In 1999, I began saying the tech bubble would eventually spark a recession. Timing was unclear because stock bubbles can blow way bigger than we can imagine. Then the yield curve inverted, and I said recession was certain. I was early in that call, but it happened.
In late 2006, I began highlighting the subprime crisis, and subsequently the yield curve again inverted, necessitating another recession call. Again, I was early, but you see the pattern.
Now let’s fast-forward to today. Here’s what I said last week that drew so much interest.
Peter [Boockvar] made an extraordinarily cogent comment that I’m going to use from now on: “We no longer have business cycles, we have credit cycles.”
For those who don’t know Peter, he is the CIO of Bleakley Advisory Group and editor of the excellent Boock Report. Let’s cut that small but meaty sound bite into pieces.
What do we mean by “business cycle,” exactly? Well, it looks something like this:
Photo: Wikispaces (Creative Commons license)
A growing economy peaks, contracts to a trough (what we call “recession”), recovers to enter prosperity, and hits a higher peak. Then the process repeats. The economy is always in either expansion or contraction.
Economists disagree on the details of all this. Wikipedia has a good overview of the various perspectives, if you want to geek out. The high-level question is why economies must cycle at all. Why can’t we have steady growth all the time? Answers vary. Whatever it is, periodically something derails growth and something else restarts it.
This pattern broke down in the last decade. We had an especially painful contraction followed by an extraordinarily weak expansion. GDP growth should reach 5% in the recovery and prosperity phases, not the 2% we have seen. Peter blames the Federal Reserve’s artificially low interest rates. Here’s how he put it in an April 18 letter to his subscribers.
To me, it is a very simple message being sent. We must understand that we no longer have economic cycles. We have credit cycles that ebb and flow with monetary policy. After all, when the Fed cuts rates to extremes, its only function is to encourage the rest of us to borrow a lot of money and we seem to have been very good at that. Thus, in reverse, when rates are being raised, when liquidity rolls away, it discourages us from taking on more debt. We don’t save enough.
This goes back farther than 2008. The Greenspan Fed pushed rates abnormally low in the late 1990s even though the then-booming economy needed no stimulus. That was in part to provide liquidity to a Y2K-wary public and partly in response to the 1998 market turmoil, but they were slow to withdraw the extra cash. Bernanke was again generous to borrowers in the 2000s, contributing to the...