Yes, buying futures contracts through proxies works in stable markets, but not so much in panic cascades of selling.)
Beneath the illusory stability, modern markets are extremely illiquid, meaning that when the bubble pops and punters/money managers try to sell, there are no buyers at any price.
Liquidity in a crash depends on "buy the dip" bagholders. Once they've been destroyed, there are no more buyers at any price. The "buy the dip" crowd will be wiped out after the first spike higher fails, and then nobody will be left who's willing to catch the falling knife.
It's illuminating to go back to to former Federal Reserve chairman Alan Greenspan's 2014 belated bleatings in Foreign AffairsWhy I Didn't See the Crisis Coming. Greenspan presented one primary reason: the Fed's models failed to accurately account for "tail risk," (otherwise known as things that supposedly happen only rarely but when they do happen, they're a doozy), because guess what--they happen more often than statistical models predict.
"Tail risk" is a fancy way of saying that bagholders willing to buy the dip and be destroyed as the crash gathers momentum are too scarce to stop the waterfall of selling. That leaves everyone with a long position in stocks with a binary choice: either grasp the fleeting advantage of selling out in the first wave of selling--and by the way, there's no advantage unless every single share is sold--or become a hapless bagholder.
Hapless bagholders have two options: buy the dip and be destroyed, or hang on hoping for a reversal and be destroyed. Bubbles always burst, and the confidence that "this isn't a bubble" and "the Fed has our back" are counter-indicators of just how crushing the pop will be: the greater the confidence/euphoria, the greater the crash.
All those drunk on "the Fed has our back" punch might want to ponder the Fed's balance sheet: nine weeks of going nowhere:
12/25/19 $4.165 trillion
1/1/20 $4.173 trillion
1/8/20 $4.149 trillion
1/15/20 $4.175 trillion
1/22/20 $4.145 trillion
1/29/20 $4.151 trillion
2/5/20 $4.166 trillion
2/12/20 $4.182 trillion
2/19/20 $4.171 trillion
Sober up, people. All bubbles pop, and the higher the extreme, the greater the crash. Only the first sellers will escape; everyone who hesitates or "buys the dip" will be crushed at the bottom of the waterfall.
Money and Work Unchained $6.95 (Kindle), $15 (print) Read the first section for free (PDF).


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