Hunt, Triggers and Darjeeling

I’ve never been to India.

But I’d probably like it there, from what I can tell. I know I like their cuisine, at least.

Though keep me out of the big city — that ain’t my cup of Darjeeling.

And when it comes time to marry off my four daughters, I’ll head back to the States. That way, I can avoid having to pay for extravagant — no, completely excessive — gold jewelry and adornments that are part of wedding tradition in India.

(I probably get out of that dowry "obligation" too, right?)

Of course, when I relinquish my seat as governor of the Reserve Bank of India, I’ll head back to the States. You know, to capitalize.

That’s what Raghuram did anyway.

Raghuram Rajan is the former governor of the Reserve Bank of India.

He’s caught my attention several times since his departure last year. That’s because he’s lobbed some significant indictments — albeit not surprising ones — at the artificial stability of the global financial system.

I don’t disagree.

But now that he’s landed in a Professor of Finance role at the University of Chicago, his populist stance on the global financial system has a decent audience.

I enjoy what he says.

Perhaps you do too …

Image credit: The International Monetary Fund

Into the Lions’ Den

Before descending upon the RBI, Mr. Rajan served as Chief Economist at the International Monetary Fund.

In that role, attending the Jackson Hole summit in 2005, he spoke in front of the world’s most-influential central bankers and economists. His warnings stuck out like a sore thumb.

Afterward, he was alleged to have said, "I exaggerate only a bit when I say I felt like an early Christian who had wandered into a convention of half-starved lions."

Best I can tell, he’s walking confidently with the spirit now … not worried about testifying to the truth.

At Jackson Hole in 2005, his warnings about the risks to an unprepared banking system were prescient.

Are they as prophetic today?

Image credit: wikipedia.org

I just read the transcript of an interview Mr. Rajan recently did. Three things he said stood out to me:

1. Adapting to Structural Changes in our Economies

"There is a deep problem of adaptation to the significant forces which are hitting us: Technological change and global integration."

Agreed. But I’m not sure I agree with how he feels we should adapt to global integration. Or that we even should.

I think we should abandon most globalism, keeping only the basic integration that supplements the restoration of local economy.

Easier said than done, I know.

2. Things are Going to Get Worse

"The economic forces that have been playing out over the last couple of decades are probably going to get worse. So, unless we change the structure of our economy and society, we’ll probably risk significantly greater turmoil."

Rajan talked a lot about technological change forcing stop-gap measures to create and sustain growth. But those measures largely are what bred the financial crisis … and what will lead to another installment of financial instability.

Agreed. While Rajan didn’t say it this way, it seems the best way to start shifting the paradigm is for leaders to abandon the "growth mentality."

That will help ease the lingering burden of …

3. Too Much Debt

"But this time the difference was debt. The dot-com bust had some elements of debt too, but very localized in the telecom industry and a few related sectors. Now, there were significant levels of debt across the household sector. People were borrowing against housing with the firm belief that real estate prices never fall across the United States. But then we discovered that none of that was true. House prices did fall and debt proved to be a significant burden."

That’s him comparing the dot-com bubble with the real estate bubble. We could make the same comparison to today’s stock market bubble.

Related story: The Big Borrowing Market Bubble-maker

The stock market bubble is a result of policy pushing investors to take risks in financial markets, rather than the real economy. This bubble, like the last one, is vulnerable to an economic collapse that’s characterized by debt impeding economic growth potential.

Thank you, Mr. Rajan.

With that, I turn to recent comments from Dallas Federal Reserve Governor Robert S. Kaplan …

After sounding an optimistic tone about economic growth and labor market prospects, Mr. Kaplan spoke to the elephant behind the curtain.

Aha.

I knew it.

Or at least I said it. Before. Many times before.

Anyway, I’ll close with the latest from Hoisington Investment Management …

"… The last 10 cycles of tightening all triggered financial crises."

Since I’ve said enough about debt in the last six months, I’ll let Hoisington’s Lacy Hunt have a paragraph of real estate here:

"Total domestic nonfinancial debt, excluding off balance sheet liabilities such as leases and unfunded pension liabilities, surged to a record 254.8% of GDP in 2016, 5.6% greater than in 2009 when Lehman Brothers failed.

"Total debt, which includes domestic nonfinancial, foreign and bank debt, amounted to 372.5% of GDP in 2016, compared with 251.9% of GDP in 2006, the final year of previous tightening cycle, which, in turn, was greater than in any earlier time from 1870 through 2006.

"The situation in the business sector deserves particular scrutiny. Business debt surged to a record 72.6% of GDP in 2016, for the first time eclipsing the prior peak of 70.2% reached in 2009.

"With the business sector so levered, not much room for miscalculation exists. As such, the risk is clearly present that the Fed’s restraint will chase out one or more heavily leveraged players, just as was the case in all the previous tightening cycles since the 1960s."

Hunt used this to support his conclusion that we’ve not seen the secular low in long-term U.S. Treasury rates.

In other words: Interest rates will have to go down soon since the current recovery/expansion is tapped out.

Oh, and don’t forget the Fed’s tightening cycle will trigger a financial crisis. That’s all!

In recent weeks, the discussion about Fed rate hikes has been supplanted by discussions about tax reform, infrastructure spending and war.

May is the next chance for the Fed to make an impact with its rate-hike cycle. It probably is planning to save a rate hike until June. How the market behaves between now and the FOMC meeting in May will determine the rhetoric they use to describe the need for more hikes.

  A rising market will increase the Fed hawkishness.

  A subdued market will keep them sounding more moderate.

The Fed must know the impact its tightening cycle could have on an economy where growth is impeded by debt.

History sure knows.

Brew up a nice pot of Darjeeling — this movie is about to get good.

Do right,
JR Crooks

P.S. Did you know that drinking tea could slash your risk of cognitive decline by 50%? It can help you burn fat and look younger, too.

“JR” specializes in trading commodities, currencies and options. He has spent nearly 10 years analyzing financial markets and writing about global economics. JR honed his trading techniques and global-macro worldview alongside his father, Jack Crooks, at Black Swan Capital. JR also…