Catch 22

Max Fraad Wolf has written an excellent article entitled “Catch 22?”. Here’s an extract:

“The Catch 22 facing the world involves exposure to US debt-driven consumption and dollar denominated assets. The very flight to safety [i.e. the purchase of US Treasury bonds] is dangerous and exacerbates the structural problems that generate it. The present arrangement is rendered more precarious by the increasingly bellicose, unilateralist and protectionist bent of American politics. No one sane and independent wants the present imbalance to persist. However, no one can conceive an adequate replacement for US demand and asset inflation based earnings and income. That is the central Catch 22 and what leaves us weary of short and shallow downdrafts seen curative for this serious structural ailment. Few will have to ask if this is the big rebalancing when it arrives. The drama of rapidly shifting understanding and relative asset price swings will scream out its arrival.”

Stephen Roach has recently written about ‘The Risk Bubble’:

“Ironically, the road to price stability has been more perilous than the authorities envisioned. By ushering in an era of single-digit returns on financial assets at precisely the point when the demographic imperatives of retirement planning require higher returns, the resulting asset-liability mismatch has forced investors much further out on the risk curve than might otherwise have been the case. That tendency was exacerbated by two additional developments — an unusually cheap cost of "carry" (i.e., short-term funding costs) set by overly-accommodative central banks and a growing tendency toward herding by momentum-driven investors. This has resulted in the now-infamous multi-bubble syndrome, as yield-hungry investors have swarmed into one high-yielding asset after another. First equities, then bonds, then spread products (emerging market and credit instruments), then property, and most recently commodities — the excesses of the super-liquidity cycle have created bubble after bubble.

…Yale Professor Robert Shiller has long stressed the tendency of asset bubbles to implode under their own weight (see Irrational Exuberance, second edition, 2005).

…Like it or not, the multi-bubble syndrome has become so advanced that liquidity-fueled investors squeezed long-standing risk premia out of some of the world’s riskiest asset classes. As Shiller stresses, there are plausible stories behind each of these assets — emerging market debt and equities, high-yield bonds, and even commodities — that speak of the proverbial "new era" that rationalizes a re-rating of risk. And yet the time-honored pitfalls of liquidity-driven markets are perfectly capable of triggering amplification mechanisms that can put an unrealistic -- and ultimately unsustainable — price on these stories.”