Monetary Forces Gaining The Upper Hand Equals The "Bailout Bubble"?

It's been our repeated assertion that monetary forces have been dominating the financial markets and this has been generating some spillover effects to the real economy from which the mainstream labels as "greenshoots".

An article from the Wall Street Journal seems to recognize this phenomenon, which they brand as the "BAILOUT Bubble".

chart from the WSJ

Quoting the WSJ, (bold emphasis mine)

``But governments around the world are pumping money into the economy at a frenetic pace. Because businesses can't put trillions of new dollars to work in such a short time, the money is finding its way into financial markets. Some investors have begun speaking of a "bailout bubble" being created in certain markets, and about a "melt-up" in demand fueled by the growing supply of money."

``"All that money that was printed had to go somewhere," says Joachim Fels, co-head of global economics at Morgan Stanley. "It has been pushing up commodity prices and stock prices, starting in emerging markets and then pushing over into developed markets."

``The U.S. government alone has allocated $11.4 trillion to direct and indirect stimulus in the past two years, of which about $2.4 trillion has been spent, according to an estimate by Daniel Clifton, head of policy research at New York's Strategas Research Partners. Most of the money has been pushed out in the past year.

``The money is gushing from direct grants, central-bank lending, tax breaks, guarantees and other items. China has announced plans for $600 billion in direct stimulus spending; Russia, $290 billion; Britain, $147 billion; and Japan, $155 billion, according to Strategas. Those countries and others are spending trillions more indirectly.

``"It is quite easily the biggest combined fiscal stimulus the world has ever seen in modern times," says Jim O'Neill, chief economist at Goldman Sachs. "That liquidity will impact anything that is sensitive to it, ranging from short-term fixed-income securities through stock prices through property prices and into people's personal wealth."

We might add that government direct spending (e.g. infrastructure and etc.), federally insured mortgages, and Federal Reserve purchases of US treasuries and mortgage bonds from overseas investors and central banks as possible alternative channels from which bailout money has been reallocating of risk.

Dr. John Hussman recently wrote taking a different approach, he says, ``the proper way to think of all of these bailouts and stock issues is not that new purchasing power is being created, but that ownership of existing assets and liabilities has changed in a way that reallocates risk from the private sector to the government. There is not a bunch of money "looking for a home." The overall effect of the bailouts has been to put Treasury securities and temporary bank reserves in the hands of the financial companies, in return for preferred stock and temporary repos of commercial mortgage backed securities. Let those corporate securities fail however, and that's when we have a real money creation problem, because the government will have created liabilities that it cannot buy back in using the assets it took in when it created them. That's a huge risk here."

Nevertheless, the WSJ article goes on to say that this isn't likely going to end well.

``The growing liquidity also is creating serious policy challenges. Senior economists, including Federal Reserve Chairman Ben Bernanke in congressional testimony on June 3, have begun warning that the government can't keep piling up debt at current rates without creating severe financial problems.

``In coming years, officials will need to raise taxes, cut spending, or both to mop up the ocean of liquidity they have created. That process could weigh on growth and stifle the market boom...

``If the government fails to mop up the money, the consequence could be even worse: inflation and a collapsing dollar."

``Past liquidity-driven booms haven't ended well. In 1998, the Federal Reserve injected cash into the economy to rescue teetering bond markets. The unintended outcome: Technology stocks soared and then cratered. After the government turned on the spigot in 2001 to stave off deflation, residential real estate surged and then collapsed."

So whether this is about money flows or reallocation of risks or stages of inflationary cycle (the latter view is where I lean on), the end game isn't going to be anywhere tranquil.

Policymakers are only deceiving themselves to believe that surges in stocks and commodities signify as "recovery" or "signs of stabilization". They perhaps know deep down inside that a "policy of bailouts will only increase their number", which means persistent expanded inflation to keep prices at present levels. And their supporters, nonetheless, advocate this.

Yet all these are unsustainable.