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Stockman: Wall Street’s Disconnect from Main Street Is Unsustainable

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In a podcast last week, Peter Schiff said rookie Federal Reserve chair Jerome Powell couldn’t be more wrong about the economy. He sees smooth sailing ahead. Peter sees a storm.

Former Reagan Office of Budget Management director David Stockman made a similar observation in a column last week.

What’s ahead is tumult, not smooth. That’s because the disconnect between a flat-lining main street economy and Wall Street’s bubble-ridden financial house of cards is blatantly unstable and unsustainable. Indeed, this fraught condition, which Powell and his Keynesian posse fail to see, will soon give rise to a thundering upheaval triggered by the Fed’s own action.”

As Pres. Trump once acknowledged, the stock market is a big, fat ugly bubble. And Stockman says Wall Street has become completely disconnected from Main Street. Market valuations have now reached 27 times earnings on the S&P 500. The market is also resting “precariously” on $666 billion of debt sitting in margin accounts. Since the pre-crisis peak 10-years ago in Q4 2007, the inflation-adjusted S&P 500 index is up 58%, while the industrial economy has essentially gone nowhere.

Consumer good output is still down 5%. Manufacturing down output is down 2%. Total industrial production, including utilities, is up just 2%. Business equipment output has crept forward by less than 3%. Even inflation-adjusted S&P 500 earnings are up by only 8% per share.

And therein lies the true danger of the Fed’s 30-year long regime of Bubble Finance and the $67 trillion of debt it has piled upon the US economy. To wit, it has completely unmoored Wall Street from the main street economy, meaning that the speculative momentum and internals of the casino are operating in free flight: They will just keep levitating financial asset prices higher until some powerful shock triggers another meltdown of the type experienced during 2008, 2000 and 1987.”

Peter has been saying rising bond yields will likely be the pin that pricks the bubble and causes the debt bomb to blow. Even the modest 3.25% rise in the interest rate on the 10-year many analysts expect would mean a lot of extra money being paid out to service the massive debt. That’s going to be a big drain on the economy, to the extent that we have to pay higher interest to international creditors. But Peter said the situation is even more ominous because interest rates aren’t going to stop at 3.25.

No way! I mean, why would that happen? … In fact, given how much debt we have, and how much debt is going to be marketed, the massive increase in supply would argue for interest rates that are higher than what the historic average is. So, again 6%, 7% doesn’t seem out of the question at all.”

Stockmen made essentially the same point.

We happen to believe strongly that a bond market ‘yield shock’ will be the crash-trigger this time around and for a self-evident reason. The central banks of the world have unleashed a credit monster—-$67 trillion in the US, $40 trillion or more in China and $230 trillion on a global basis—and know they must finally stop the relentless monetization of existing debt and other assets.”

During testimony before Congress last week, Powell hinted that he would like to shrink the Fed’s balance sheet to about $2.5 trillion. In order to reach that goal, the central bank would have to dump upwards of $2 trillion of existing securities on the debt markets. As Stockman put it, “the margin borrowers depicted in the upper reaches of the chart below most definitely do not see it coming, and do not realize that the pivoting Fed is no longer their friend.”

Stockman goes on to break down the labor market, pointing out that despite the headline-grabbing number of new jobs, total labor hours utilized by the US economy have grown at just 0.6% per annum over the last decade.

So, the economy isn’t nearly as solid as Powell and his fellow central planners would have you believe. Meanwhile, they have built the whole financial house on a deck of credit cards. It’s simply not sustainable.

As always, the issue is the catalyst for the crash in the late stages of central bank fostered financial bubbles. And this time it’s truly not hard to see the great bond market “yield shock” coming down the pike. That is to say, when $1.8 trillion of supply—$1.2 trillion new debt from the US treasury and $600 billion of old debt to be dumped by the Fed—hits the bond pits in FY 2019, the markets will definitely clear or perhaps ‘clear-cut’ is a better word.”

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