Saturday, 09 June 2018 00:20

Nomi Prins: Central Bank-Inspired "Major Credit Squeeze" Will Trigger Next Crisis

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For all the talk about tapering (in both the US and Europe), the Federal Reserve has actually done remarkably little to reduce its balance sheet. And in an interview with Macrovoices Erik Townsend, former Wall Street executive Nomi Prins expands upon some of the same themes she covered in her latest book, "Collu$ion: How Central Bankers Rigged the World".

Nomi

As Prins reminds us early on, the Fed and other central banks have expanded their balance sheets by more than $20 trillion, and despite all the chatter about withdrawing stimulus and letting its balance sheet roll off, the Fed's balance sheet has only shrunk from $4.5 trillion to $4.3 trillion.

Central bankers, Prins argues, like to pat themselves on the back for avoiding what many feared would be runaway inflation resulting from low interest rates and quantitative easing. But of course, they did create inflation, just not the kind that could be reflected by CPI:

But the reason the markets went up and didn’t see through that is not because they believed this wasn’t an act of desperation (I think), but because there was just free money being handed out. It’s sort of like if you’re a drug addict, and you know at some point you’ll be clearheaded if you just get off the drugs and get your act together and move forwards, that’s one way to do it.

Or if someone is supplying you with lots of drugs then it just works and everything else, well then you’ll take them. And this is what happened. The Fed was that sort of supplier of last resort and a lender of last resort of capital for the market.

And by, basically, blowing through interest rates, keeping them at 0% in the US and then globally as well, the cost of capital was so low, the ability of any actual government bond to return anything of any substance was also rendered low as a result.

While it's true that all of the money borrowed at rock bottom interest rates still needs to be repaid (unless you borrowed it from a European bank), the massive credit creation during the QE era could expose investors to additional credit risk as the global central bank stimulus is unwound.

And if we start to get problems, like credit risk that has been inflated since all the QE began would start to come to a head – defaults, delinquencies, emerging markets seeing their capital fly back out because there is just a little bit of a worry that this can’t go on forever – all of that starts to culminate into a major potential credit squeeze which, ultimately, can be the other leg of this crisis.

That consumers and corporations never took the opportunity to deleverage during the QE era means the underlying issues that caused the crisis haven't been remedied. This...

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